Glossary of Bond Terms

Accrued interest
Interest deemed to be earned on a security but not yet paid to the investor. The amount is calculated by multiplying the coupon rate by the number of days since the previous interest payment.
Ask price
Price being sought for the security by the seller.
Ask yield
The return an investor would receive on a Treasury security if he or she paid the ask price.
Asset allocation
Asset allocation is an investment strategy in which an investor divides his/her assets among different broad categories of investments (such as bonds) to reduce risk in an investment portfolio while maximizing return. The percentages allocated to each investment category at any given time depend on individual investor needs and preferences including investment goals, risk tolerance, market outlook, and how much money there is to invest.
Asset swap spread
The asset swap spread (also called the gross spread) is the aggregate price that bondholders would receive by exchanging fixed rate bonds for floating rate bonds using the swaps market, mainly used to reduce interest rate risk. The asset swap spread is one widely used metric to determine relative value of one bond against other bonds of the same currency. Asset swaps can be a tool to understand which bond or bonds maximize the spread or price over a reference interest rate benchmark, almost always LIBOR, the London InterBank Offered Rate.
Asset-backed bonds or securities (ABS)
Asset-backed securities, called ABS, are bonds or notes backed by financial assets other than residential or commercial mortgages. Typically these assets consist of receivables other than mortgage loans, such as credit card receivables, auto loans and consumer loans. ABS constitute a relatively new but growing segment of the debt market in Europe.
Average annual yield
Average annual yield is the average yearly income on an investment, such as a bond, expressed in percentage terms. To calculate average annual yield, add all the income from an investment and divide that total amount by the number of years in which the money was invested. For example, if you receive €10 interest on a €1,000 bond each year for ten years, the average annual yield is 1% (€10 ÷ €1,000 = 0.01 or 1%).
Balance of trade
The difference between the value of a region’s imports and exports during a specific period of time. If the European Union or a specific country imports more than it exports, it has a trade deficit; if the EU exports more than it imports it has a trade surplus.
Barbell strategy
Barbell strategy is used as a way to earn more interest without taking more risk when investing in bonds. In a barbell strategy, an investor invests in short-term bonds, say perhaps some maturing in one to two years and long-term bonds such as those maturing in 30 years. When shorter-term bonds come due, the investor replaces them with other short-term bonds, thus keeping a balance between short and long term bonds. The goal is to earn more interest without taking more risk than having a portfolio of intermediate term bonds only.
Basis point
One one—hundredth of 1 percent (0.01%). 100 basis points equal 1%. Basis points are often used to measure differences in bond yields. For example, if the yield on a bond changes from 5.55% to 5.5%, it has dropped 5 basis points.
Bearer bond
A bond that is not registered and has no identification as to owner. It is presumed to be owned by the person who holds it. Bearer securities are freely negotiable, since ownership can be quickly transferred from seller to buyer by delivery of the instrument. Bearer bonds allow investors to remain anonymous. Eurobonds are an example of bearer bonds.
Behavioural finance
Behavioural finance is the study of why investors act the way they do and how such behaviour affects the markets. Behavioural finance theorists use the disciplines of economics and psychology to suggest that the investor behaviour that affects market prices may be not be based on such “rational” factors as analysis of the strength or performance of a company.
Benchmark
A benchmark used in investing is a standard against which the performance of an individual bond or group of bonds can be measured. Different types of benchmarks are chosen for different investments by individual investors and financial professionals—the benchmark might be an index, an interest rate such as LIBOR or EURIBOR, or the yield on a particular government bond such as on a US Treasury bond. For example, if an investor uses an index to track a specific segment of the bond market, the changing value of the index indicating a stronger or weaker performance is also the standard against which the investor measures the performance of a particular bond, bond fund or bond portfolio. For investors who want to set up investment performance benchmarks, there are two major types of benchmarks—fixed rate or absolute benchmarks and relative benchmarks. Fixed or absolute benchmarks might be targets that an individual sets--return on a portfolio or some return relative to inflation for example; relative benchmarks are standard market indices or measurements that help an investor compare the performance of his/her investment portfolio to that market index investment benchmark so as to gauge the success of his own strategy to his investment objectives.
Bid (and ask)
Bid is the price at which a buyer, broker or market maker offers to pay for a bond; and the ask is the price at which the broker or market maker offers to sell. The difference between the two prices is called the spread. Bid and ask is sometimes known as a “quote.”
Bond
A bond is a debt security, a loan similar to an I.O.U. When you purchase a bond, you are lending money to a government, corporation, or other entity known as the “issuer.” In return for the loan, the issuer promises to pay you a specified rate of interest during the life of the bond and to repay the face value of the bond (the principal) when it “matures,” or comes due. Because most bonds pay interest, and on a regular basis, they are sometimes described as fixed-income investments.
Bond fund
A bond fund sells investors shares of a fund that consists of a portfolio of bonds structured to meet a particular investment objective, such as providing regular income. Bond funds, unlike individual bonds, do not have a maturity date and therefore do not guarantee an interest rate as the portfolio is not fixed. Bond funds, also unlike individual bonds, do not guarantee a return of principal. Investors may invest in bond funds because they want to diversify bond investments with smaller amounts of money than required to buy an entire portfolio of bonds. There are different types of bond funds from which an investor can choose which may invest in different types of bonds (government, corporate, covered, etc), have different investment strategies (short-term, long term, etc.), and offer different levels of risk (for example, highest rated investment grade bonds, high-yield bonds, etc.).
Bond insurance, Financial guaranty insurance
Credit quality can be enhanced by bond insurance, sometimes known as financial guaranty insurance. Specialised insurance firms serving the fixed income markets guarantee the timely payment of principal and interest on bonds they have insured. Most bond insurers have at least one triple A rating from a recognised rating agency attesting to their financial soundness, although some bond insurers bear lower credit ratings. In either event, insured bonds in turn receive the same rating based on the insurer’s capital and claims-paying resources. In Europe, the financial guaranty insurance sector and the market for insured or “wrapped” bonds have grown rapidly, although have been affected by the market turmoil. Pension reform efforts in Europe are expected to increase the demand for bond insurance because insuring the complex pension financing structures can increase investor confidence and impact the credit quality of the bonds issued as well. In the US, the focus of insurance activity has been in the municipal government bond market although bond insurers have also provided guarantees in the mortgage and asset backed securities markets.
Bond rating and Bond rating agencies
Independent bond rating agencies, such as Standard & Poor’s (S&P), Moody’s, Fitch Rating Service, provide ratings that assess individual bond issues as to how likely they are to default on their loans or interest payments. Ratings systems differ among the different agencies, but AAA (Aaa for Moody’s) is considered the highest rating and D the lowest. Bonds rated BBB (or Baa) and higher are considered investment-grade bonds. Bonds rated C and below are considered speculative grade bonds.
Bond swap
The sale of a bond and the purchase of another bond of similar market value. Swaps may be made to establish a tax loss, upgrade credit quality, extend or shorten maturity, etc. Bond swaps are sometimes called bond switches.
Bond Unit Trusts (Open Ended Investment Companies --OEICs or ICVCs-- and SICAVs)
Investors in unit trusts, which are operated by investment management companies, receive units in a fund, the price of which are calculated on a daily basis (value of the portfolio of the fund divided by the number of units). There are different categories of legal forms of these funds found in Europe.
Bonos and Obligaciones del Estado—Spanish government bonds
Spanish government bonds are obligations of the Spanish government issued by the Spanish Public Treasury. Letras del Tesoro are short term treasury bills with maturities of 6 months, 12 months and 18months; Bonos y Obligaciones del Estado are Treasury bills with exactly the same features except for different maturities; the Treasury currently issues Government bonds with 3 and 5 year maturities; and obligaciones with maturities of ten, fifteen and thirty years.
Book—entry
A method of recording and transferring ownership of securities electronically, eliminating the need for physical certificates.
Bourse
Bourse, meaning “purse” in French, is the French term for stock exchange. The term Bourse is used throughout Europe and is the synonym for the US term, “stock exchange."
Broker
A broker is an intermediary agent for a buyer and seller. The broker, buyer and seller may be businesses, individuals, or institutions. In most jurisdictions, brokers work for banks or brokerage firms and must be licensed or otherwise certified or registered in order to handle buying and selling of investments such as bonds. Consult your country’s financial regulator listed in the Resource Centre for additional information.
BTP or Italian government bonds
Italian government bonds are issued by the Dipartimento del Tesoro. The Ministry of the Economy and Finance issues different types of Government bonds that are held by both individual investors and institutional investors: short term BOT bonds (Buoni Ordinari del Tesoro) with maturities up to 365 days; CTZ’s (Certificati del Tesoro Zero Coupon), which like BOTs are zero coupon bonds, with maturities of 24 months; BTPs Italian Treasury bonds (Buoni del Tesoro Poliennali), with maturities of three, five, ten, fifteen and thirty years; and CCT Treasury certificates (Certificati di Credito del Tesoro), floating rate securities that have a 7 year maturity.
Bullet
A bond that repays principal in full in a single payment on redemption.
Bund or German government bonds
German bonds are known as Bunds (from Bundesanleihen). Bund maturities range from four to thirty years. Other bonds, such as five year federal notes “Bobls” (from Bundesobligationen); two year maturity federal Treasury notes “Schatze” and Federal savings notes (Bundesschatzbriefe) are also purchasable by individuals. The German Government Bond issuance is considered a “gold standard” or benchmark in Europe (even after the creation of the Euro).
Buy and hold
A strategy for investing in which investors buy a bond and hold the bond until the date of maturity when the investor receives principal back and interest, if any.
Call
A call is the right of the issuer to redeem a bond it has sold before the maturity date by paying investors a stated price, usually a premium above par value. A full call is when the issuer redeems the entire issue of the bond; a partial call is when only a portion of the issue is redeemed. Many high-yield bonds allow issuers to call bonds after the first five years.
Call premium
An amount, usually stated as a percent of the principal amount called, paid by the issuer as a “penalty” for the exercise of a call provision.
Call risk or refunding risk
A call feature creates uncertainty as to whether the bond will remain outstanding until its maturity date. Investors risk losing a bond paying a higher rate of interest when rates have declined and issuers decide to call in their bonds. When a bond is called, the investor must usually reinvest in securities with lower yields. Calls also tend to limit the appreciation in a bond’s price that could be expected when interest rates start to slip.
Callable bonds
Bonds with a redemption or call provision usually have a higher annual return to compensate for the risk that the bonds might be called early. There are two subcategories of these types of bonds: European callable bonds and American callable bonds. The issuers can only call European callable bonds on pre-specified dates whereas they can call the American callable bonds any time after the call protection period. The call protection period is one of the terms set before the use of a bond, i.e. the date until which it is protected and after which it can be called.
Cap
The top interest rate that can be paid on a floating-rate bond.
Capital markets
Capital markets are the electronic and physical markets in which bonds and other financial instruments such as shares and commodities are sold to investors. Institutions such as governments and corporations use the capital markets to raise money through public offerings of bonds and shares or through private placements of securities to institutional investors such as pension funds and insurance companies.
Central bank
The central bank of a country is the public authority--usually a federal government-related entity--that sets or carries out the country’s monetary policy, controls the country’s money supply, may set short-term interest rates, is usually entrusted with control of the commercial banking system and financial institutions and markets; and acts as lender of last resort.
Clean price
Price of a bond excluding accrued interest. Bond prices are usually quoted clean.
Closed-end investment company
An investment company created with a fixed number of shares which are then traded as listed securities on a stock exchange. After the initial offering, existing shares can only be bought from existing shareholders.
Closing price
The closing price of a bond is the last trading price before the exchange or market in which it is traded closes for the day. Given the existence of after-hours trading, the opening price at the start of the next trading day may be different from the closing price of the day before.
Collar
Upper and lower limits (cap and floor, respectively) on the interest rate of a floating-rate security.
Collateral
Assets with monetary value which are used to guarantee a loan. If a borrower defaults and fails to repay a loan, the collateral or some portion of it, may become the property of the lender. Secured loans are loans that are guaranteed by collateral.
Collateralised Debt
Collateralised debt (securitisation, structured products and covered bonds) has been one of the fastest developing investment vehicles in the last decade based on the idea that credit can be advanced on the basis of whatever collateral, security, or compensation in the case of default a borrower can use to repay the loan. The collateralised debt instrument is therefore a kind of promissory note backed by collateral, security or whatever other compensation in the event of a default that a borrower has. The collateral or security can come from one or more sources such as mortgages or loans or bonds/debt or asset-backed securities. The speed at which this concept spread through Europe at the turn of the 21st century has created a significant European market in these complex bond products. This is largely an institutional bond market, because the products are very complex in structure and size and difficult for a non professional individual investor to understand.
Collateralised Debt Obligation (CDO)
A collateralised debt obligation (CDO) is a type of securitisation, whereby a diversified pool of loans or securities is packaged into various tranches backed by the cash flows of the asset pool. CDOs may pay a fixed or floating coupon, semi annually, quarterly or monthly, with most senior debt being rated AAA to A and subordinate debt BBB to B and/or an unrated “first loss tranche”. There are many types of CDOs. Some are backed by a diversified pool of a single asset class (such as mortgages, loans to small and medium sized companies, large companies) or a mixture of asset classes. Due to their complexities, some CDOs can be relatively volatile in terms of ratings and their market value. For example, CDOs backed by the tranches of other securitisations particularly subprime loans, have been very volatile and many have been downgraded. Other CDOs, such as those backed by corporate loans, have been relatively stable and continue to offer high yields with reasonable stability.
Collateralised Mortgage Obligations (CMOs)
Collateralised mortgage obligations are fixed income investments backed by mortgages or pools of mortgages. A conventional mortgage-backed security has one interest rate and one maturity date. A CMO backed by a pool of mortgages is divided into four tranches, and each tranch has a different interest rate and term. As with all mortgage-backed securities, CMOs are subject to interest rate risk in which a change in interest rates can affect the market value and the repayment rate.
Commercial Mortgage Backed Securities (CMBS)
Commercial mortgage-backed securities (CMBS) have as underlying collateral loans on hotels, multifamily housing, retail properties, and office or industrial properties. Unlike residential mortgage loans, commercial loans tend to be “locked out” from prepayment for ten years and thus prepayment risk is reduced. However, default risk is greater on commercial loans.
Commercial paper
Short term, unsecured bond notes issued by a corporation or a bank to meet immediate short term needs for cash. Maturities typically range from 2 to 270 days. Commercial paper is usually issued by corporations with high credit ratings and sold at a discount from face value.
Commission
A charge from a broker or agent to make a transaction on behalf of an investor. Commissions differ in how they are calculated, including whether the investor is using a bank, brokerage or online firm. Investors should be sure to ask and to understand what commission or other sales fees are charged by a broker or agent to make an investment transaction, including if such information is not provided in writing.
Compound Interest
Compound interest is when interest earned on an investment is added to the existing investment to create a larger investment base on which to earn future interest. Without compounding, simple interest is earned and investments do not grow as quickly.
Compounding
Compounding is the process by which investment interest earnings added to the investment principal form a larger base on which to accumulate additional earning over time.
Contraction risk
For mortgage-related securities, the risk that declining interest rates will accelerate the assumed prepayment speeds of mortgage loans, returning principal to investors sooner than expected and compelling them to reinvest at the prevailing lower rates. In contraction risk, the average time that it takes for the investor to get principle back is what is being “contracted”.
Convertible bond
A bond that provides the investor an option to exchange the bond for a preset number of shares in the issuer at a preset price and time.
Convexity
A measure of how sensitive a bond is to changes in interest rates. Convexity is the rate of change in the duration (price volatility) of a bond and shows how much a bond's yield changes in response to changes in price. Most bonds that have a fixed coupon and maturity date have positive convexity. Bonds with negative convexity have prices that tend to go up less and down more than those with positive convexity. Convexity can also be used to compare bonds with the same yield and duration.
Corporate bond
Bond issued by a corporation to raise money for business needs.
Coupon
This part of a bond denotes the amount of interest due, on what date and where payment will be made. Bonds with coupons may also be known as bearer bonds because the bearer (of the coupon) is entitled to the interest on the bond. Note that while most new bonds are electronically registered rather than issued and so physical coupons are increasingly scarce, dealers and investors often still refer to the stated interest rate on a bond as the “coupon.” Zero coupon bonds do not have a coupon; their return is based on the fact that they are sold at a significant discount to their redemption value.
Coupon rate
The interest rate the issuer of the bond pays during the term of the bond. For example, a bond paying 5% annual interest has a coupon rate of 5%.
Covered bonds
Covered bonds are debt issued by banks that are fully collateralised by residential or commercial mortgage loans or by loans to public sector institutions. Covered bonds typically have the highest credit ratings, with most, but not all having AAA ratings. The notes offer an additional protection to bondholders than asset-backed debt because in addition to looking at the collateral pool as an ultimate source of repayment, the issuing bank is also liable for repayment, although in some cases the rating of the covered bonds is based more on the collateral than on the rating of the bank. If the issuing bank is downgraded, then the covered bond may also be downgraded but this depends on the specific situation.
Credit rating
Designations used by credit rating agencies to give relative indications of credit quality of bond issuers by formally evaluating an issuer on a specific set of objective criteria such as a company’s financial health and ability to repay debt obligations. Each major rating service in Europe and the US such as Standard & Poor’s, Moody’s and Fitch Ratings uses somewhat different criteria to assess issuers but the evaluation is summarised in a rating along a spectrum from highest quality investment grade to speculative or AAA (Aaa) to D. Bonds rated in the BBB category or higher are considered investment grade; securities with ratings in the BB category and below are considered “high yield,” or below investment grade. Ratings usually affect the interest rate a bond issuer must pay to attract investors—lower rated issuers pay higher rates.
Credit risk
The risk for bond investors that the issuer will default on its obligation (default risk) or that the bond value will decline and/or that the bond price performance will compare unfavourably to other bonds against which the investment is compared due either to perceived increase in the risk that an issuer will default (credit spread risk) or that a company’s credit rating will be lowered (downgrade risk).
Currency risk or exchange rate risk
Investors who invest in a government bond that is not in his/her home currency face currency or exchange rate risk since the value of his/her investment could go down as well as up depending on what happens to the currency exchange rate.
Current yield
The ratio of annual interest payments from a bond to the actual market price of the bond, stated as a percentage. For example, a bond with a current market price of €1,000 that pays €80 per year in interest would have a current yield of 8%.
CUSIP,ISIN
CUSIP and ISIN are systems that provide unique identifying information for securities, including bonds, commercial paper and shares. Not all issuers use the ISIN numbering scheme.
Dated date (or issue date)
The date of a bond issue from which the first owner of a bond is entitled to receive interest.
Debenture
A debenture is an unsecured bond, whose holder has claim of a general creditor on all assets of an issuer not specifically pledged to secure other debt.
Default
Failure to pay principal or interest when due. Defaults can also occur for failure to meet non-payment obligations, such as reporting requirements, maintenance of collateral or financial covenants, or when a material problem occurs for the issuer, such as an insolvency or bankruptcy. A bond issuer that defaults may not repay principal at maturity or pay interest when it becomes due or both. For bond issuers, conditions for default are defined in a legal document called a “bond indenture.”
Default risk
The risk to bondholders that the issuer is unable to meet principal and/or interest payments when due.
Derivative
Derivatives are complex and varied financial instruments with values that change in response to changes of the underlying assets, interest rates, currency exchange rates or indices. The main types of derivatives are futures, forwards, options and swaps. Derivatives are sometimes known as “synthetics.”
Discount
The amount by which the purchase price of a security is less than the principal amount, or par value.
Discount note
Short-term obligations issued at discount from face value, with maturities ranging from overnight to 360 days. They have no periodic interest payments; the investor receives the note’s face value at maturity.
Discount rate
The key interest rates central banks charge on overnight loans to commercial and member banks. The European Central bank focuses on three key interest rates for the Euro area as its way to manage inflation and the economy: the main short term lending interest rate on the main refinancing operations (MRO); the rate on the deposit facility which banks may use to make overnight deposits; the rate on the marginal lending facility, which offers overnight credit to banks. The rates are closely watched by markets as setting these rates are a prime way for a central bank to manage inflation. Commercial banks use the discount rate as a benchmark for the interest rates they charge on other financial instruments and products, including commercial and consumer loans.
Discounting
The opposite of compounding, discounting allows an investor to multiply an amount by a discount rate to compute the present or discounted value of an investment. As an example €1,000 compounded at an annual interest rate of 10% will be €1,610.51 in five years. The present value of €1,610.51 realized after five years of investment is €1,000, when discounted at an annual rate of 10%.
Diversification
A strategy by which an investor distributes investments among different asset classes and within each asset class among different types of instruments in order to protect the value of the overall portfolio in case of changes in market conditions or market downturn. For example, a diversified bond portfolio might include different types of bonds and/or bond funds with different maturities and coupons.
Downgrade risk or credit risk
Downgrades result when rating agencies lower their rating on a bond-for example, a change in a Standard & Poor’s rating from a B to a CCC rating. Downgrades are usually accompanied by bond price declines and may change a bond from an investment grade rating to a speculative grade rating. In some cases, the market anticipates downgrades by bidding down prices prior to the actual rating agency announcement. Before bonds are downgraded, agencies often place them on a “creditwatch” status, which also tends to cause price declines.
Dual-currency bonds
Dual-currency bondsare bonds in which principal payments are in one currency and coupon payments are in another currency. This type of bond is used for foreign bonds, when an issuer issues bonds in a foreign country and makes coupon payments in that country’s currency, but principal payments are made in the currency of the issuer’s country of residence.
Duration
The effect that each 1% change in interest rates has on a bond’s market value. Duration takes into account a bond’s interest payments in measuring bond price volatility and is stated in years. As an example, a 5 year duration means that a bond will decrease in value by 5% if interest rates rise 1% and increase in value by 5% if interest rates fall 1%.
Duration risk
The duration of a bond is a measure of its price sensitivity to interest rates movements, based on the average time to maturity of its interest and principal cash flows. Duration enables investor to more easily compare bonds with different maturities and coupon rates by creating a simple rule: with every percentage change in interest rates, the bond’s value will decline by its modified duration, stated as a percentage. Modified duration is the approximate percentage change in a bond’s price for each 1% change in yield assuming yield changes do not change the expected cash flows. For example, an investment with a modified duration of 5 years will rise 5% in value for every 1% decline in interest rates and fall 5% in value for every 1% increase in interest rates.
Early amoritisation risk
Most revolving ABS are subject to early-amortisation events—also known as payout events or early calls. A variety of developments, such as the following, may cause an early-amortisation event: insufficient payments by the underlying borrowers; insufficient excess spread; a rise in the default rate on the underlying loans above a specified level; a drop in available credit enhancements below a specified level; and bankruptcy on the part of the sponsor or the servicer.
Early call risk
The risk to bond investors that high-yielding bonds will be called early, with the result that proceeds may be reinvested at lower interest rates.
Economic indicator
Statistical measures of current conditions in an economy. “Leading” economic indicators such as those that track consumer confidence, factory orders, or money supply may signal short term economic strength or weakness. “Lagging” economic indicators such as business spending or unemployment figures move up or down as the economy strengthens or weakens. Economic indicators together provide a picture of the overall health of an economy or economic zone and how bond prices and yields might be affected.
Economic risk
Economic risk describes the vulnerability of a bond to downturns in the economy. Virtually all types of high-yield bonds are vulnerable to economic risk. In recessions, high-yield bonds typically lose more principal value than investment-grade bonds. If investors grow anxious about holding low-quality bonds, they may trade them for the higher-quality debt, such as government bonds and investment-grade corporate bonds. This “flight to quality” particularly impacts high-yield issuers.
Embedded option
A provision within a bond giving either the issuer or the bondholder an option to take some action against the other party. The most common embedded option is a call option, giving the issuer the right to call, or retire, the debt before the scheduled maturity date.
Emerging Market bonds
Emerging market bonds usually include government (or “sovereign”) bonds; sub-sovereign bonds and corporate bonds. Domestic emerging market bonds—those issued within an emerging market country—make up about ¾ of the amount of debt in the emerging market bond markets but because it can be difficult for a variety of reasons to trade in domestic emerging bonds, emerging market bonds held by foreign investors are usually foreign or external emerging market bonds. The majority of external emerging market bonds are government bonds.
EURIBOR (Euro InterBank Offered Rate)
EURIBOR are Euro-denominated interest rates charged by Eurozone banks for Euro-denominated loans among themselves. Because banks involved in setting EURIBOR are among the largest and most credit worthy participants in the EU money market, these rates have become the key benchmark for short-term interest rates within the Eurozone affecting mortgages and other consumer loans.
Euro
The name of the common currency in the European Monetary Union which replaced the national currencies of participating countries in 2002. Demarcated with EURO or €.
Eurobond
Eurobonds are bonds that are denominated in a currency other than that of the country in which they are issued. They are usually issued in more than one country of issue and traded across international financial centres. Supranational organisations and corporations are major issuers in the Eurobond market.
European Central Bank (ECB)
Central bank of the European Monetary Union, whose member countries use the Euro as currency. ECB is based in Frankfurt, Germany and oversees monetary policy, issues currency and sets short-term interest rates with a goal of price stability and control of inflation.
European Commission (EC)
The European Commission is the institution of the European Community which recommends broad guidelines for the economic policies in the Community, monitors public finances and initiates procedures on excessive deficits.
European Union (EU)
The European Union, formerly known as the European Community (EC) or the European Economic Community (EEC), is an economic and political alliance of European nations joined together under common legislation for the purpose of economic stability and to enhance political, economic and social co-operation. EU decision-making processes involves a number of institutions, including the Council, European Parliament and European Commission. Some countries in the European Union, such as Denmark and the United Kingdom, have not adopted the Euro as their currency.
Euro-zone
The European Union Countries that use the Euro as the single currency and in which a single monetary policy is conducted under the responsibility of the European Central Bank. In sharing a common currency, the member states of the European Economic and Monetary Union (EMU) are governed by the same monetary policy but this uniformity does not extend at the country level to alignment of all economic, regulatory and fiscal matters, including matters of taxation.
Event risk
Company and industry “event” risk encompasses a variety of pitfalls that can affect a company’s ability to repay its debt obligations on time. These include poor management, changes in management, failure to anticipate shifts in the company’s markets, rising costs of raw materials, regulations and new competition. Events that adversely affect a whole industry can have a blanket effect on the bonds of its members. Other types of bonds also have event risk for bond investors created by the possibility of unexpected events such as natural or man made disasters.
Excess spread
The net amount of interest payments from the underlying assets after bondholders and expenses are paid and after all losses are covered. Excess spread may be paid into a reserve account and used as a partial credit enhancement or it may be released to the seller or the originator of the assets.
Exchange rate risk or currency risk
Investors who invest in a government bond that is not in his/her home currency face currency or exchange rate risk since the value of his/her investment could go down as well as up depending on what happens to the currency exchange rate.
Exchange traded funds (ETFs)
Fixed income exchange-traded funds (ETFs), whose shares are traded on major stock exchanges, are a special type of fund designed to track the performance of a specific bond market index. Different ETFs offer investors the opportunity to achieve broad or targeted bond market exposure. ETFs are also created and managed by financial firms, but not necessarily by the same institutions that create and manage the index on which they are based. Common brand names for ETFs include iShares, SPDRs (short for Standard& Poor’s Depository Receipts, also known as “spiders”), Diamonds and Vipers. ETFs based on equity indices are more common, but some of these brands include fixed income ETFs as well. Unlike most bonds, ETFs generally trade on organised exchanges, hence the name exchange-traded funds.
Exchangeable bond
A bond with an option to exchange it for shares in a company other than the issuer.
Expected maturity date
The date on which principal is projected to be paid to investors. It is based on assumptions about collateral performance.
Extension risk
The risk that rising interest rates will slow the anticipated rate at which mortgages or other loans in a pool will be repaid, causing investors to find that their principal is committed for a longer period than expected. As a result, they may miss the opportunity to earn a higher rate of interest on their money.
Face amount or face value
Par value (principal or maturity value) of a security appearing on the face of the instrument and representing the amount the issuer has borrowed. In the secondary market where most individual investors participate, bonds may trade at a discount, which is less than face value, or at a premium, which is more than face value.
Fallen angel
A corporate bond which when issued was investment-grade rated by credit rating agencies such as Standard & Poor’s or Moody’s but is now downgraded due to a deteriorated financial situation.
Federal funds rate
The interest rate charged by US banks on loans to other banks. The US central bank Federal Reserve’s ability to add or withdraw reserves from the US banking system gives it close control over this rate. Changes in the US federal funds rate are sometimes studied by economists and investors for clues to US Federal Reserve intentions.
Final maturity date
The date on which the principal must be paid to investors, which is later than the expected maturity date. Also called legal maturity date.
Fixed-rate bonds
Sometimes known as a conventional or plain vanilla bond, this is a bond that pays a regular fixed interest rate over a fixed period of time to maturity with the return of principal on the maturity date.
Floating-rate bond or Floating-rate note (FRN)
A bond for which the interest rate is adjusted periodically according to a predetermined formula, usually linked to an index or to a reference rate such as LIBOR or EURIBOR. Sometimes called Floating-rate note (FRN).
Floor
The lower limit for the interest rate on a floating—rate bond.
Foreign bonds
Foreign bonds are denominated in the currency of the country in which a non resident or foreign issuer actually issues the bond. These bonds trade similarly to other bonds in the domestic market in which they are issued. For example, Bulldog bonds are sterling denominated bonds issued in the UK by a non-UK issuer. Yankee bonds are dollar denominated bonds issued in the US by a non-US issuer. Rembrandt bonds are issued in the Netherlands; Matador bonds in Spain, etc. The most important country for foreign bond issues has been the US dollar market.
Foreign currency-linked bonds
Foreign currency-linked bondsare bonds linked to changes in foreign currency. Unlike foreign currency denominated bonds in which case all the payments are made in that currency, for foreign currency-linked bonds, the amount is linked to a foreign currency exchange rate. This type of bond is used in countries with unstable or weak currencies.
French government bonds
French Government Bonds are also known as OATs, (Obligations Assimilables du Trésor) which are longer term bonds. There are also BTF (Bons du Trésor à taux fixe et à intérët précompté) short-term bonds and BTANs (Bons du Trésor à taux fixe et à intérët annuel) medium term bonds with a maturity of two to five years. Agence France Trésor (ATF) is the Department of the French Finance Ministry responsible for managing public debt and the Treasury.
Futures
Financial futures are a contract agreeing to buy or sell a specified amount of an underlying financial instrument at a specific price on a specific day in the future. The price is agreed to at the time of the contract. Financial futures are usually of three main types: interest rate futures; stock index futures or currency futures. Because futures are complicated and risky, with the potential for losses not limited to your original investment, futures products are not suitable for many individual investors.
General obligation bond
A US municipal bond secured by the pledge of the issuer’s full faith, credit and taxing power.
German government bonds or bunds
German bonds are known as Bunds (from Bundesanleihen). Bund maturities range from four to thirty years. Other bonds, such as five year federal notes “Bobls” (from Bundesobligationen); two year maturity federal Treasury notes “Schatze” and Federal savings notes (Bundesschatzbriefe) are also purchasable by individuals. Inflation-linked German Government Bonds have been added recently to bond market offerings. The German Government Bond issuance is considered a “gold standard” or benchmark in Europe (even after the creation of the Euro).
Gilts or UK government bonds
Government bonds issued by the United Kingdom are also called gilt-edge securities, or gilts—and sometimes Treasury Stock. Gilts are issued by the UK Debt Management Office on behalf of Her Majesty’s Treasury and are listed on the London Stock Exchange. Most gilts are sold with a fixed rate of interest for the life of the bond, paid semi-annually, with full repayment of the face value on maturity (sometimes called “bullets”). UK government securities are considered one of the highest quality bonds in the world because the UK has never defaulted on an issue (although past results are not a guarantee that there will be no default in the future).
Global bond
Global bonds are bonds issued in several countries’ currencies simultaneously.
Government bond
A bond issued by a central or sovereign government. Among the types of European Government bonds are: Gilts (UK); OATs (France); Bunds (Germany); BTPs (Italy). US Treasuries are US Government issued bonds.
Hedge
An investment made with the intention of minimizing the impact of adverse movements in interest rates or securities prices.
High-yield bond
There are two categories of corporate bonds for investors--investment-grade corporate bonds and speculative-grade bonds, also known as high-yield or the investor might hear the word “junk”. Speculative-grade bonds are issued by corporations that are perceived to have a lower level of credit quality compared to more highly rated, investment-grade, corporate issues. Speculative-grade refers to the fact that originally banks were not allowed to invest in bonds beyond the four investment grade ratings because the bonds were too speculative, too risky. The speculative-grade category has six levels of ratings.
Illiquid
A market is illiquid when there is insufficient cash flowing to meet financial debts or obligations. In the context of bonds or other investments, illiquid refers to a bond or other investment that cannot be converted into cash quickly or near prevailing market prices. Liquid investments or assets are defined as those that can be converted into cash quickly and without great impact on the price of the asset.
Index
A way to report change in a financial market, collective markets, or an economy, usually expressed as a percentage and as points of change (up (+) or down (-). There are many market and economic indices, each tracking and measuring a different set of data; each also tracks change from a specific starting date. Investors and financial professionals may use a particular index as a performance benchmark against which to measure the return of investments that are similar to those measured by the index. Indices may be “weighted” which means that certain factors in the data are given more significance or weight in the index.
Index fund
A bond index fund is designed to mirror the performance of a particular bond index, by keeping pace with the index, not outperforming it.
Index-linked bonds
Bonds whose face value and interest payments are linked to an index. The best known are inflation-linked bonds, in which the face value and interest payment are linked to a consumer retail price index, and thus the investor receives a return that is inflation protected. Many governments now issue inflation-indexed or index-linked bonds. The way index-linked bonds work varies from country to country.
Inflation
The rate of increases in the price of goods and services usually measured on an annualised basis.
Inflation risk
The risk to bond investors that the fixed value of bond holdings might erode with a sustained increase in inflation rates.
Institutional investors
Large organisational entities with significant amounts of money to invest such as insurance companies, pension funds, investment companies and unit trusts. Institutional investors account for a majority of overall volume in the bond markets.
Interest
Compensation paid or to be paid for the use of money, generally expressed as a percentage rate. The rate may be constant over the life of the bond (fixed-rate) or may change from time to time by reference to an index (floating-rate).
Interest rate or market risk
While investors are effectively guaranteed to receive interest and principal as promised, the underlying value of the bond itself may change depending on the direction of interest rates. As with all fixed-income securities, if interest rates in general rise after a bond is issued, the value of the issued security will fall, since bonds paying higher rates will come into the market. Similarly, if interest rates fall, the value of the older, higher-paying bond will rise in comparison with new issues. Interest rate risk is also known as market risk.
Interest-rate Swaps
Interest-rate swaps are a derivative financial instrument which exchange or swap fixed rate interest rate payments for floating rate interest rate payments. Usually these swaps are an agreement between to parties to exchange one stream of interest payments for another over a set period of time. Plain, “vanilla” swaps are the most commonly used type of interest rate swap in the market. Investors use interest-rate swaps for debt portfolio management; corporate finance; to lock in interest rates; and to manage and hedge risk. . It is important for an individual investor to understand that swaps are between institutions and not between individual investors; however, the result of these swaps may affect his/her portfolio or the price he/she may pay for a particular bond.
Investment grade
Bonds considered suitable for purchase by prudent investors toward preservation of invested capital. Bonds rated Baa3 and above by Moody’s and BBB- and above by Standard & Poor’s and Fitch Ratings are considered investment grade.
ISIN,CUSIP
ISIN and CUSIP are systems that provide unique identifying information for securities, including bonds, commercial paper and shares. Not all issuers use the ISIN numbering scheme.
Issue Date
The date of a bond issue from which the first owner of a bond is entitled to receive interest.
Issuer
An entity which issues and is obligated to pay principal and interest on a debt security.
Italian Government Bonds or BTPs
Italian Government Bonds are issued by the Dipartimento del Tesoro. The Ministry of the Economy and Finance issues different types of Government bonds that are held by both individual investors and institutional investors: short term BOT bonds (Buoni Ordinari del Tesoro) with maturities up to 365 days; CTZ’s (Certificati del Tesoro Zero Coupon), which like BOTs are zero coupon bonds, with maturities of 24 months; BTPs Italian Treasury bonds (Buoni del Tesoro Poliennali), with maturities of three, five, ten, fifteen and thirty years; and CCT Treasury certificates (Certificati di Credito del Tesoro), floating rate securities that have a 7 year maturity.
Junk bond
In some cases, the term “junk bonds” is used to refer to all high-yield bonds—i.e., those that are rated below investment grade or are not rated. In other cases, the term refers to the lower tiers of high-yield bonds in credit quality. Many of today’s high-yield bonds, particularly those rated Ba by Moody’s or BB by other rating agencies, are not considered “junk.”
Laddering
Investment strategy to reduce the impact of interest-rate risk by structuring a portfolio with different bond issues that mature at different dates.
Legislative risk
The risk that a change in the tax code could affect the value of taxable or tax-exempt interest income.
Leverage
The use of borrowed money to increase investing power.
LIBOR (London Interbank Offered Rate)
LIBOR, short for London Interbank Offered Rate, is the index of interest rates that banks offer each other in the London wholesale money markets for maturities ranging from overnight to one year. LIBOR rates are a standard global benchmark for short-term interest rates and are denominated in the British pound (GBP), the US dollar (USD) and many other world currencies.
Liquidity or Marketability
A measure of the relative ease and speed with which a security can be purchased or sold in the secondary market at a price that is reasonably related to its actual market value. For example, liquid investments or assets are defined as those that can be converted into cash quickly and without great impact on the price of the asset so buyers can be found for a bond if an investor wants to sell.
Liquidity risk
The risk to bondholders that bonds cannot be sold quickly or at a good price.
Market or interest rate risk
While investors are effectively guaranteed to receive interest and principal as promised, the underlying value of the bond itself may change depending on the direction of interest rates. As with all fixed-income securities, if interest rates in general rise after a bond is issued, the value of the issued security will fall, since bonds paying higher rates will come into the market. Similarly, if interest rates fall, the value of the older, higher-paying bond will rise in comparison with new issues. Interest rate risk is also known as interest rate risk.
Maturity
A bond’s maturity refers to the specific future date on which the investor’s principal will be repaid. Bond maturities generally range from one day up to 30 years. There is a market in Euros for bonds with maturity up to 50 years. In some cases, bonds have been issued for terms of up to 100 years. Maturity ranges are often categorised as follows:
Maturity date
The date of maturity is the day when the bond’s term ends and the principal amount of a security is payable along with any final interest payment. Most bonds have a fixed maturity date (although many may be “called” prior to maturity). Also called redemption date.
MiFID
European Union-wide directive on the provision of, and trading in, financial services and products includes rules to protect clients of financial services organizations, MiFID, came into effect November 1, 2007. In general, the key is that when an investor is making an investment decision, the regulations require that investors need to be adequately informed by investment firms and investment professionals about the nature of the product or service being proposed for investment and the risks in that particular investment. If you are classified as a retail client - and individual investors are likely to be - you will be given the most information.
Modified duration
A measure of the approximate change in bond price for a 1% or 100 basis point change in yield assuming the bond's expected cash flows do not change when the yield changes. Modified duration is inversely related to the approximate percent change in price for a given change in yield. Modified duration is not a new definition for duration but rather a particular formula for duration.
Monolines or monoline insurance companies
Monolines or monoline insurance companies guarantee the timely repayment of bond principal and interest when an issuer defaults. They are called monoline because they insure only one category of risk and provide financial guarantees, or insurance protection, to buyers of a wide variety of financial and capital market instruments, including in the public sector and for infrastructure projects.
Mortgage pass-through
A security representing a direct interest in a pool of mortgage loans. The pass-through issuer or servicer collects payments on the loans in the pool and “passes through” the principal and interest to the security holders on a pro rata basis.
Mutual fund
Also known as an open-end investment company, to differentiate it from a closed-end investment company. Mutual funds invest pooled cash of many investors to meet the fund’s stated investment objective. Mutual funds stand ready to sell and redeem their shares at any time at the fund’s current net asset value: total fund assets divided by shares outstanding. Sometimes bond funds are called bond mutual funds, but the term mutual fund related to a bond fund is not used widely in Europe.
Nominal value
The face value of a bond (as opposed to the amount an individual investor might have paid for the bond).
Non-callable bond
A bond that cannot be called for redemption by the issuer before its specified maturity date.
OATs or French government bonds
French Government Bonds are also known as OATs (Obligations Assimilables du Trésor), which are longer term bonds. There are also BTF (Bons du Trésor à taux fixe et à intérët précompté) short-term bonds and BTANs (Bons du Trésor à taux fixe et à intérët annuel) medium term bonds with a maturity of two to five years. Agence France Trésor (ATF) is the Department of the French Finance Ministry responsible for managing public debt and the Treasury.
Offer
The price at which a seller will sell a security.
Offering price
The price at which members of an underwriting syndicate for a new issue will offer securities to investors.
Open-end index fund
An open-end index fund continuously issues and redeems shares based on investor demand. As an index fund, its investment objective is to duplicate the performance of the index it uses as a benchmark.
Open-ended Investment Company –OEIC-- or Bond Unit Trusts or SICAVs
Investors in unit trusts, which are operated by investment management companies, receive units in a fund, the price of which are calculated on a daily basis (value of the portfolio of the fund divided by the number of units). There are different categories of legal forms of these funds found in Europe.
Par value
The principal amount of a bond or note due at maturity.
Paying agent
Place where principal and interest are payable—usually a designated bank or the office of the treasurer of the issuer.
Pfandbriefe
Bond issued by German mortgage banks that is collateralised by long-term assets. These types of bonds represent the largest segment of the German private bond market and are considered some of the safest debt instruments in the private sector.
Point
If a bond price changes from 100 to 101, it has changed a point. A one point change in the price of a bond affects the bond’s currency denomination value by 1% of the face value. For example, a point is worth €1 when a bond has a €100 face value.
Portfolio
The group of investments that an individual or institutional investor holds.
Premium
The amount by which the price of a bond exceeds its principal amount.
Prepayment
The unscheduled partial or complete payment of the principal amount outstanding on a mortgage or other debt before it is due. Rules related to prepayment are more restrictive in Europe than in the US.
Prepayment risk
The risk that falling interest rates will lead to heavy prepayments of mortgage or other loans—forcing the investor to reinvest at lower prevailing rates. Rules related to prepayment are more restrictive in Europe than in the US.
Primary market
The market for new issues when bonds are first sold to investors by an issuer.
Principal
The face value amount of a bond, payable by the borrower to the lender/investor at maturity.
Prior charge
The claim that a bondholder may have on the assets of a company in the event of liquidation ahead of other asset holders.
Prospectus
Documents provided to investors who are considering investing in financial instruments such as shares, bonds, bond funds, investment trusts, etc. The prospectus details the investment’s objectives, the nature of the investment, past performance, information on the investment company or managers, etc.
Put
Contract enabling the option holder to sell a bond to the other party at a set price until the contract expires.
Puttable bond
Bond that gives holder the option to sell the bond back to the issuer on pre-set terms.
Rating service
A rating service such as Standard & Poor’s, Moody’s, Fitch Ratings, etc. evaluates bond issuers on a specific set of objective criteria that determines the level of risk their bond issues pose to investors along a spectrum from highest quality investment-grade to speculative investments (ratings AAA (Aaa) being the highest to D being the lowest).
Ratings or credit ratings
Designations used by credit rating agencies to give relative indications of credit quality of bond issuers by formally evaluating an issuer on a specific set of objective criteria such as a company’s financial health and ability to repay debt obligations. Each major rating service in Europe and the US, such as Standard & Poor’s, Moody’s and Fitch Ratings, uses somewhat different criteria to assess issuers but the evaluation is summarised in a rating along a spectrum from highest quality investment grade to speculative grade or ratings AAA (Aaa) to D. Bonds rated in the BBB category or higher are considered investment-grade; securities with ratings in the BB category and below are considered “high yield,” or below investment-grade. Ratings usually affect the interest rate a bond issuer must pay to attract investors—lower rated issuers pay higher rates.
Redemption date (maturity date)
The redemption date is the day when the bond’s term ends and the principal amount of a security is payable along with any final interest payment. Also called maturity date.
Redemption yield
Annual percentage return received by investor if the bond is held to maturity, a calculation often used to compare bonds. Also called true return. The redemption yield on the bond is a function of the price paid for the bond (which will almost always differ from its face, or par, value), the coupon rate and the length of time to go to maturity. What is needed to work out a redemption yield is the coupon, the frequency of coupon payments, the price of the bond, the trade settlement date, the maturity date of the bond, and the repayment value (usually 100). Fortunately it is rare that investors need to calculate a redemption yield from scratch. Bond yields are listed in the financial pages, on financial web sites like Bloomberg.com and FT.com, or can be worked out with relative ease using the function in a spreadsheet or a pocket financial calculator.
Reinvestment risk
The risk to bond investors that interest income or principal repayments will have to be reinvested at lower rates in a declining rate environment. Zero-coupon bonds do not have interest payment reinvestment risk.
Repo (Repurchase) market
Arrangements through which market professionals agree to repurchase various types of securities at a price and date set prior to the sale. In effect, a repurchase agreement is a collateralised loan in which the securities serve as collateral. The repo market is used by financial institutions to finance the purchase of securities, lend excess funds and raise short term capital.
Residential Mortgage backed Securities (RMBS)
Mortgage securities represent an ownership interest in mortgage loans made by financial institutions (savings and loans, commercial banks or mortgage companies) to finance the borrower’s purchase of a home or other real estate. Mortgage securities are created when these loans are packaged, or “pooled,” by issuers or servicers for sale to investors. As the underlying mortgage loans are paid off by the homeowners, the investors receive payments of interest and principal.
Retail investors
Individual investors who invest smaller amounts of money in the markets than institutional investors.
Revenue bond
A US municipal bond (a sub-sovereign type of bond) payable from revenues derived from tolls, charges or rents paid by users of the facility constructed with the proceeds of the bond issue.
Revolving trust
A securitisation structure frequently used for assets with high turnover rates, such as credit card, trade and dealer floor-plan receivables. It is characterized by having a revolving period and an accumulation (or controlled-amortisation) period.
Ring fencing
A new term that essentially represents the series of steps involved in securitisations where assets are made "bankruptcy remote" or "bankruptcy proof." The goal of ring fencing is to enable such assets to stand independent of any bankruptcy or reorganization of the ultimate or immediate parent of the entity that holds the relevant assets.
Risk and risk tolerance
The chance that an investment will go down in value or up in value sharply in a unpredictable or volatile manner. All investments have some level of risk, since returns on investments are not guaranteed. If an investor is unwilling to take a chance that an investment might drop in value, the investor is said to have little or no risk tolerance. There are different kinds of risk in bond investments. Defining what is an acceptable level of risk may vary from investor to investor and change over time.
Running yield or simple yield or income yield
The coupon of a bond expressed as a percent of the price of the bond. An example is a 20-year bond with a coupon of 6% selling at 120 has a simple yield of 5% (6 x 100/120).
Seasoning
The age of accounts. In the ABS market, this term refers to the fact that various asset types have different seasoning patterns, which are characterized by periods of rising and then declining losses.
Secondary market
Market for issues previously offered or sold.
Securitisation
Securitisation may be broadly defined as the process of issuing new securities backed by a pool of existing assets such as loans, residential or commercial mortgages, credit card debt, or other assets. These securities, which are generally referred to as “mortgage or asset-backed securities” or “RMBS or ABS,” are issued and sold to investors (principally institutions) and the cash flows or economic values following the assets are redirected to them.
Security
Collateral pledged by a bond issuer (debtor) to an investor (lender) to secure repayment of the loan.
Selection risk
The risk that an investor chooses a security that underperforms the market for reasons that cannot be anticipated.
Senior debt
Bonds ranked for repayment ahead of all other debt in the event of corporate liquidation except for debentures secured on specific assets.
Settlement date
The date for the delivery of securities and payment of funds.
Share
A share is a unit of ownership in a corporation, or a mutual fund or an interest in a partnership. In the US, the term stock is often used instead of share, although an investor actually owns shares of stock.
SICAV –investment company with variable capital--Bond Unit Trusts or OEICs
Investors in unit trusts, which are operated by investment management companies, receive units in a fund, the price of which are calculated on a daily basis (value of the portfolio of the fund divided by the number of units). There are different categories of legal forms of these funds found in Europe.
Sinker
A bond with a sinking fund.
Sinking fund
Money set aside by an issuer of bonds on a regular basis, for the specific purpose of redeeming debt.
Sovereign risk
The risk that the government in the country where the bonds are issued will take actions that will hurt the bond’s value.
Spanish government bonds--Bonos and Obligaciones del Estado
Spanish government bonds are obligations of the Spanish government issued by the Spanish Public Treasury. Letras del Tesoro are short term treasury bills with maturities of 6 months, 12 months and 18months; Bonos y Obligaciones del Estado are Treasury bills with exactly the same features except for different maturities. The Treasury currently issues Government bonds with 3 and 5 year maturities; and obligaciones with maturities of ten, fifteen and thirty years.
Special-purpose vehicle (SPV)
Financial institutions that originate loans sell pools of loans to a special-purpose vehicle (SPV), whose sole function is to buy such assets in order to securitise them. In Europe, the SPV is usually a company, although in the US, trusts are utilised as issuing vehicles. The SPV repackages the loans as interest-bearing securities and actually issues them. The “true sale” of the loans by the sponsor to the SPV provides “bankruptcy remoteness,” insulating the trust from the sponsor. The securities, which are sold to investors by the investment banks that underwrite them, are “credit-enhanced” with one or more forms of extra protection—whether internal, external or both.
Spread
The difference between the yields (yield spread) or the differences between the prices (price spread) of two bonds or between a bond yield and a recognized benchmark yield. Investors use spreads to compare past behaviour of similar bonds with different maturities, different bond sectors, different credit ratings etc. Spreads are usually displayed in basis points.
STRIPS
“Separate Trading of Registered Interest and Principal of Securities.” This is the mechanism by which zero-coupon bonds are created.
Structured products
Many different types of products are “structured” to some extent. “Structuring” usually refers to any type of obligation that is not a straightforward secured or unsecured government or corporate obligation. Although these types of transactions are usually issued through special purpose vehicles, this is not always the case. For example, securitisations are one type of structured product. Another type of structured product refers to a packaging or repackaging of bonds together with various types of interest rate swaps and/or credit derivatives to change the interest and principal payment stream, in order to provide an investor with a particular risk profile that they want. In some cases, these products are also called “structured credit” if they involve products with some type of corporate or asset-related credit risks. Due to the complexity of structured products, they are rarely part of traditional retail investor portfolios or fund offerings.
Subordinated (junior) debt
Bonds ranked for repayment behind debentures secured on specific assets and senior debt in the event of corporate liquidation.
Sub-Sovereign bond
The Sub-Sovereign bond market is defined first as any level of government below the national or central government, which includes regions, provinces, states, municipalities, etc. that issues bonds. In Europe, the sub-sovereign market is primarily one dominated by government agencies and supranational institutions such as the World Bank, KfW (Kreditanstalt Für Wiederaufbau-German Development Bank) and the European Investment Bank (EIB). As European countries have increasingly become one market, the growth of the sub-sovereign bond market has been significant as well.
Surety bond
A bond that backs the performance of another. In the ABS market, a surety bond is an insurance policy typically provided by a rated and regulated monoline insurance company to guarantee securities holders against default.
Swap
Simply, the sale of a block of bonds and the purchase of another block of similar market value. Swaps may be made to achieve many goals, including establishing a tax loss, upgrading credit quality, extending or shortening maturity, exchanging fixed rate liabilities for floating ones and vice versa, etc. Bond swaps are sometimes called switches. Note that interest rate swaps are different financial instruments, derivatives, and not what is being referred to here.
Timing risk
The risk that an investment performs poorly after its purchase or better after its sale.
Total return
A measure of bond investment return that includes both interest and price change. Expressed as a percentage of the cost of the investment on an annualized rate, it is the combination of annual income yielded by an investment, plus or minus the capital gain or loss and it assumes reinvestment of all interest back into the investment.
Trade date
The date when the purchase or sale of a bond is transacted.
Tranche
Classes in certain types of securities that have different interest rates, maturities, levels of risk, etc but share similar characteristics within each class. For example, Collateralised Mortgage Obligations (CMOs) are made up of a number of different classes--or tranches--of debt, each class of which may differ from the others in the interest rate paid, the date of maturity, the level of risk, or other distinguishing differences. When such securities are sold, each of the tranches is sold separately. Tranche is the French word for “slice.”
Transfer agent
A party appointed by an issuer to maintain records of securities owners, to cancel and issue certificates, and to address issues arising from lost, destroyed or stolen certificates.
Treasuries—US government bonds
US Treasury securities—such as bills, notes and bonds—are debt obligations of the US government. Because these debt obligations are backed by the “full faith and credit” of the US government, and thus by its ability to raise tax revenues and print currency, US Treasury securities are considered the safest of all investments. They are viewed in the market as having no “credit risk,” meaning that it is virtually certain your interest and principal will be paid on time. (Foreign buyers of US Treasuries, however, do have risk of currency exchange rate changes.)
True sale
An actual sale, as distinct from a secured borrowing, which means that assets transferred to an SPV are not expected to be consolidated with those of the sponsor in the event of the sponsor’s bankruptcy. Rating agencies usually require what is called a true-sale opinion from a law firm before the securities can receive a rating higher than that of the sponsor.
Trustee
A bank designated by the issuer as the custodian of funds and official representative of bondholders.
UK government bonds or gilts
Government bonds issued by the United Kingdom are also called gilt-edge securities, or gilts—and sometimes Treasury Stock. Gilts are issued by the UK Debt Management Office on behalf of Her Majesty’s Treasury and are listed on the London Stock Exchange. Most gilts are sold with a fixed rate of interest for the life of the bond, paid semi-annually, with full repayment of the face value on maturity (sometimes called “bullets”). UK government securities are considered one of the highest quality bonds in the world because the UK has never defaulted on an issue (although past results are not a guarantee that there will be no default in the future).
Unit investment trust
Investment fund created with a fixed portfolio of investments that never changes over the life of the trust. As investments within the trust are paid off, they provide a steady, periodic flow of income to investors.
Unsecured debt
Debt with a claim for repayment that ranks last after all other forms of debt securities in the event of a corporate liquidation.
US government bonds--Treasuries
US Treasury securities—such as bills, notes and bonds—are debt obligations of the US government. Because these debt obligations are backed by the “full faith and credit” of the US government, and thus by its ability to raise tax revenues and print currency, US Treasury securities are considered the safest of all investments. They are viewed in the market as having no “credit risk,” meaning that it is virtually certain your interest and principal will be paid on time. (Foreign buyers of US Treasuries, however, do have risk of currency exchange rate changes.)
Volatility
A measure of the degree to which the price of an investment fluctuates sharply. Sometimes used in evaluating risk.
Yield
The annual percentage rate of return earned on a security. Yield is a function of a bond’s purchase price and coupon interest rate.
Yield curve
A graph line plotting yields on a type of bond over a spectrum of maturities ranging from three months to 30 years. Plotting the redemption yields on bonds in order of their redemption date creates a curve that shows the relationship between yields and maturity dates for similar bonds at a given point in time. This allows investors at-a-glance to compare yields offered by short-, medium- and long-term bonds. The yield curve for US Treasury bonds is generally used as a benchmark indicator to determine future interest rates and yields on other kinds of debt.
Yield spread
The difference in yield between two bonds or bond indices.
Yield to call
A yield on a security calculated by assuming that interest payments will be paid until the call date, when the security will be redeemed at the call price.
Yield to maturity (YTM)
A calculation of the total return to a bond investor who holds to maturity. YTM includes interest payments and any difference between the current price and maturity (par) value. It does not include return of principal at maturity. YTM is calculated based on the current market price.
Zero-coupon bond
Bonds which do not carry a coupon (no coupon); the return on the bond comes from the fact that they are sold at a significant discount to the eventual redemption value.

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