Government Debt Flashcards
What is the difference between developed market and emerging market sovereign issuers?
Developed market sovereign issuers are characterized by a strong, stable, well-diversified domestic economy. DM national government budgets primarily comprise consistent, recurrent outlays financed with broad-based individual and business tax cash flows, resulting in stable and transparent fiscal policy. DM fixed-income securities are denominated in a major currency commonly held in reserve by foreign governments. These features allow DM sovereign governments to issue what is often referred to as default-risk-free debt with unconstrained market access across the maturity spectrum.
Emerging market sovereign issuers are usually characterized by higher growth but less stable and less well-diversified economies subject to greater fluctuations over the economic cycle. EMs often depend on a dominant domestic industry or industries, such as commodities, and may involve more state-owned or state-controlled enterprises. Central government budget priorities may involve investments to expand economic and social infrastructure that exceed current domestic tax cash flows, giving rise to external or supranational funding. EM sovereign debt securities are often denominated in a restricted domestic currency, or one with limited convertibility into other currencies due to illiquidity. Currency restrictions may limit foreign investment and constrain access to longer-term maturities in domestic currency.
Sovereign bonds issued in domestic currency are often held mostly by domestic financial institutions and other domestic investors.
Sovereign debt issues include short-term securities such as Treasury bills, medium- and long-term securities often known as Treasury notes and bonds.
A government’s choice of debt maturity is irrelevant in determining the present value of future tax cash flows.
Issuance of sovereign debt usually takes the form of a public auction led by the National Treasury or finance ministry. Once a government debt auction is announced, prospective investors submit competitive or non-competitive bids. A competitive bidder specifies an acceptable price and number of securities to be purchased. If the price determined at auction is above the bid, a competitive bidder will not be offered any securities. In contrast, a non-competitive bidder agrees to accept the price determined at auction and always receives securities.
A competitive bid process is either a single-price auction or multiple-price auction. In both cases, the issuer ranks bids by prices, choosing bids from highest to lowest until the desired issuance amount is reached. Under a single-price auction, all winning bidders pay the same price and receive the same coupon rate for the bonds regardless of their bid. In contrast, a multiple-price auction process generates different prices among bidders for the same bond issue. The single-price auction process may result in a lower cost of funds and broader distribution among investors, while multiple-price auctions may result in a narrower distribution of large bids because investors must accept bonds at their bid price.
What are the four phases of a single-price auction?
- The auction is announced by the government debt management office, which includes information about the bond issue, such as the amount and type of securities being offered, the auction and issue dates, the maturity date of the bond, and bidding times.
- Dealers, institutional investors, and individuals make competitive or non-competitive bids.
- All non-competitive bids are accepted while competitive bids are ranked starting at the lowest yield (or highest bond price). The highest yield that fills the offering amount, counting from the bottom, is the ‘cut off’. All securities are sold for a single price, using this stop yield. Competitive bidders who bid higher than this yield do not purchase any securities.
- Securities are delivered to the non-competitive and winning competitive bidders in exchange for proceeds.
What are on-the-run securities?
The most recently issued sovereign debt securities that are used for benchmark yield analyses because they are more liquid than previously issued off-the-run securities, which trade infrequently.
Government agencies are quasi-government entities that issue debt in order to fund the government-sponsored provision of specific public goods or services based on sovereign or local law.
What are GO bonds?
General obligation bonds used to fund public goods and services in the non-sovereign’s limited jurisdiction
What are revenue bonds?
Issued for specific project financing. Usually involve longer-dated funding, the maturity of which often matches the expected life of matching project cash flows
