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Fixed-income: defining elements - Coggle Diagram
Fixed-income: defining elements
basic features
basic feature
bondholder: credit risk
par value = face value= maturity value = principal = redemption value
coupon rate
plain vanilla bond / conventional bond : fixed coupon
floating rate :
zero-coupon/ pure discount: no interest prior to maturity
maturity date: tenor: time remain until maturity
money market : <1 year
capital market: > 1 year
perpetual bond: annuity no maturity date
currency denomination
dual currency: coupon in one currency, principal in another currency
currency option: right to choose currency, but interest and principal need to be same currency
issuer
Non-sovereign( local)
quasi-government: agency sponsored by governmnt (Fannie Mae)
sovereign (national) government
Companies: financial (issurance company) / non-financial
supranational org: operate globally (IMF)
special legal entities (SPE/SPV) : asset backed security
bond market
foreign bond
: sell in foreign country, but use that country's currency: Panda bond, Yankee bon
Eurobond
: issue international, country and currency different
domestic bond
: issue in home country and issue currency same
global bond
: issue in both eurobond market and at least one domestic bond market.
bond indenture
What？
trust deed: legal contract -- form of bon, issure obligation, right of bondholder
dates to pay interest
maturity date
interest rate
other legal issue
3 collateral: way to reduce credit risk
secured bond
collateral trust bond: financial asset, common share
equipemnt trust certificate: physical asset
mortage-backed (MBS) - mortgage loan: SPV
covered bond: issue by bank- covered pool: segregated pool of asset
unsecured bond (debenture)：a claim,纯信用--when default, paid after secured：government bond
4 credit enhancement: reduce credit risk
internal
reserve
account:
cash reserve: deposit cash can absorb loss
excess spread: any amount left over after paying interest to an account
subordination/ credit
tranching
/
waterfall structure
create more than one trench and order the claim priorities
overcollaterailization
: more than needed
external
surety bond
: issue by insurance company - monoline insurance companies
bank garante
e: issue by bank - penal sum: max amount is guaranteed
letter of credit
: financial institution provide a credit line
limitation：third party risk
2 source of repayment: funding source of interest and principal
5 covenant: clauses specify rights of bondholder
affirmative covenant: issuer will do
issuer comply with laws and regulations,按时支付interest，principal
pari passu (equal footing) - treat same as other senior debt (优先级一样）
cross-default clause: if other debt default, all default 其他违约，自动违约
negative covenant：(costly & constrain)
restriction on debt: max acceptable debt usage ratio
negative pledge: prevent senior to existing debt
restriction on prior claim: not collateralized can not become collateralized
restriction on distribution to shareholders: dividends
restriction on asset disposal: limit amount can be disposed
restriction on investment: constrain risky investment
restriction on mergers and acquisition
1 legal info: legal identity of issuer and legal form
sovereign bond (national)
supranational org: IMF
local government
quasi-government: fammie mae, agency sponsor by government
SPE/SPV: separate legal entitiy
save tax
funding cost decrease
bankruptcy remote
6 taxation
capital gain - long term (lower rate) -- short term ( equal to ordinary income tax
orginal issue discount (OID) bond - discount at par
no capital gain tax liability -- tax basis increase each year
pure discount bond:
低于面值的部分 -- taxable interest income
涨到高于面值的部分 -- capital gain tax
interest income: same as other income : municipal debt
premium bond: premium part can be used to reduce taxable portion of interest payment
principal value
structure of bond's cash flow
principal repayment structure
amortizing load
fully amortizing
: principal fully paid off in last payment (same each payment. interest decrease, principal increase) - mortgage
partially amoritizing: final payment just the remaining unamortized principal
sinking fund
what? (准备金）
cash reserve to repaying principal, now portion of outstanding 5% repaid each year throught bond's life
doubling option/ accelerated: call option to repurchase - benefit to issuer
provision:
could decline or increase each year
forward repayment to bond's trustee - select by lottery to be paid off
call provision: repurchase at market price or specified sinking fund price, lowest one
drawbacks -- reinvestment risk, callable
plain vanilla / bullet : interest periodic, principal at maturity
ballon payment: final payment lump sum of final period interest & principal
coupon payment structure
step-up coupon bonds
may be fixed or floating - increase by specified margin at specified dates
receive higher coupon when market rate higher - increase in rate is due to decrease in credit rating
usually with call option - new coupon rate > market - call the bond
credit- linked coupon
go up when credit rating fall - irrellevant to market rate - change periodically
deferred coupon
interest payment deferred - large project not complete - have tax advantage
zero-coupon bond - trade at discount
payment-in-kind coupon
pay bond interest with more bond- save cash - 用新债还旧债
floating-rate notes
MRR + Quoted margin (1bps = 0.01%)
MRR reset periodically - coupon rate change
spread high - credit low- risk high
coupon reset date: next coupon date
inverse floater- reference rate increase, coupon rate decrease - investor who expect interest rates to decline -- coupon leverage
index-linked
inflation-linked bond / CPI linked
interest-index - fixed nominal principal + index-linked coupon
capital-indexed - fixed coupon rate, principle increase as index increase
treasure inflation-protected securities (TIPS) - price much higher
adjusted par value greater than 1000 - receive the adjusted one at maturity
adjusted par value less than 1000 (deflation) - holder receive 1000 min repayment amount
TIPS coupon payment = inflation-adjusted par value * (stated coupon rate/2)
1000
(1+1.5%)
(1+2%)*(10%/2)
bonds with contingency provisions
callable & putable
call provision: beneficial to issuer
value = value of non-callable bond - call option value
call premium - call price - par value
call price: price of issure retire the bond
first par call date - first callable at par value
deferred call: not call the ball for number of years
higher yeild (lower price) than identical
3 styles of callable bond
European style: call on date sepcified
Bermuda style: speficifed date ofter first call date
American Style: call anytime
make-whole call provision
not fixed - present value of future coupon
avoid higher interest
not put an upper limit
putable bond - beneficial to bondholder
value = identical + put option value
interest rate rise- sell back to issuer - get cash - invest higher rate bond
convertible bond
beneficial to bondholder (可转债）
conversion ratio = par value / conversion price
conversion value = market price of stock * conversion ratio
conversion premium = bond price - conversion value
parity
above parity = conversion value > convertible bond price
below parity = conversion value < convertible bond price (正常）
at parity = conversion value = convertible bond price
to issuer
reduce debt
reduce interest expense
callable convertible bond
call provision + conversion value above bond price
bondholder to convert immediately
offer higher yild and sell at lower price
warrants: attached option 同时持有和转债