International Bond Markets

Question 1

What are the basics of bonds?

Answer 1

• bonds are considered to be safer investments than stocks
• return on safe government bonds is proxy for risk free rate
• this is a common way to rise funds for both companies and governments

Question 2

What are the characteristics of plain vanilla bonds?

Answer 2

• tradable IOU
• par/face/nominal value = 1000
• coupon interest rate on par value
• maturity date
• market interest rate
• market value

Question 3

If the interest rate stays equal to the coupon rate throughout the years, what happens with the bond price?

Answer 3

It stays at face value.

Question 4

What happens with the bond price as we approach the maturity date?

Answer 4

It goes closer and closer to the face value, because on the end day the bond should be 1000.

Question 5

How do we determine the market bond price?

Answer 5

PV of all expected CFs

Question 6

What is the market rate equal to?

Answer 6

Yield to Maturity

Question 7

What happens with the bond price, when the market rate goes up?

Answer 7

Bond price goes down
(the price is lower, because this investment is no longer interesting for me, I can make a higher return on the market)

Question 8

What happens with the bond price, when the market rate goes down?

Answer 8

Bond prices go up.

Question 9

What is the relationship between the market rate and the time to maturity?

Answer 9

The longer the remaining period to maturity, the bigger impact on market price.

Question 10

How are bond prices and interest rates related?

Answer 10

Negatively

Question 11

Modified duration (interest rate sensitivity)

Answer 11

%△bond price = -D x %△market interest rate
(bond price - % change;
market rate - % point)

Question 12

Bond auctions

Answer 12

• especially gov. bonds are issued through auctions
• bids determine the issue price
• bid price depends on required market rate of investors
• their required rate can be =, <, > than coupon rate
• as a company raising capital you always end up repaying the nominal value, but when you play with the coupon rate you can actually drive prices up and rise more money

Question 13

What is the relationship between coupon and market rate in a new issue?

Answer 13

coupon > market rate => bid price > par
coupon < market rate => bid price < par

Question 14

What is the relationship between coupon and market rate in bonds already on the market?

Answer 14

coupon > market rate => market price > par
coupon < market rate => market price < par

Question 15

Bonds in perpetuity

Answer 15

If the bond pays perpetual cash flows, the interest rate sensitivity is highest.

Question 16

When is a bond more sensitive to interest rates?

Answer 16

The longer the period, the more sensitive the bond, because more cash flows are going to be affected.

Question 17

What are the characteristics of deep discount bonds?

Answer 17

Zero coupon bonds
- pays no interest between issue & maturity
- issued below par, redeemed at par

Question 18

What are the characteristics of callable bonds?

Answer 18

• allows issuer to pay back before the maturity date at pre-stated call price
• generally call price > par value
• bonds will only be called when call price < market price
• YTM callable bond > YTM non-callable bond

Question 19

Why do we call bonds only when call price < market price?

Answer 19

Because if the market price is lower I can just buy back the bonds from the market for cheaper

Question 20

What is the achieved yield?

Answer 20

• IRR
• Yield that investors earn when selling before maturity
• Yield that equals investment to realized gains

Question 21

What are the risks associated with bonds?

Answer 21

1. risk of default - creates pressure => bond price goes down
2. risk of market place fluctuations due to market interest rate changes