Bond Markets


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For all those interested in "Bond Markets" - my new infoposter "ECONOMICS" is now available:

- the poster gives an overview of the development of economic theory from its beginnings.

- the poster shows the historical roots of economic ideas and their application to contemporary economic policy debates.

View and order at

Best regards

Martin Kolmhofer

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Bond Markets

  1. 1. Debt Capital Markets International Economic Relations Metropolitan University Prague Martin Kolmhofer 2011/2012
  2. 2. <ul><li>“ If there was reincarnation, I once wanted to come back as the president or the Pope. But now I want to come back as the bond market. You can intimidate everybody.“ (James Carville, adviser to Bill Clinton) ORIGIN </li></ul><ul><li>Bonds were a natural outgrow of the loans that early bankers provided to finance wars starting in the Middle Ages. </li></ul><ul><li>Repayment promised with future “conquests” </li></ul><ul><li>Bonds offered a way for governments to borrow from many individuals rather than just a handful of bankers. </li></ul>
  3. 3. Bond Markets <ul><li>Bonds, IOUs (fixed-income securities, debt securities) </li></ul><ul><li>Bond = contract, agreement, guarantee </li></ul>
  4. 4. The Issuers <ul><li>National Governments </li></ul><ul><li>Lower Levels of government </li></ul><ul><li>Corporations </li></ul>
  5. 5. 18.08. 2011
  6. 6. 16.09. 2011
  7. 7. 30.11.2011
  8. 9. What are “the markets”? &quot;What are the financial markets? It is some boys sitting at their computers and who are wrong most of the time. We will put them on some glasses so they can see that Argentina does not need expensive money.“ (Domingo Cavallo, former Argentine Finance Minister)
  9. 10. What are “the markets”?
  10. 12. How to Read A BondTable <ul><li>Column 1: Issuer. This is the company, state, province or country that is issuing the bond. </li></ul><ul><li>Column 2: Coupon. The coupon refers to the fixed interest rate that the issuer pays to the lender. The coupon rate varies by bond. </li></ul><ul><li>Column 3: Maturity Date. This is the date when the borrower will pay the principal back to the lenders (investors). Typically, only the last two digits of the year are quoted, so 25 means 2025, 04 is 2004, etc. </li></ul><ul><li>Column 4: Bid Price. This is the price that someone is willing to pay for the bond. It is quoted in relation to 100, regardless of the par value. Think of the bond price as a percentage, a bond with a bid of $93 means it is trading at 93% of its par value. </li></ul><ul><li>Column 5: Yield. The yield indicates the annual return until the bond matures. Yield is calculated by the amount of interest paid on a bond divided by the price -- it is a measure of the income generated by a bond. If the bond is callable it will have a &quot;c&quot; followed by the year in which the bond can be called. For example, c10 means the bond can be called as early as 2010. </li></ul>
  11. 13. Paris Club, London Club <ul><li>The Paris Club is an informal group of financial officials from 19 of some of the world's biggest economies, which provides financial services such as debt restructuring, debt relief, and debt cancellation to indebted countries and their creditors. </li></ul><ul><li>Former Chairperson: Jean-Claude Trichet </li></ul><ul><li>The London Club is an informal group of private creditors on the international stage. Similar to the Paris Club of public lenders. </li></ul>
  12. 14. Credit Agency Ratings Government regulations or internal regulations restrict the amount that many pension funds and insurance companies can invest in bonds that have a high probability of default, those rated as “below investment grade”.
  13. 15. Institutional Investor Types <ul><li>Pension funds </li></ul><ul><li>Investment banking </li></ul><ul><li>Hedge funds </li></ul><ul><li>Sovereign wealth funds </li></ul><ul><li>Private equity firms </li></ul><ul><li>Insurance companies </li></ul><ul><li>Institutional investors  are organizations which pool large sums of money and invest those sums in securities, real property and other investment assets.  </li></ul><ul><li>act as highly specialized investors on behalf of others. </li></ul>
  14. 16. The Yield Curve The curve plots Treasury yields against a range of maturities, from 1 month to 30 years. It’s slope indicates the bond market’s expectation about the future course of the economy. The Yield Curve can be regarded as a forecast of future short-term interest rates
  15. 17. The Yield Curve <ul><li>Reason for (normal) upward-sloped yield curve: </li></ul><ul><li>Investors wish to be compensated for the greater risk that inflation will erode the value of their asset over a longer period. </li></ul><ul><li>“ Inverted Yield Curve” (Italy 12/2011) </li></ul>When investors feel as though a major economic downturn or a substantial financial crisis is coming, the yield on short-term bonds will often rise above the yield for long-term bonds. This happened to Greece, to Ireland and to Portugal and all three of them ended up needing bailouts. Now it is happening to Italy
  16. 18. Junk Bonds <ul><li>High Yield Debt – or Junk? </li></ul><ul><li>Junk Bond = A high-risk, non-investment-grade bond with a low credit rating, usually BB or lower </li></ul>
  17. 19. “ Monetizing” Debt <ul><li>Governments are not just “collecting” existing money from the citizens with bonds </li></ul><ul><li>Monetizing debt is a two step process where the government issues debt to finance its spending and the central bank purchases the debt (with newly created money). </li></ul><ul><li>Inflationary </li></ul>
  18. 20. “ Monetizing” Debt <ul><li>ECB's statute prohibits it from directly buying public debt from the issuer </li></ul><ul><li>ECB has always financed governments' deficits indirectly by accepting the governments' bonds as collateral </li></ul><ul><li>In May 2010, the ECB announced it would buy government bonds directly </li></ul>
  19. 21. “ Monetizing” Debt How the ECB finances Euro area governments
  20. 22. “ Rolling over” Debt <ul><li>“ Rolling over” / “Refinancing” </li></ul><ul><li>= selling new securities to pay for the redemption of maturing securities. </li></ul><ul><li>Individuals can become bankrupt with too much borrowing, but the government can never become bankrupt if it borrows in the same currency it issues. </li></ul>
  21. 23. “ Rolling over” Debt 1928: 2011:
  22. 24. How much is too much?