Government Bonds Flashcards
What are gilts
Fully securitised and registered UK gov sterling bonds
Issued by DMO on behalf of HM treasury
Security = low risk / safe / UK never defaulted
Mature market instruments
Traded on Listed REI and OTC
Suitable for private investors seeking low risks or institutional to match known future liabilities (pension funds)
Investor = creditor and Gov = debtor
Types of gilts
Conventional - coupons and principal amounts fixed
Index linked - coupons and principal sum linked to index/ inflation
Participants of Gilts
DMO
- agency of HMRC
- role to manage debt of gov
- objective to reduce cost of financing debt
- issuer of gilts in pri and sec markets/ controls issue and ensure market is liquid and solvent
- orderly and regulated markets and investor protection (mandate)
- controls dealer status, entry and exit of GEMMS and holds bonds itself to manage market
GEMMs
- primary market dealers/ market makers create place for buying and selling / set prices
- registered on RIE and authorised by FCA or under EEA passport
- Barclays, DB, Citigroup
- provide market intelligence to DMO, transfer to investors and provide daily prices
- pri market only bid through auctions (investors go through GEMMS) and sec market DMO deals directly with GEMMs
Inter Dealer Brokers (IDBs)
- broking firms endorsed by DMO but deal with GEMMs
- intermediates provide anonymous trading
- all info retained by GEMM and not distributed to public
- IDB not permitted to offer securities outside market and take principal positions in own account (unless matched system)
Purchase and sale of gilts
Fully tradeable securities
Prices fluctuate in market (int rates, S/D, inflation)
80% sale of gilts by pre announced auctions
Other sales include offering syndicates and mini tenders to enhance sale of long dated gilts
Post Auction Opening Facility provides successful bidders with option to purchase additional 10% @ strike price or agreed average
Electronic bidding
Outline methods of issuing
DMO auctions
1) investors bid directly through GEMMs who deal with DMO. Direct bidding links via Bloomberg system and telephone. Allocations to successful bidders @ bid price
2) of investors on approved official list of investors with DMO and apply directly through filling out an application form and apply
Different names of gilts represent departments issued from (Annuities, Treasury, Exchequer)
-since 05/06 all new gilts issued as treasury
Outline methods of selling
Original sellers which to sell through intermediaries which include stockbroker, banks, Computershare (DMO sale service provider)
Computershare holds and maintains ownership register for DMO
Rationale for issuing
1) Central Gov Net Cash Requirement is the diff in gov expenditure and gov income
2) annual repayment of maturing gilts (cycle of paying back and issuing new)
1998 market £71 bullion - 2014 =£1437 billion
Outlines vast gov deficit / gov trying to reduce by fiscal methods
Coupon payments represent cash outflow so gov must maintain high credit rating so can issue new
Classification of Gilts
Conventional (largest part of portfolio)
- fixed coupons and repayment of principal @ maturity
- safe investment
- £100 Nominal amount / £1000 purchased and traded at premium of discount
Index Linked
- coupons and principal linked to inflation/ ensure Investors return above inflation throughout duration
- small market as investors hold till maturity
- adjusted to take into acc accured inflation since issue (able to purchase same amount g/s with capital as could have at issue)
- traded clean prices
- coupons based on uplifted principal/ reflect rate of gov contrasted to borrowing rate therefore lower int & yield
Gilt maturities (classified according till time from purchase to redemption) -shorts <7 Years, mediums 7-15years? Longs >15years
Double dated gilts
- gilts have two repeat ion dates/ flexible option for gov to redeem if favourable
- redeemed in part or full but must provide 3months notice to London gazette
- aug 2014 none o/s
Undated gilts
- no redemption date
- irredeemable / perceptual
- gov had option to redeem @ any time if wish to do so
- oldest issued 1853
- £1 m nominal o/s (8 issues)
Rump gilts
- o/s nominal amount is small
- GEMMs not required to make Market out of them, but DMO post bid prices if requested by holder
- 7/8 o/s amounts = £654m
Gilt yields
Yield - return on a bond / income generated on annual basis expressed as % of purchase price
Flat Yield (coupon rate) =coupon rate / bond NV x 100%
Interest yield (running yield) =annual gross coupon / purchase price x100%
Gross Redemption Yield (GRY - yield till maturity)
=interest + or - (capital or loss / no years till maturity)
Work out IY and then consider profit or loss made / no years till redemption
Total yield on a bond incl coupon and final payment (allowing losses and gain over life of bond)
Loss = GRY < IY Gain = GRY > IY
Outline assumptions of GRY
- total return on gilt if held to maturity
- no adjustments for tax liabilities
- dealing costs incurred not considered
- payments made promptly and reinvested at same rate
Outline how gilts priced
Price of gilts split into two compartments; capital amount and accured int since last coupon payment
Coupons paid semi annually therefore int accures daily and requires payment next coupon date
Clean price = assumes no accured int/ quote in press
Dirty price = assumes accured int/ if investor buys gilt after payment date / pays clean price + accrued int since last coupon payment
Ex Dividend = assumes no accured dividend
Cum Dividend = assumes accured Dividend about to be paid (entitled int previous 6months)
Outline the rules regarding purchasing and selling gilts period XD date
Cut off date when gilt becomes ex dividend (XD) to ensure registrar allows coupon payment to entitled party
7 days prior next coupon date (war loans 10days)
If investor purchases on or after XD coupon paid to previous holder - purchaser not entitled
Seller of the bond within this period receives all future coupon but pays portion back by recieveing less for sale (lower in market)
If gilt purchased before XD entitled to accured int rewarded in lieu for intervening period
What are Gilt STRIPS
The gilt Separate Trading of Registered Interest and Principal Securities
- known as gilt strip market
Gilts are strippable / broken down into two compartments principal and coupons / both elements can be traded separately
These are conventional fixed gilts
All new issues of conventional gilts are strippable
2 series; those that pay coupons June and December and those pay March and September
Outline taxation and settlement of gilts
Settlement
- electronic settlement system CREST
- ownered by Euroclear
- dematerialised form
- settlement T+1 (special T+3)
Taxation
- coupons paid gross (without tax deducted therefore good for non taxpayers)
- coupons taxable (declare on tax return)
- possible tax deducted @ source by application to registry/Computershare
- profit/ loss on disposal of gilt not taxable
Additional points of gilts
No stamp duty
Type of investor (risk adverse/ those require guaranteed return and known/ steady source of income - retired)
Buy and hold strategy provides for absolute return of capital and regular income flows
Coupon set at time of issue (won’t fluctuate with market rates - fixed)
No gov penalty for selling gilts prior redemption/ can suffer negative charges on int rates
