Invesments - Bonds - Fixed Income Securities Flashcards
Bond
A debt obligation (usually long-term) in which the issuer promises to pay a set coupon rate (interest) semi-annually until the issue matures, at which time the principal is repaid
Par Value (Bond)
The principal amount to be paid upon maturity of a bond or other debt instrument; sometimes referred to as the bond’s face value.
Face Value is usually $1000
Nominal Yield (aka Coupon Rate)
The stated rate of interest on a bond
Discount Bond
A bond sells at a discount when the par value is more than the bond’s purchase price.
Premium Bond
A bond sells at a premium when the par value is less than the purchase price.
Credit Rating Agencies
Rate the credit risk of a bond
Standard & Poor’s Moody’s Inv Grade: AAA,AA,A, BBB Aaa,Aa,A,Baa
Speculative: BB and below Ba and below
Grade (Junk bonds) (Junk bonds)
Debenture
A debt obligation backed only by the integrity of the borrower, rather than the collateral
Indenture Agreement
Similar to a Deed of Trust between the issuer and the trustee representing the bond holder. Set for term of the bond
- form of bond
- amount of the issue
- property pledged
- protective covenant, provisions for a sinking fund
- working capital and current ratio
- redemption right to call, put, or convert
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Bond Risk
4 Types:
Credit Risk - issuer cannot make inter and principal payments
D - Default Risk - A creditor can seize the collateral
R - Reinvestment Risk - investor has to reinvest at lower rates
I - Interest Rate Risk - Interest rate go up, bond prices go down
P - Purchase Power Risk - Inflation may lower the purchase power of bond interest risk payments and principal repayment, forcing prices to fall.
U.S. Government Bonds
Longer term debt instruments issued by the U.S. to finance is expenditures.
Treasury Notes and Bonds
Treasury STRIPS
Treasury Inflation Protected Securities (TIPS)
U.S. Savings Bonds (EE, I)
U.S. Government Agency and Sponsored Securities (GNMA, Fannie, Freddie)
Treasury Notes
- Marketable securities
- Term 2,3, 5, 7, and 10 years
- make semi annual coupon payments
- Sold at a discount to Face Value
- Issued from 1000 - 100,000
- low default risk
- has purchase power, reinvestment rate risk, and interest rate risk
Treasury Bonds
- Marketable Securities
- Matures in 10-30 years
- Income subject to Federal Income Tax
- low default risk
- has purchase power, reinvestment rate risk, and interest rate risk
Treasury Strips
AKA
Separate Trading of Registered Interest and Principal Securities
- zero coupon bond
- These are direct obligations with the Federal government.
- discount are treated at taxable income, earned annually.
- Investors hold and trade the interest and principal components fo T-notes, T-bonds, and TIPs as separate securities.
- Process of turning a note or bond into a STRIP involves creating a series of zero coupons sold to investors, where each cashflow on the original note or bond represents a maturity date on the underlying STRIP.
TIPS
Treasury Inflation Protected Securities
- Investor is taxed annually on the interest and the increase in Face Value (principal).
- The increase in FV is phantom income and not collectible until the bond is sold or matures, however is taxed in the year accrued.
- The phantom income or appreciation increases the basis
- Subject to Federal tax.
EE Bonds
- non marketable
- issued and guaranteed by the U.S. Government
- Denominations - 25,50,75,100,200,500,1000,5000,10000
- Issued at Face Value
- Fixed Rate
- year maturity
- Interest can be claimed annually or differed until redemption
- Subject to Federal Income Tax
- Tax Exempt if used to pay qualified education cost (EE Education Bond)
- EE Education bonds must in the parent name and grandparent claiming the grandchild as a dependent.
- UTMAs can invest in EE Bonds, however cannot invest in EE Education Bonds.
