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Understanding Bond Features and Market Dynamics

This comprehensive overview details the basic features and characteristics of bonds, including periodic interest payments, principal repayment at maturity, and different bond types based on maturity (money market, notes, and bonds). It explains intrinsic features such as coupon rates, maturity, principal value, and ownership types (bearer vs. registered). Additionally, the text covers various types of bond issues, callable and convertible bonds, and provides insights into bond market quotes, yields, and taxable equivalent yields.

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Understanding Bond Features and Market Dynamics

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  1. Basic Features of a Bond • Pay a fixed amount of interest periodically to the holder of record • Repay a fixed amount of principal at the date of maturity • Bond market is divided by maturity • Money Market - short-term issues that mature within one year • Notes - intermediate-term issues that mature between one and ten years • Bonds - long-term obligations with maturity greater than ten years

  2. Bond Characteristics • Intrinsic features • Coupon - yield (interest income) • Maturity - term or serial (municipalities) • Principal value - different from market value • Type of ownership - bearer or registered • Types of Issues • Secured (senior) bonds (backed by asset) • Unsecured bonds (debentures) • Subordinated (junior) debentures

  3. Bond Characteristics • Indenture provisions • Features affecting a bond’s maturity • Callable (call premium): repurchase the bond at a specified call price • Convertible: bondholders have option to exchange each bond for a specified number of shares of common stock. • Put provision (putable bonds): bondholders have the option to retire the bond.

  4. Rates of Return on Bonds where: HPRi,t = the holding period for bond i during the period t Pi,t+1 = the market price of bond i at the end of period t Pi,t = the market price of bond i at the beginning of period t Inti,t = the interest payments on bond i during period t

  5. The Global Bond-Market Structure • Participating issuers • 1. Federal governments • 2. Agencies of the federal government • 3. State and local political subdivisions (municipalities): Convert the tax-free yield of a municipal bond selling close to par to an equivalent taxable yield (ETY) • 4. Corporations • 5. International issues • Foreign bonds • Eurobonds

  6. Equivalent Taxable Yield Where: i = coupon rate of the municipal obligations T = marginal tax rate of the investor

  7. Obtaining Information on Bonds • Less emphasis on fundamental analysis • Most bond investors rely on rating agencies for credit analysis • Market and economic conditions • Intrinsic bond features

  8. Sources of Bond Quotes • Bank and Quotation Record • The Blue List of Current Municipal Offerings • Wall Street Journal • Barron’s

  9. Interpreting Bond Quotes • Quoted on basis of yield or price • Price quotes are percentage of par • 98 1/2 is not $98.50 but 98.5% of par • A municipal $5,000 bond quoted at 98 1/2 would be $4,925

  10. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4

  11. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4 Issued by AT&T

  12. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/822 7.7 52 1053/8 + 1/4 Issued by AT&T 8.125% coupon rate

  13. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4 Issued by AT&T 8.125% coupon rate matures in 2022

  14. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4 Issued by AT&T 8.125% coupon rate matures in 2022 Current yield = coupon/market price = 7.7%

  15. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4 Issued by AT&T 52 of these bonds traded that day 8.125% coupon rate matures in 2022 Current yield = coupon/market price = 7.7%

  16. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8+ 1/4 Issued by AT&T 52 of these bonds traded that day 8.125% coupon rate matures in 2022 Current yield = coupon/market price = 7.7% The closing price was 105 3/8% of par

  17. Corporate Bond Quotes Cur Net Bonds Yld Vol Close Chg ATT 81/8 22 7.7 52 1053/8 + 1/4 Issued by AT&T 52 of these bonds traded that day 8.125% coupon rate matures in 2022 Current yield = coupon/market price = 7.7% The closing price was 105 3/8% of par which was up 1/4 from the prior day

  18. Corporate Bond Quotes • Notations • “cv” = convertible • “zr” = zero coupon • “dc” = deep discount (at time of issue) • Accrued interest must be added to price quoted (the prorated share of the upcoming semiannual coupon)

  19. Treasury and Agency Bond Quotes GOVT. BONDS & NOTES Maturity Ask Rate Mo/Yr Bid Asked Chg. Yld. 55/8 Dec 99n 100:08 100:10 …. 5.04

  20. Treasury and Agency Bond Quotes GOVT. BONDS & NOTES Maturity Ask Rate Mo/Yr Bid Asked Chg. Yld. 55/8 Dec 99n 100:08 100:10 …. 5.04 Prices are in 32nds usually with a very small spread between bid and ask

  21. Practice Questions • 1. An investor in the 28% tax bracket is trying to decide which of two bonds to choose. One is a corporate bond with 8% coupon rate at par. The other is a municipal bond with a 5.5% coupon selling at par. • 2. What’s the price for: • 1. A 15-yr zero coupon bond with a YTM of 12% • 2. A 20-yr zero coupon bond with a YTM of 10%

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