Issuance Trading and Funding

Question 1

Credit risk

Answer 1

• risk of loss if the issuer fails to make timely payments of interest and principal as they come due

Question 2

Bonds can be classified by

Answer 2

• classification by type of issuer
• classification by credit quality
• classification by maturity
• classification by currency denomination
• classification by type of coupon
• classification by geography
• other classifications: tax-exempt, inflation linked

Question 3

Classification by maturity

Answer 3

• classified by the original maturity of the bond when issued
• money market security: issued with a maturity at issuance < 1 yr (t bills)
• capital market securities: original maturity is > 1 yr

Question 4

Primary Bond Markets

Answer 4

• public offerings (underwritten offerings, best effort, shelf registration, auctions, and private placement

Question 5

Secondary Bond Markets

Answer 5

• traded through dealer markets
• most bond trading happens in the OTC markets

settlement:
- t+1 for govt and quasi govt bonds
- t+3 for corporate bonds

Question 6

On-the-run

Answer 6

• the most recently issued sovereign securities that trade frequently
• aka the benchmark
• more liquid

Question 7

Off-the-run

Answer 7

• were issued some time ago

- less liquid

Question 8

Sovereign Bonds

Answer 8

• issued by national governments for fiscal reasons
• on-the-run / off-the-run
• not backed by collateral: taxing authority
• local currency bonds usually have higher credit rating than foreign currency bonds

Question 9

Non-sovereign bonds

Answer 9

• issued by the local governments
• states, provinces, cities
• higher credit risk than sovereign bonds
• backed by taxing authority or cash flow from project

Question 10

Quasi-government bonds

Answer 10

• “agency” bonds
• non-government entities, but usually backed by the govt
• fannie mae, freddie mac
• low credit risk

Question 11

Supernational bonds

Answer 11

• issued by international organizations

- World Bank, IMF, EIB, ADB

Question 12

Commercial paper

Answer 12

• issued for a short period (overnight to 270 days)
• corporate equivalent of a T-bill
• credit risk and liquidity risk varies from entity to entity
• rolling over the paper and rollover risk
• interest on a discount basis (interest is subtracted from the par value at issuance)
• Settlement: t+0
• can be sold to another party

Question 13

Corporate Debt: notes v bonds

Answer 13

Orginal maturity:

• less than or equal to 12 years: “notes”
• greater than 12 years: bonds
• can be issued in any interest rate type

Principal repayment structures:

• serial maturity
• term maturity
• sinking fund

Question 14

A floating-rate bond is an example of a _____ ______ whose coupon rate adjusts periodically to a pre-defined formula

Answer 14

a participation instrument: allows investors to participate in the return of an underlying instrument

Question 15

Inverse floater coupon rate formula:

Answer 15

= C - (L * R)

C: the maximum coupon rate reached if the reference rate is equal to zero
L: the coupon leverage
R: the reference rate on the reset rate

*inverse floaters with a coupon leverage rate greater than 1 are known as “leveraged inverse floaters”

Inverse floaters with a coupon leverage rate more than 0 but less than 1 are known as “deleveraged inverse floaters”

Question 16

Non-negotiable CD

Answer 16

• the interest and deposit are paid at maturity

- there is a penalty if the depositor withdraws funds before maturity

Question 17

Negotiable CD

Answer 17

• depositors are allowed to sell the deposits before maturity

Question 18

REPO

Answer 18

• an agreement between two parties where the seller sells a security with a commitment to buy the same security back from the purchaser at an agreed-upon price at a future date.
• if the collateral is low/scarce supply, the repo rate is lower
• both the parties in a repo agreement face the risk of default from the counterparty , but lender has the greater risk
• repo and reverse repo are not considered wholesale funds

Question 19

Non-sovereign bonds usually trade at a _____ yield and ______ price than sovereign bonds with similar characterics

Answer 19

• non-sovereign bonds have a higher credit risk than sovereign bonds and therefore trade at a higher yield and lower price than sovereign bonds.

Question 20

Principal repayment structures:

Answer 20

serial maturity
- the principal is repaid in parts, not a lump sum at maturity
term maturity
- the entire principal is paid upon maturity
- caries more credit risk
sinking fund
- funds are set aside to retire specific amounts of principal each year