Unit
- Bond definition: A bond is a debt security where the issuer borrows capital from investors and promises to pay periodic interest (coupon) and repay the principal at maturity. Bonds are tradable instruments issued by governments, municipalities, and corporations to raise funds for projects, operations, or refinancing.
- Key terms: Face value (par value) is the amount repaid at maturity, typically $1,000 per bond. Coupon rate is the annual interest rate paid on the face value. Maturity date is when the principal is due. Yield is the effective return an investor earns based on the bond's price and cash flows.
- Types of bonds: Government bonds (sovereign debt) include Treasury bonds, notes, and bills. Municipal bonds are issued by local governments. Corporate bonds range from investment grade to high yield. Other types include agency bonds, supranational bonds, and convertible bonds.
- Bond characteristics: Seniority determines claim priority in bankruptcy. Secured bonds are backed by collateral; unsecured bonds (debentures) rely on creditworthiness. Callable bonds allow the issuer to redeem early, while putable bonds give the investor that right.
- Credit quality: Ratings from agencies like Moody's, S&P, and Fitch assess default risk. Investment grade (BBB- or higher) indicates lower risk; speculative grade (BB+ or lower) carries higher risk and higher yields.
- Market context: The bond market is the largest securities market globally, with daily trading volumes exceeding equity markets. Primary market refers to new issuances; secondary market involves trading existing bonds.
- Interest rate environment: Bond prices move inversely to interest rates. When rates rise, existing bond prices fall because new bonds offer higher coupons. Duration measures a bond's sensitivity to rate changes.
- Cash flow structure: Most bonds pay fixed coupons semiannually, but floating-rate notes (FRNs) have variable coupons tied to a benchmark. Zero-coupon bonds pay no interest but are issued at a discount to face value.
- Indenture: The legal contract between issuer and bondholders outlines covenants, payment dates, redemption features, and default remedies. The trust company represents bondholders' interests.
- Issuance process: The bond issuance begins with the issuer selecting underwriters who structure the deal, set terms, and market bonds to investors. Underwriters often form a syndicate to distribute risk. Pricing is determined through book building, where demand and yields are assessed before final terms are set.
- Documentation: Key legal documents include the offering memorandum or prospectus for public offerings, detailing terms, risks, and financials. The underwriting agreement outlines the purchase commitment, and the trust indenture governs bondholder rights. These documents ensure regulatory compliance and transparency for investors.
- Settlement and trading: After pricing, bonds are settled through clearing systems like DTC or Euroclear, typically with T+1 or T+2 settlement. In the secondary market, bonds trade over the counter via dealers. Transaction costs include bid ask spreads, and liquidity varies by issue size and credit quality.
Key Metric
Global Bond Market Size (2024)
~$140 Trillion
+3% YoY
Quick Revision
- A bond is a debt instrument with coupon payments and principal repayment at maturity.
- Key terms include face value, coupon rate, maturity, and yield.
- Bonds are classified by issuer type, credit quality, and structural features.
- Price and yield have an inverse relationship driven by interest rate movements.
- The bond market is the largest and most liquid fixed-income market globally.