unit 6 Flashcards
municipal bond
- a debt security issued by a state, municipality, or other subdivision (school, park, etc) to finance its cap ex (highways, public works, school buildings, etc)
- bough and sold OTC
- only recommend to investors in higher tax brackets
muni bond price (basis quotations)
- usually price and offered for sale on yield to maturity/basis quote
basis point
1/100 of 1%
dollar priced bonds
regular %
dollar bond
muni bond quote rules
- bought and sold on OTC
- MSRB created by Securities acts amendments of 1975 to regulate securities professionals in muni securities
- bona fide (firm) quotes
- workable indication quote
- nominal or subjective quote
- holding a quote
- BW/OW
bona fide (firm) quote
- dealer must be prepared to trade the security at the price specified in the quote and under the conditions and restrictions of the quote.
- must reflect the dealer’s best judgement and have a reasonable relationship to FMV
- may reflect firms inventory and expectation of market direction
- dealers cannot misrepresent a quote made by another dealer
- always subject to change
- dealers can offer to sell securities by providing quotes without owning the bonds - must know where to obtain them
workable indication
reflects a bid price at which a dealer will purchase securities from another dealer.
always can revise bid as market conditions change.
nominal or subject quote
indicates a dealer’s estimate of a security’s market value.
provided for information purposes only.
holding a quote/out firm quote
dealer may quote a bond price that is firm for certain time.
Good for an hour (or half hour) with 5 minute recall period.
bid wanted (BW)/ offer wanted (OW)
dealers soliciting bids/offers from marketplace.
considered a quote request.
term maturity
- all principle matures at a single date in the future.
- quoted by price
- called dollar bonds
- might require a sinking fund
sinking fund
account established by an issuing corporation or muni into which money is deposited regularly so that the issuer has the funds to redeem its bonds, debentures or preferred stock
serial maturity
bonds within an issue mature on different dates according to a predetermined schedule.
quoted on YTM (basis)
the longer the maturity, the higher the yield
ballon maturity
issuer pays part of a bond’s maturity before the final maturity date, but the largest portion is paid at maturity.
a type of serial maturity
legal opinion
- printed on the face of every bond certificate (except if stamped Ex-Legal) is a legal opinion written and signed by the bond counsel
- states legally binding on the issuer and conforming to applicable laws.
- either qualified or unqualified
bond counsel
attorney specializing in tax-exempt bond offerings
qualified opinion
there may be legal uncertainity of which the purchasers should be informed
unqualified opinion
issued by the bond counsel unconditionally
issuers want this.
Ex-legal
- allows bond to meet good delivery requirements without an attached legal opinion
- clearly stated on bond certificate
general obligation (GO) bonds
- back by full faith and credit and taxing power of the muni. Ex- income taxes, license fees, sales tax
- when issued by local govt they are most often backed by ad valorem taxes (property tax)
-issued for capital improvements that benefit the entire community - these projects don’t produce revenue so principal and interest are paid by taxes
- commonly use bond resolution
statutory debt limits
-amount of debt a muni may incur is capped by state/local statues to protect taxpayers from excessive taxes
- can make a bond safer for investors
- public referendum is required to increase and voter approval
- tax limits, limited tax on GOs, overlapping debt
tax limits
- some states limit property taxes to a % of the assessed property value or % increase in a single year.
- expressed as mills $1 per $1000 or $.001
limited tax GOs
- a bond secured by a specific tax.
- greater risk
overlapping debt
- several taxing authorities that draw from the same taxpayers
coterminous debt
bonds issued by different muni authorities that tap the same taxpayers.
2+ taxing agencies that share geographic boundaries and issue debt separately
revenue bonds
- back by revenues generate by muni facility the bond issue finances
- not subject to statutory limits and don’t need voter approval
- may be subject to additional bonds test before subsequent bond issues with equal liens on the project’s revenue may be issued. Tests to ensure the adequacy of the revenue streams to pay both old and new debt
-self supporting debt - have trust resolution or trust indenture
feasibility study
- before issuing a RO, issuer will engage various consultants to prepare a report detailing the economic feasibility and need for the project.
- include est. revenues, details operating, economic and engineering aspects
sources of revenue
- RO bonds pay bondholders only from the specific earnings and net lease payments from: utilities, housing, transportation, education, health, industrial and sports
protective covenants
promises meant to protect the bondholder
trust indenture (or bond resolution)
- empowers the trustee to act on behalf of bondholders
- rate covenant: a promise to maintain rates sufficient to pat expenses and debt service
-maintenance covenant: a promise to maintain the equipment and facilities - insurance covenant: a promise to insure any facility build so bondholders can be paid off if the facility is destroyed/inoperable
-additional bonds test
-sinking fund - catastrophe clause: promise to use insurance proceeds to call bonds and repay bondholders if a facility is destroyed
- flow of fund - priority of disbursing the revenues collected
- books and records covenant: require outside audit and financial reports
- call features: call dates and prices
- these are optional but increase marketability
open ended indenture
allowing further issuance of bonds with the same status and equal claims on asset or revenues if permitted by the bond indenture
closed ended indenture
allowing no further issuance of bonds with an equivalent lien on assets or revenue.
new bonds will be subordinated to the original issue
types of revenue bonds
- industrial development revenue bonds
- lease-rental bonds
- double-barreled bonds
- certificates of participation
- special tax bonds
- special assessment bonds
- new housing authority bonds
- moral obligation bonds
industrial development revenue bonds
- issued to construct facilities or purchase equipment which is then leased to a corporation
- corporation is responsible for payment of principal and interest
- bonds carry corporation’s debt rating
- bonds are subject to the alternative min tax
- industrial development bonds are private-purpose bonds, and the interest income could subject the holder to the alternative minimum tax. Thus, the interest income may not be completely tax free.
- Industrial development revenue bonds (IDRs) are municipal bonds generally backed by a lease or similar obligation entered into by a corporation. That is the backing and defines the risk level. The IRS defines interest received from industrial development revenue bonds (IDRs) as a tax preference item. As such, the income received might be subject to taxation under the alternative minimum tax. This tax usually applies to individuals who are in the higher tax brackets and would be an important determinant when evaluating the suitability of the investment.
lease-rental bonds
- issues bonds to finance office construction or itself or it state or community
-lease payments provide backing for the bond. Lease payments come from funds raised through special taxes or appropriations, the lessor’s revenues or the muni’s general fund
double-barreled bonds
- RO bonds that have GO characteristics
- principal and interest are paid from a specified facility’s earnings.
- bonds are also backed by the taxing power of the state or muni.
- rated and traded as GOs
certificates of participation
- a form of lease revenue bond that permits the investor to participate in a stream of revenue from lease, installment, or loan payments related ti the acquisition of land or construction of specific equipment or facilities by the muni.
- tied to annual appropriation so not legal viewed as muni debt
special tax bonds (designated tax bonds)
- secured by 1+ designated taxes other than ad valorem
special assessment bonds
- issued to finance the construction of public improvements (streets, sidewalks, sewers)
- issuer assess a tax only on the property that benefits
new housing authority bonds (public housing authority bonds/Section 8)
- to develop and improve low income housing
- back by full faith and credit of US govt
-most secure of all muni bonds - backed by rental income and govt makes up any shortfall
moral obligation bonds
if the revenue or tax collection is not enough the state legislature has the authority to appropriate funds to make payments.
if goes into default the only way bondholders can be repaid is through legislative apportionment.
muni notes
- short term securities that generate funds for a muni that expects other revenues soon.
- less than 12 month maturity is common but can be 3 months to 3 years
- interest and principal is paid at maturity, so they are issued at a discount
tax anticipation notes (TANs)
to finance current ops in anticipate of future tax receipts. helps even out cash flows between tax periods
revenue anticipation notes (RANs)
offered periodically to finance current ops in anticipate of future revenues from revenue producing projects or facilities
tax and revenue anticipation notes
combination of TANs and RANs
bond anticipation notes (BANs)
sold as interim financing that will eventually be converted to long term funding through a sale of bonds
tax exempt commercial paper
often used in place of BANs and TANs for up to 270 days - maturities are most often 30, 60 and 90 days