Characteristics of Bonds

Question 1

Who are the primary issuers of bonds?

Answer 1

1) Corporations
2) FIGs
3) Sovereigns
4) Governments

Question 2

Who are the primary investors in bonds?

Answer 2

1) Retail Clients
2) Institutions (FIGs, Pension Funds)
3) Central Banks

Question 3

Name 6 different ways a bond can redeem?

Answer 3

1) Single-Dated
2) Double-Dated
3) Callable
4) Puttable
5) Irredeemable
6) Convertible

Double-dated means the bond can be called between two set dates. Gilts can be issued in this format.

Question 4

What are the DMO classifications for bond maturities?

Answer 4

Shorts - up to 7 years
Mediums - between 7 & 15
Longs >15yrs

Question 5

What are the different types of coupons?

Answer 5

1) Fixed (straights)
2) Floating (Linkers)
3) Step-up / down
4) Zeros

Question 6

What is meant by a bond with no “deflation floor”

Answer 6

A linker who’s final redemption amount can be less than £100.

Question 7

What is a spread?

Answer 7

the difference between theyield available on one instrument and the yield available on another with similar maturity.

Can also be calculated against benchmarks: SONIA, SOFR etc.

Question 8

What is a covenant?

Answer 8

A condition that protects a bond holder

The upgrading of debt to have equal quality is known as Pari Passu

Question 9

What does the covenant: Limiting further debt and priority, do?

Answer 9

• Limits the issuance of further debt with higher priority either by outright prohibiting, or by upgrading existing debt to the new, higher, priority

Question 10

What does the covenant: Restricting payment of dividends, do?

Answer 10

Excessive dividends can negatively effect a bonds value - by restricting the payment of dividends on a basis of earnings or cash, this can be avoided.

Question 11

What does the covenant: Restricting sale of assets, do?

Answer 11

To prevent the value of a bond falling due to the issuer selling assets - this covenant can prohibit the sale of assets unless they are reinvested into fixed assets or pay off debt.

Question 12

What is Sukuk?

Answer 12

Islamic finance compliant bonds e.g. Do not charge Riba

Includes Perpetual and Convertible Sukuk

Question 13

How does Ijarah work?

Answer 13

1) SPV Setup
2) SPV sell Sukuk to investors
3) SPV purchases asset from company
4) SPV leases asset back to company
5) Lease payments distributed to investors
6) At maturity principal is returned

Question 14

How does Salam work?

Answer 14

Salam is similar to a future except:
Agreement to deliver a good in future for payment today

Not tradeable, so it is a rare form of financing

Question 15

What is a green bond?

Answer 15

Green bond:
1) Used to finance “green” projects
2) Higher transaction costs
3) Lack of standardisation
4) Potential for greenwashing
5) Governed by ICMA Green Bond Principles (GBP)

GBP are voluntary process guidelines that recommend transparency and disclosure,
and promote integrity in the development of the green bond market, by clarifying the key components
involved in launching a credible green bond.

Question 16

What is a sustainability bond?

Answer 16

A bond used to finance green & social projects
- SBG (sustainability bond guidelines)

Question 17

What is a social bond?

Answer 17

A social bond is a form of funding for social projects
e.g Healthcare or infrastrucure

Governed by ICMA SBP (social bond principles)

Question 18

What is a sustainability linked bond?

Answer 18

A bond where the issuer has set sustainability targets or objectives to hit

1) Coupon can step up / down
2) Funding can be used for anything
3) Governed by SLBP

Question 19

What is a blue bond?

Answer 19

Similar to a green bond but the financing is used for “ocean” related projects.

Question 20

What is a social impact bond?

Answer 20

A social impact bond differs in structure to a normal bond:
Investors receice payouts based upon certain criteria being met
Pay for success financing
In terms of risk, more like equity or a structured product

Question 21

What are the 5 major influences on a bonds price?

Answer 21

1) Interest Rates
2) Inflation
3) Issuer Specifics (e.g rating)
4) Liquidity
5) FX Rates

Question 22

What does modified duration show?

Answer 22

The change in price of a bond resulting from a 1% change in yield.

1) Illustrates how bond prices and yields move in opposite direction

Question 23

What does duration show?

Answer 23

The weighted average of the PV of a bond’s payments, expressed in years.
Effective Maturity of a bond
Longer Duration = more sensitive to interest rate changes
Low (yield & coupon) & Long (maturity) = higher duration
Measure of Risk of holding the bond

Question 24

What is the repo market and what does it allow?

(Govt Bonds)

Answer 24

A government bond repo is a means of borrowing, using a government bond as a security

Repo markets allow for two way prices to be made in gilts. Brokers / Dealers can quote two way prices as they can borrow bonds temporarily and as such will always be able to deliver the gilts.

Effectively provides liquidity for the market

Question 25

What are stock borrowing and lending intermediaries?

Answer 25

They pool large blocks of securities from institutional investors.
They then lend these securities out to borrowers looking to cover a short position and split the fee between SBLI and the lender.

There has been minimal activity since 1996 (introduction of the repo market)

Question 26

How quick do UK Govt Bonds Settle?

Answer 26

T+1 via Crest

Question 27

Name 6 features of crest:

Answer 27

1) Bank of England Clearing House
2) Allows assets to be held in dematerialised form
3) Clears and settles trades
4) Provides electronic trade confirmation
5) Acts as Custodian
6) Collects SDRT on shares settled electronically.