Types of Bonds Flashcards Preview

States the price at which a bond is trading. Bond prices are typically quoted as a percentage of par. For example, corporate bonds are quoted as a percentage of par in increments of 1/8 of a point. T-notes and T-bonds are quoted as a percentage of par in increments of 1/32nds of a point. T-bills are quoted on a discounted yield basis, based on the discount from par they are trading at.

The voting process by which new issues of proposed GO bonds can be approved if required by a municipality’s statutes or constitutions.

Time deposits issued by banks. A customer deposits cash with a bank for a fixed maturity and in return receives interest. If CDs are non-negotiable, they cannot be transferred or resold, which gives them limited liquidity, whereas negotiable CDs can actually be traded to other investors and therefore are considered money market securities.

A type of secured corporate debt backed by securities (e.g., stocks) owned by the corporation.

A mortgage-backed security that has been structured by a broker-dealer and cut up into different pieces called tranches. Each tranche will vary based on expected maturity, credit quality, and exposure to prepayments.

Unsecured, short-term corporate debt that typically has a maturity of 270 days or less.

The stated price at which a bondholder can convert a convertible bond into shares of common stock. This value is used to calculate the conversion ratio.

The number of shares of common stock that an investor will receive when she converts a convertible bond. It is calculated as the bond’s par value divided by the conversion price.

A bond that offers investors the ability to convert into a fixed number of shares of the issuer’s common stock. Because the bond can be converted into shares of common stock, it generally trades like the underlying shares and less like a traditional bond. Additionally, because investors have this conversion benefit, these bonds pay a lower coupon rate than comparable non-convertible bonds.

A fixed-income security issued by a corporation in order to raise capital.

A document provided by a corporation when establishing a brokerage account that specifies who will have trading authority.

When two municipalities, one falling within the borders of another, share in a debt offering (e.g., a city within a county). It is relevant in the analysis of GO bonds in order to determine the municipality’s net overall debt.

Found in the trust indenture of a bond, they are promises by the issuer that are designed to protect the interests of bondholders. These covenants are established between the issuer and trustee, which is typically a large bank acting on behalf of the investors. They are required for corporate issuances in excess of $50 million, though many municipal revenue bonds have them as well. Examples of covenants include a requirement to maintain insurance or a certain credit profile.

Reflects the total amount of GO debt that a municipality can have outstanding at any time. The purpose is to protect residents from an overbearing tax burden, though the debt limit can typically be increased by a referendum. Municipalities that have outstanding debt well below these limits are generally viewed as offering greater safety to investors.

A critical measure for analyzing the credit quality of municipal revenue bonds, it is calculated as the annual net revenues divided by the annual debt service. A higher ratio is preferred from a credit perspective.

Provides a comprehensive snapshot of the debts that a municipality has outstanding. Used for the analysis of GO bonds.

The quote for a Treasury bill, which is expressed as an annualized discount rate from par.

A type of municipal bond that is backed by both revenue and taxes. If there is a shortfall in revenue, lawmakers have a legal obligation to make up the difference in taxes.

A type of secured corporate debt backed by equipment such as a plane, train, or truck.

The risk that as interest rates increase, homeowners will no longer refinance their mortgages. Therefore, mortgages will remain outstanding for longer, and the mortgage-backed securities that are backed by these mortgages will see their maturity extended, keeping the investors’ money tied up for longer.

A former government sponsored enterprise, now a publicly traded corporation, that issues mortgage-backed securities. Their issuances have the implied backing of the US government, though they are not fully guaranteed by the US government.

A government sponsored enterprise that provides loans to different entities within the agricultural sector.

Used in the analysis of revenue bonds to help determine whether the project will generate enough revenue to cover the debt service as well as the overall economic viability of the project.

A former government sponsored enterprise, now a publicly traded corporation, that issues mortgage-backed securities. Their issuances have the implied backing of the US government, though they are not fully guaranteed by the US government.

Detailed in the trust indenture of a municipal revenue bond, it describes the order in which the revenue that is generated by the facility is used to pay the debt service as well as operating and maintenance expenses.

A government agency, which has the explicit backing of the US government, that issues mortgage-backed securities.

Municipal bonds issued for a non-revenue-producing facility (e.g., a public park or public school). They are backed by the taxing power of the issuing municipality.

A passively managed mutual fund that seeks to track the returns of a market index, for example, the S&P 500.

A type of private activity bond that is issued for the benefit of a private corporation. The interest on these is taxable by the federal government.

A type of certificate of deposit that can either be negotiable (transferable) or non-negotiable (non-transferable) that is issued in much higher denominations, typically between $100,000 and $1 million. They offer higher rates than smaller-denomination CDs.

A type of secured corporate debt backed by real estate property.

A type of municipal bond that is backed by a revenue-producing facility and a non-binding pledge of the legislature. If there is a shortfall in revenue, the lawmakers, at their discretion, can make up the difference in taxes. However, this is a moral, not a legal obligation.

The fixed-income market that deals in short-term debt instruments with maturities of one year or less. Examples of money market instruments include T-bills, commercial paper, negotiable CDs, and banker’s acceptances.

A short-term municipal security that typically matures in one year or less.

A person or firm that provides advice to a municipality with respect to the issuance of municipal securities or the investment of proceeds generated from an issuance. Municipal advisors typically have a fiduciary responsibility to act in the best interest of the municipality.

Pools of mortgages that have been securitized and turned into bonds, typically by Ginnie, Fannie, and Freddie. These securities pay monthly interest to investors (similar to mortgages) and help to enhance the liquidity of the mortgage market.

A security that can be freely transferred or traded between investors. Most securities are negotiable.

A type of certificate of deposit that can be traded to other investors in the secondary market. Because they can be traded, they are considered money market instruments. The minimum face value for a negotiable CD is $100,000.

A type of certificate of deposit that cannot be transferred or resold to another investor and can only be redeemed by the issuing bank. Because they cannot be traded, they are not considered securities and they do not trade in the money market.

The market value at which an investor is indifferent between owning the convertible bond or the underlying common stock. The parity price of the stock is calculated as the market value of the bond divided by the conversion ratio, while the parity price of the bond is the market value of the stock multiplied by the conversion ratio.

Occurs when different municipalities have the ability to tax the same residents and tax source (e.g., both a city and county). It is relevant in the analysis of GO bonds in order to determine the municipality’s net overall debt.

The fact that as interest rates decrease, homeowners will refinance their mortgages in order to reduce their interest expense. As these mortgages and therefore the mortgage-backed securities are paid off, investors will receive their proceeds back at a time when rates are falling.

A type of municipal bond that does not provide significant benefit to the general public and therefore the interest income is taxable by the federal government. Industrial development revenue bonds are an example.

Sometimes referred to as non-agency CMOs, private-label CMOs hold mort-gage-backed securities that are backed by private issuers rather than by government agencies. Be-cause they are not issued or backed by Ginnie, Fannie, or Freddie, these are typically riskier and pay a higher yield.

A type of municipal bond which benefits the municipality at large. The interest income from these bonds is tax-free at the federal level, though the capital gains are taxable.

A contractual agreement between two parties, in which one party agrees to sell securities to another party at a specified price with a commitment to buy them back at a later date at a slightly higher price. The higher repurchase price reflects interest to the lender. Repos are considered money market instruments.

A short-term municipal note that is issued in anticipation of receiving future non-tax revenue

A type of municipal bond issued for and backed by a revenue-producing facility (e.g., a toll road, airport, and water treatment facility).

The party in a repo, who agrees to buy securities from another party at a specified price with the commitment to sell them back at a later date at a slightly higher price. The higher sale price reflects the interest the lender receives. Reverse repos are considered money market instruments.

A corporate bond that is backed by collateral.

The process of converting a pool of financial instruments, such as mortgages or credit card loans, into bonds.

A bond issue, such as a municipal revenue bond, where principal and interest payments are funded entirely from revenue that is generated by the project that was facilitated by the issue.

Securities, such as bonds and preferred stock, that have a priority over common stock in a liquidation.

A type of municipal bond that is backed by a tax on those who will directly benefit from the improvements the issuance provides. For example, the homeowners on a street pay for improvements to their sidewalk.

A type of municipal bond that is backed by a tax on a complementary product. An example would be a tax on gasoline to help support the roads and highways in a country.

Long-term, zero-coupon bonds that are backed by the federal government.

Unsecured corporate debt that has a lower claim on assets in a liquidation. In return for taking on more risk, investors receive a higher yield.

A short-term municipal note that is issued in anticipation of receiving future tax receipts.

A calculation that converts a taxable investment into a tax-free security in order to compare it to a tax-free municipal bond to determine which provides the better after-tax return. It is calculated as the tax-free yield divided by (100% minus the tax rate).

A calculation that converts a tax-free municipal bond into a taxable invest-ment in order to compare the municipal security to a taxable investment to determine which provides the better after-tax return. It is calculated as the taxable yield multiplied by (100% minus the tax rate).

Municipal bonds that are issued by US territories, including Guam, Samoa, Puerto Rico, and the US Virgin Islands. The interest income from these bonds is tax-exempt at the federal, state, and local levels for all US purchasers.

Treasury securities that help protect against inflation by having their principal increase semiannually based on the CPI.

The unique classes of a CMO, each consisting of different credit qualities, expected maturities, and exposures to prepayments.

Marketable, short-term Treasury securities that mature in one year or less. They are zero-coupon securities that are issued at a discount and mature at par; they do not pay fixed interest. Because of their short maturity and government backing, they are regarded as one of the safest and most liquid debt securities.

Marketable, long-term Treasury securities that typically mature in 30 years. They pay a fixed coupon and are quoted as a percentage of par value in increments of 32nds of a point.

Marketable, medium-term Treasury securities that typically mature within two to 10 years. They pay a fixed coupon and are quoted as a percentage of par value in increments of 32nds of a point.

Long-term zero-coupon bonds that are structured by broker-dealers, but backed by the cash flows from Treasury securities. Once the US government began backing STRIPS, these became much less popular.

Marketable US-government-issued bonds, considered among the most liquid and safest fixed-income securities.

The tax status of a public purpose municipal bond that is purchased by a resident of the state of issuance. The bond is tax-exempt at the federal, state, and local levels.

Requires that corporate debt issuances of more than $50 million be issued with a trust indenture, which is a set of covenants that detail the obligations of the issuer and rights of the bondholders. These covenants are established between the issuer and trustee, which is typically a large bank acting on behalf of the investors.

Consists of a set of covenants that detail the obligations of the issuer and rights of the bondholders. These covenants are established between the issuer and trustee, which is typically a large bank acting on behalf of the investors. Indentures are required for corporate issuances in excess of $50 million, though many municipal revenue bonds have them as well.

An entity, typically a large bank, that is legally empowered to act in the best interest of bondholders by ensuring the issuer meets its covenants. This term is also used to describe the individual that is legally appointed to manage and act in the best interests of the beneficiary of a trust.

Also referred to as debenture bonds, it is corporate debt that is not backed by an asset. Instead, it is backed by the good faith and credit quality of the issuer.

Much Shorter Maturity

To Raise Short Term Cash

To Finance International Trade

Corporations

U.S. Treasuries are exempt from state and local taxes.

T-Bills are very short term instruments sold at a discount and they provide no coupon payments. Because they have no cash flows, T-Bills, like treasuries, offer no current income. Investors seeking current income during a given period, such as retirement income, should avoid T-Bills.

1. Notes mature between 2 and 10 years versus T-Bills, which mature in one year or less
2. Notes are issued with coupons and pay interest, unlike T-Bills, which are zeros
3. T-Bills are quoted as a discount off of par, while T-Notes are quoted as a percentage of par in increments of 1/32

1. Treasury bonds typically mature in 30 years whereas T-Bills have maturities of one year or less
2. T-Bonds are issued with coupons and pay interest, unlike T-Bills, which are zeros
3. T-Bills are quoted as a discount off of par, while T-Bonds are quoted as a percentage of par in increments of 1/32

U.S savings bonds

1. Freddie Mac - Federal Home Loan Mortgage Corporation (FHLMC)
2. Fannie Mae - -Federal National Mortgage Association (FNMA)

Fannie and Freddie are both government sponsored enterprised that have an implied but not explicit backing of the US government. Ginnae Mae is a government agency, which has an explicit backing of the US government and thus would be considered safer.

CMOS are mortgage backed securities that have been structured by broker-dealers and cut up into different pieces called tranches. The various tranches will all vary in credit quality, expected maturity, and exposure to pre-payments.

1. Revenue bonds - backed by a revenue producing facility
2. General obligation (GO) - backed the taxing power of the issuing municipality

Non-revenue projects

Ad valorem taxes, also referred property taxes, help to support GO bonds that are issued by cities and counties. Property taxes are based on the assessed value of the property, which is taxed in mils. An investor will pay $1 of taxes for every $1,000 of assessed value.

Only the local city or county government

Constitutional Debt Limits

Double-barrel bond

The Trust Indenture

1. Insurance covenant - the commitment to insure anything built with the revenue bonds
2. Rate covenant - an assurance that usage rates will be kept high enough to maintain the project after completion.

IDRBs are issued by a municipality to construct industrial facilities or factories that will in turn be leased to an occupant to start a business and create jobs. Their cash flow comes from the company making lease payments. Since the company makes payments, which in turn the municipality pays to bondholders, the industrial development bond will have the same credit rating as the corporation.

Moral Obligation Bonds

Muni Notes

Primary disclosure document for munis

The official statement discloses material information to potential investors.

Since municipal securities pay interest that is tax-free, in order to compare a tax-free income to a taxable interest paying instrument, the taxable equivalent yield must be calculated, This is done by dividing the tax-free yield by (100% minus the investor’s tax bracket).

In the event of a liquidation, bondholders have senior status and they are in line for assetsahead of both common and preferred stockholders.

The Act requires that corporate debt issuances of more than $50 million include a trust indenture. The indenture consists of a set of convenants (promises) that detail the obligations of the issuer and rights of the bondholders. The written agreement is made between the issuer and a trustee, typically a bank, that represents the interests of the bondholders.

The Trust Indenture Act of 1939

Treasuries are quoted in 32nd of a point. So, a Treasury bond trading at 98-16, is trading at 98-16/32. This bond would have a dollar value of $985.

At parity, an investor is indifferent between holding the convertible bond or converting into the underlying shares of stock because either way they have the same total value.

Revenue bonds

Secured

Government National Mortgage Association (Ginnie Mae)

extension risk

Investors are given the benefit to convert their shares into the company’s underlying equity

I, II, and III

Non-marketable US securities that cannot be resold by investors and therefore have no secondary market. They must be redeemed directly with the Treasury.