Chapter 20 Flashcards
Government Debt Securities
- Government of Canada fixed coupon/T-bills/real return bonds
- fed government security issues
- provincial t-bills or marketable bonds
- municipal
Non-Government Debt Issues
- corporations
- asset backed securities
- foreign corporations and governments
Eurobonds
issued in foreign markets and are denominated in currencies other than those of the markets in which they are issued
Zero Coupon Bonds/Strip Bonds
no periodic coupon payments, interest compounds over time and is paid at maturity
Return is treated as regular interest income, not capital gain and investor must include all notional interest that accrued each year up to the anniversary date
Call feature
issuer has the right to buy back the issue at specified times before the final maturity date
Conversion option
allows the owner of the security to convert the debt obligation to another type of security (another debt security (exchangeable bond) or common shares (convertible bond))
Ranking of corporate liabilities:
- First mortgage liabilities and asset backed securities
- Secured debt
- Unsecured debentures
- Capital securities
- Preferred shares
- Common shares
T-Bills
Shortest term marketable debt instrument issued by governments
Bankers Acceptance
Commercial draft drawn by a borrower for payment on a specified date and guaranteed at maturity by the borrowers bank (1 year or less)
Commercial Paper
Unsecured promissory note issued by a corporation or backed by a pool of underlying financial assets in ABS form (up to one year)
Debentures
legal contract with a claim to residual assets in case of bankruptcy
Real Return Bonds
Resembles a conventional bond but coupon payments and principal repayment are adjusted for inflation
Mortgage Backed Securities
Investment that represents ownership of the cash flows from a group of mortgages (usually 3-5 years and payments received on the 15th)
Two NHA MBS Types:
Open NHA MBS: clauses that permit the mortgagors to make early principal prepayments
Closed NHA MBS: no early principal payments
Commercial MBS
The underlying mortgages typically consist of several properties across Canada, with full disclosure available in the prospectus for each issue
Asset Backed Securities
Debt securities secured by a pool of financial assets
Issuer Extendible Notes
Debt instruments for which the issuer has the right at certain points (normally the anniversary date of issue) either to allow the bond to mature or to extend the maturity
Capital Securities
Subordinated debentures that rank below all other indebtness of the issuer, but above that of all equity stakeholders
Risks of Debt Securities: Credit Risk
Issuers ability to make timely payments of interest and principal
Risks of Debt Securities: Interest Rate Risk
Interest rate risk is a risk for debt security’s not held until maturity since the price will change based on interest rates
Risks of Debt Securities: Reinvestment Risk
Reinvestment risk is the risk that an investor cannot invest the coupon income at the bond’s yield to maturity so they will be forced to accept a lower yield
Risks of Debt Securities: Timing Risk
Call option or prepayment option are disadvantages to the investor because CF is not certain
Risks of Debt Securities: Yield curve Risk
Risk that changes in the shape of the yield curve will cause debt instruments of different maturity dates to change in value at different rates than originally expected
Risks of Debt Securities: Marketability Risk
Marketability risk concerns the ease with which a debt security can be sold at or near its true value prior to maturity
Risks of Debt Securities: Sector Risk
Debt securities in different sectors of the market respond differently to economic, financial, environmental, or interest rate changes relative to other sectors
On-the-run instruments
are known as benchmarks and are more liquid issues
Off the Run issues
not traded as frequently as the benchmarks and are therefore less liquid
Price discovery
the pricing and placement of new issues in the primary market
How does a cost center operate?
the retail trading desk is not set up to make profits in the market. The cost of maintaining a presence on the institutional trading floor is covered by the advisors’ commissions and fees withheld by the firm
How does a profit center operate?
the retail desk buys inventory and offers it out with the intent of earning a profit so the trades cover its operating costs
Three Shapes of Yield Curve:
- normal: short term interest rates are lower than long term
- flat: short term interest rates are the same or close to long term
- inverted: short term interest rates are greater than long term
Yield Curve Parallel Shift
occurs when yield to all maturities move up or down by the same, or nearly the same amount
Yield Curve Twist
occurs when yields toward one end of the yield curve move up or down by more than the other end
Yield Curve Hump
occurs when the yield at a certain maturity moves up or down independently or in a greater amount than yields at all other maturities (rare)