Bond
market
Companies can obtain
secure long term financing through issuing bonds
with maturities usually ranging from 3 up to
30 years
A bond issue is
generally managed by a syndicate of investment
banks which take one of two
approaches:
- either they buy
the whole issue and then attempt to sell it
through their distribution network which would
include private and institutional investors
- or they act a pure intermediary,
just collecting a commission on amounts that
were actually purchased by investors
Bonds are generally sold at or
near par value in denominations of 1,000. In
Switzerland denominations of Sfr. 5,000.–
or Sfr. 100,000.– are frequently used.
Bonds are normally reimbursed at their par value
at maturity.
Bonds are quoted in the financial
markets as a % of their par value, and not including
any accrued interest.
Generally, the coupon interest
rate is fixed at the time of issue and remains
unchanged throughout the life of the bond. This
interest rate is determined in function of market
rates at the time of issue, that is to say the
yields to maturity on other bonds of similar
issuers (companies or governments) already quoted
in the market.
Interest is paid to the
bondholder either annually or semi-annually
as is the case in the United States. In Switzerland
all interest payments including bond coupon
payments and stock dividends are subject to
withholding tax of 35 % if they are domestic
Swiss issues.
Bonds can be issued:
- at par : the issue price
is equal to the par value
- above par : the issue price
is above par which gives rise to a premium
which should be used to amortise issue costs
- below par : the issue price
is below par which gives rise to a discount
on the issue; this discount will then result
in an extraordinary loss at the time of reimbursement
The bond's maturity is defined
in the issue prospectus. Most bond issues are
reimbursed at a fixed date. Others have a call
provision which allows the issuer to reimburse
all or part of the issue before maturity. The
decision whether to exercise this call provision
depends on interest rate trends. Reimbursement
can be effected either by fixed annual amounts,
buying back bonds in the open market, or by
lottery. A staggered annual reimbursement has
the advantage of allowing a firm to plan its
liquidity flows over a number of years.
Bonds called before maturity
are always reimbursed at least at par value,
and sometimes at a premium.
Unclaimed amounts for bonds called
or matured, revert to the company after 10 years.
Current yield on a bond
:
| Price
in % |
Coupon
rate |
|
4 % |
5 % |
6 % |
7 % |
8 % |
92 % |
4.35 |
5.43 |
6.52 |
7.61 |
8.70 |
96 % |
4.17 |
5.21 |
6.25 |
7.29 |
8.33 |
100 % |
4.00 |
5.00 |
6.00 |
7.00 |
8.00 |
104 % |
3.85 |
4.81 |
5.77 |
6.73 |
7.69 |
108 % |
3.70 |
4.63 |
5.56 |
6.48 |
7.41 |
|
When interest rate rises, the
market price of a bond will decline and the
reverse. Hence, new bond issues must carry coupons
and be priced according to the current level
of yields in the market.
Yield to Maturity
Bonds are priced according to
their yield to maturity. A bond can be thought
of as an annuity with a balloon payment at the
end of the annuity period-otherwise known as
the reimbursement at maturity. The market price
will always be the sum of the present value
of these future payments as illustrated in the
example below. The yield to maturity is, therefore,
the IRR which sets the future cashflows equal
to the market price.
Example 1
A bond issue with a par value
of 1,000.–, a coupon of 5%, and a maturity
of 10 years. Find the market price if the yield
to maturity is 6%.
Market price = 50(1,06)-1 + ........+50(1,06)-10 + 1000(1,06)-10 = 926,40
Exemple 2
A bond issue with a par value
of 1'000, a coupon of 4 % and a maturity of
8 years. Today's market price 980.- Calculate
the Yield to maturity (YtM = IRR)
-980 = 40(1+YtM)-1 + ........+40(1+YtM)-8 + 1000(1+YtM)-8
Use Excel :
NPER : 8
PMT : 40
PV : -980
FV : 1'000
COMPUTE RATE (Yield to maturity) : 4,30 %
The Spread
The spread of a bond refers to the difference between the yield of the bond and the yield of a Treasury bond with a comparable maturity . Since the Treasury yield is considered risk-free, the spread reflects the risk premium of the bond. The spread is expressed in basis points (1/100th of 1 percent.).
Source : http://finance.yahoo.com/bonds/glossary
The Duration
A common gauge of the price sensitivity of a fixed income bond to a change in interest rates .
The Sensitivity
The longer a bond is, the more sensitive it will be to changes in interest rates (falling
and rise) and the lower the coupon level, the more sensitive the bond is to changes
rates (down and up)
Bonds comparison :
10-year Confederation bond yields 30.8.2024 (Rf) : 0,451 %
Name |
Date |
Symbol |
Starting date |
Devise |
Coupon |
Maturity |
Geneva, State |
11.10.2023 |
GE142 |
29.09.2014 |
CHF |
1,000% |
29.09.2026 |
kanton zurich |
11.10.2023 |
ZH121 |
03.12.2012 |
CHF |
1,000% |
03.12.2025 |
|
|
|
|
|
|
|
Name |
Market Price |
YtM |
Spread=YtM-Rf |
Duration |
Sensibility |
|
Geneva, State |
98,45% |
1,59% |
0,50% |
2,9368 |
2,8908 |
|
kanton zurich |
99,35% |
1,50% |
0,41% |
2,1146 |
2,0833 |
|
Sources :
GE142 : 1 KT GE 14-26 Price & Reference Data - GE142 | SIX (six-group.com)
ZH121 : 1 KT ZH 12-25 Price & Reference Data - ZH121 | SIX (six-group.com)
.
©ECOFINE.COM, Bernard Jaquier, Professor in Economics & Finance, Lausanne, Swizerland,2024
