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Chapter 20

Chapter 20. MARKETS FOR CORPORATE SENIOR INSTRUMENTS: I. Corporate Debt Market. Markets in which firms can borrow: Commercial Paper Market Medium-Term Note Market Euronote Market Bank Loan Market Bond Market (Chapter 21)

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Chapter 20

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  1. Chapter 20 MARKETS FOR CORPORATE SENIOR INSTRUMENTS: I

  2. Corporate Debt Market • Markets in which firms can borrow: • Commercial Paper Market • Medium-Term Note Market • Euronote Market • Bank Loan Market • Bond Market (Chapter 21) • since 1980s, more borrowing directly from markets, fewer ‘bank loans’

  3. Credit Risk • default Risk • issuer won’t make payments on time • credit spread: premium on gilt/sovereign • credit spread risk: if premium increases, existing debt market value falls • how assess credit risk? • big firms do in house • else (US) commercial ratings: Moody’s, S&P, Fitch • downgrade Risk • risk that credit quality of issuer declines.

  4. Commercial Paper • short-term unsecured promissory note (IOU) issued in the open market • bridge financing, seasonal, working • maturity reflects SEC regulations: • <270 days doesn’t require registration • < 90 days allows use as collateral with Fed • roll over: pay off with new issue • may back by unused bank credit lines • little secondary market activity

  5. Issuers of Commercial Paper • large firms with strong credit quality • mostly financial companies (80% in 1997) • captive finance companies (to fin. parents) • bank-related finance companies • independent finance companies • LOC paper: backed by LOC (only use bank to back, not also to lend) • banks moving into paper to recoup lending decline

  6. Placement of Commercial Paper • Direct Paper • directly placed by issuing firm to investors • Dealer-Placed Paper • requires service of an agent to sell the issuer’s paper • best efforts underwriting (dealer doesn’t buy the issue)

  7. Medium-Term Notes (MTN) • maturities (9 mo- 30 yrs; 100 yrs Disney) in ranges • issued continuously by agent: • buyer selects maturity from range • agent chooses spread to attract buyers • ‘continuous’ unlike bond tranches • growth in last 20 yrs due to flexibility • typically issued by non-financial corporations

  8. MTNs II • rated by rating agencies • registered with the SEC • Placement and Distribution • sold on a best-efforts basis by an investment banker • sold in small amounts • minimum purchase usually $1 – 25mn

  9. Structured MTNs • ‘structured’ = tailored • Combine offering with positions in derivative markets to create debt obligations with more interesting risk/return features. • idea: spread, coupon can be functions of: • price, stock market indices; exchange rates… • often to hedge derivatives risk • 20-30% of new issues

  10. Bank Loans • ‘Eurocurrency’ loans: any loan (in the US) by an offshore bank • euroyen • eurodollar…

  11. Syndicated Bank Loans • a group of banks provides funds to the borrower, spreading the risk • senior bank loans: senior to bondholders • rates usually floats relative to LIBOR, prime… • fixed term, collateralized • Marketable: members can sell shares (even in non-performing loans): • assignment: assignee becomes de facto owner • participation: participant relates to creditor & debtor

  12. Lease Financing • usually for expensive equipment • lessor: buys equipment, leases to lessee • lessee: rents equipment • therefore, splits ownership from use rights • Leasing arrangements • leveraged lease (lessor borrows to buy) v. direct • tax-oriented: ownership tax breaks for lessor

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