Cheat Sheet Fixed-Income Flashcards
Types of bond covenants
Affirmative (positive) covenants
Affirmative (positive)covenants are what bond issuers must do. Some examples:
- Make interest and principal repayments on time
- Comply will all laws and regulations
- Insure and maintain assets
Types of bond covenants
Negative (restrictive) covenants
Negative (restrictive) covenants are what bond issues must not do. Some examples:
- Restrictions on debt: Limits on maximum acceptable leverage ratios and minimum acceptable interest coverage ratios.
- Negative pledges: No additional debt that is senior to existing debt can be issued.
- Restrictions on shareholder distributions: Restriction on how much money can be spent on dividends and share buy-backs.
- Restrictions on mergers and acquisitions.
Bullet bonds
The entire principal amount of the bond is repaid at maturity.
Amortizing bond (full or partial)
A fully amortized bond is where periodic interest and equal principal repayments are made over the life of the bond, such that the bond is full repaid at maturity.
A partially amortizing bond is one where only a small partial amount of principal is repaid over the bond’s life, with a bigger lump sum balloon payment made at maturity of the bond. In essence, it is a hybrid between a fully amortizing and a bullet bond.
Sinking fund
Issuer repays a specific portion of the principal amount every year throughout the bond’s life or after a specified date. A sinking fund arrangement has a lower credit risk but higher reinvestment risk for investors.
Bonds with contingency provisions
Callable bonds
A callable bond gives the issuer the right to redeem all or part of the bond before maturity.
This embedded option benefits the issuer as it protects the issuer when the interest rates drop (i.e. when it does, issuer can call/redeem the bond, and reissue a new bond at a lower rate).
To compensate investors of a higher reinvestment risk, issuers offer a higher yield for callable bonds.
Bonds with contingency provisions
Putable bonds
A putable bond gives the bondholder the right to sell the bond back to the issuer at a pre-determined price on a specified date(s).
This embedded option benefits the bondholder as it protects the bondholder when the interest rates rise (i.e. when it does, bond price falls, bondholder can sell the bond back to issuer at a pre-determind price, and reinvest their cash at a higher rate).
Convertible bonds
Convertible bonds gives the bondholder the right to exchange the bond for a specified number of common shares in issuing company.
With debt and equity features, convertible bonds provide benefits to both:
Investors as they have the opportunity to convert it into equity and participate in further upsides if share price is rising, yet has downside protection if share prices are falling.
Issuers as they have reduced interest expense since convertible bonds have lower yields, and if the debt is converted, there is no debt to repay. Can be a callable convertible too.
Contingent convertible bonds (CoCos)
Contingent convertible bonds (CoCos) automatically converts to equity upon a pre-specified event.
Banks’ short term funding alternatives
Retail deposits
checking, saving and money market accounts
Banks’ short term funding alternatives
Short term wholesale funds
central bank funds, interbank funds, certificates of deposit (CDs).
Banks’ short term funding alternatives
Repurchase agreements (‘repos’)
Repos are sale and repurchase agreements, a type of collateralized loan.
- Repo: seller is borrowing funds from buyer and providing the security as collateral.
- Reverse repo: buyer is borrowing securities to cover a short position.
- Repo margin or haircut is the % difference in market value of security (collateral) vs. the loan amount. The amount of repo margin depends on quality of collateral, length of repo term, dealer’s credit risk, supply and demand of collateral.
- Repo rate is the annualized interest cost of the loan.
Yield to maturity (YTM)
Yield to maturity (YTM) is the constant discount rate that equates the sum of present value of future cashflows to the current price of the bond.
full price (dirty price)
flat/clean/quoted price
+ Accrued interest
Relationship between bond price, coupon rate, maturity, YTM
Inverse effect
Bond price is inversely related to YTM, the higher the YTM the lower the price, and vice versa.
Relationship between bond price, coupon rate, maturity, YTM
Convexity effect
Bond price is more sensitive to discount rate reduction than discount rate increases.
Relationship between bond price, coupon rate, maturity, YTM
Coupon effect
If all else constant, bonds with lower coupon rates are more sensitive to discount rate changes.
Relationship between bond price, coupon rate, maturity, YTM
Maturity effect
If all else constant, bonds with longer maturity are more sensitive to discount rate changes.
G-spread
Der G-Spread (Government Spread) misst den Renditeaufschlag einer Anleihe gegenüber einer Staatsanleihe vergleichbarer Laufzeit. Es zeigt, wie viel mehr ein Investor im Vergleich zu sicheren Staatsanleihen für das Risiko einer Unternehmens- oder anderen Anleihe verlangt.yield spread of a bond over the benchmark government bond yield
I-spread
Der I-Spread (Interpolated Spread) ist der Renditeaufschlag einer Anleihe gegenüber den Swap-Zinssätzen ähnlicher Laufzeit. Er zeigt die zusätzliche Rendite, die ein Anleger für das Kreditrisiko der Anleihe im Vergleich zu risikofreien Swaps verlangt.
Unterschied zum Z-Spread: Der I-Spread basiert auf einer Punkt-zu-Punkt-Betrachtung der Swap-Kurve, während der Z-Spread alle Cashflows und die gesamte Zero-Coupon-Kurve berücksichtigt.
