Getting started in bonds 2nd edition phần 10 ppt

263 GENERAL American Bankers American Bankers Association: consumers— Association calculators (www.aba.com) Ask Dow Jones Interactive business news and market research (http://ask.djinteractive.com) Bankrate Rates (www.bankrate.com) Bloomberg Rates, market data, news (www.bloomberg.com) BONDTALK.com Headlines, rates, commentary (www.bondtalk.com) Reuters International indexes and news (www.bridge.com) Briefing.com Bond market commentary (www.briefing.com) Bureau of the Public Information and purchase of U.S. Debt Online Treasuries and savings bonds (www.publicdebt.treas.gov) CBS MarketWatch Bond market update (http://cbs.marketwatch.com) Default Risk Papers about fixed income default risk (www.defaultrisk.com) Fixed Income Web Sites General Accounting Office Statistics on tax collections (www.gas.gov) The Bond Market Association Education, rates, historic data, links (www.investinginbonds.com) Investopedia Mostly stocks, but has some bond information (www.investopedia.com) Smart Money Rates; investment strategies (www.smartmoney.com) PUBLICATIONS Barron’s Online Weekly financial newspaper (www.barrons.com) The Bond Buyer Online Daily municipal bond newspaper (www.bondbuyer.com) BondWeek Weekly bond newspaper (www.bondweek.com) Investor’s Business Daily Daily financial newspaper (www.investors.com) Standard & Poor’s Link to CreditWeek, the weekly bond newspaper (www.standardpoor.com) The Wall Street Journal Online Daily financial newspaper (http://online.wsj.com) FIXED INCOME WEB SITES 264 265 accrual bond the bond’s interest is added to the principal amount and isn’t paid out until maturity. accrued interest bond investors earn interest every day, but it is paid out only periodically; most pay semiannually, and a few pay monthly. Accrued interest has been earned by the investor but has not yet been paid out. alternative minimum tax (AMT) this tax applies to 1% of the population. Its intent is for the wealthy to pay taxes on private-purpose municipals. AMT adds together passive losses (such as those from tax shelters and deductions for char- itable contributions) and income from private-purpose tax-exempt bonds, then subtracts a certain amount and taxes a percentage of this income that is above a minimum level. appreciate the investment value rises higher. arrears what was not paid and is owed to someone; back pay. asset-backed security (ABS) security consisting of a group of credit card, auto, boat, or other loans whose loan payments pay its interest. asset class grouping of like securities. Tax-exempt securities, floating rate notes, zero coupon bonds, and international bonds are examples of asset classes. ask the lowest price anyone who owns the security is willing to accept as the selling price. It is the price the bond owner is “asking” for the bonds. This is also known as the offer because it is the price the owner is offering the bonds for to potential buyers. average life the time it is estimated that it will take a mortgage-backed security to return half of the principal to the investor. Also known as average maturity. axe trader jargon (short for “axe to grind”). It means traders have something they want to get rid of. backed the interest payments are pledged to be paid by (e.g., the bond could be backed by a bank, equipment, escrow account, etc.). back-end load mutual fund sales charge that is subtracted from the price when you sell your fund shares; also known as a contingent deferred sales charge (CDSC). basis point (bp) the smallest measure when discussing bond yields; 1 basis point equals .01%. Traders sometimes call them “beeps.” bearer bonds these bonds have attached coupons that are ripped off and turned in for interest. At maturity the bond itself is turned in for the principal Glossary payment. Whoever has the paper is the one who gets the money; there is no other record of ownership. Bearer bonds are now extremely rare in the United States. The Tax Reform Act of 1982 prohibited their issuance to help fight money laun- dering. Ownership is now transferred electronically, and there is no physical bond. bearish bad; negative; down; decreasing in value. In the bond market this means interest rates are headed up and bond prices are going down. bid the highest price anyone is willing to pay for a security in order to buy it. For example, you may say, “I want to earn 7 1 / 2 %,” which for the bond you’re in- terested in might mean a price of 101. Your bid for the bond is 101. That is the price you propose to the present bond owner. bid/ask spread difference between what someone wants to buy the bond for and what someone wants to sell it for. An example of a bid/ask spread is 100- 29/101-01. The ask is always higher than the bid. When the buyer and seller agree on a price, there is a trade—the bonds are sold and ownership transferred. bond debt security. Investors loan the issuer money who pledges to pay back the money plus interest. bond equivalent yield (BEY) a cash equivalent or short-term discount instru- ment’s simple yield will look higher than a coupon bond because the coupon bond pays interest and can be compounded every six months. To compare the two, you must translate the discount’s simple yield into a bond equivalent yield. 365×Discount rate BEY = ————————————————- 360 – (Discount rate ×Days to maturity) To calculate the BEY for money market instruments that use a 360-day year, such as CDs, substitute 360 for 365 in the numerator. book record of the bond trader’s positions—what bonds are owned (long) and what are short. Similar to your portfolio statement. bp see basis point. broker a third party that serves as an agent, trading securities on your behalf. With bonds, brokers will mark up the price when you’re buying and mark down the price when you’re selling. Therefore, their cut is included in the price, so you can’t see how much they’re making. There is no commission like with stocks. Don’t panic. With bonds, comparing yields is more important and relevant than price in determining value. If the broker took “too much”, the yield would become unattractive. bullish good; positive; up; increasing in value. In the bond market this means interest rates are headed down and bond prices are going up. call an option contract that gives the buyer the right to purchase a security from the owner at a specific price before the contract’s expiration date. callable a callable bond can be retired by the issuer before the maturity date. It GLOSSARY 266 is called at a premium, above the price it was issued at, after stipulated dates. For example, a bond could become callable five years after it’s issued at a price of 103. It remains callable at that price until two years later when it becomes callable at a price of 101. If it is not called, it will mature at 100. capital appreciation bonds (CABs) municipal zero coupon bonds that are sold at a deep discount from the maturing face value. capital gains aka cap gains. When you sell an investment for a higher price than you paid for it. Chapter 11 when an entity is unable to pay its debts and has declared protec- tion under the bankruptcy laws. This 1978 law keeps the company in possession of and in control of its business. It allows the creditor(s) and debtor a lot of free- dom to reorganize the business and hopefully be able to pay off the debts and become a viable business again. chart graphing data to create visual representation of trends; used in technical analysis. close price of the last trade for the day. coincident indicator economic measure that tends to give readings that reflect how the economy is currently doing. collar an adjustable rate bond’s maximum and minimum interest rate. The bond will not pay interest higher than the upper collar or lower than its lower collar. collateral hard assets, things that are pledged when someone borrows money. If the borrower does not have money to pay off the loan, the items pledged must be given over. Your house is collateral for your mortgage—if you don’t pay your mortgage, the bank gets your house. collateralized mortgage obligations (CMOs) a security made up of mortgage- backed securities. It is split up into pieces called traunches that are designed to have specific volatility and maturity characteristics. commercial paper short-term securities with maturities from 2 to 270 days; issued by banks, insurance companies, and corporations that have cash to lend out. compounding interest is earned on both the principal and all the interest that was earned before and reinvested. confirm short for “trade confirmation,” this lists all the particulars of the trade. consumer price index (CPI) prices of domestic and imported goods and services purchased by U.S. consumers as calculated by the Bureau of Labor Statistics. contrarian doing the opposite of what the majority is doing. It is kind of similar to using reverse psychology on your kids. A contrarian indicator is an indicator that you’d think would mean the market is likely to move in one direction, but the market actually moves in the other direction. A contrarian investor is one Glossary 267 who does the opposite of what the investing masses are doing. If the majority is buying, he/she is selling and vice versa. conversion ratio set when a convertible bond is issued, this ratio calculates how many shares of common stock each convertible bond can be exchanged for when the bond is converted (conversion ratio equals par value divided by conversion price). (convertible) premium how much more you have to pay for a convert over and above the price it would cost if it were a straight bond. The premium is ex- pressed as a percentage of the convert’s theoretical value. The reason for the premium includes such factors as the ability to convert the bond into common stock and the ability to buy it on margin. convexity Measures the rate of change in a bond’s sensitivity to interest rate moves. It’s the rate of change in a bond’s duration (price volatility). correlated objects are said to be correlated when their actions tend to resemble one another; objects that are not correlated react dissimilarly to events. coupon stipulates how much money the lender/investor will earn. A 10% coupon means the investor will receive 10% of the amount she or he lent for as long as the contract states. For example, $1,000 lent will earn $100 a year until maturity, when the $1,000 is paid back. coupon yield the interest the issuer has promised to pay, an annual percentage of the face value. credit derivative contract between two parties that bets on the future value of another security. credit rating outside evaluation of a borrower’s credit standing and ability to pay financial obligations. In the case of a bond rating, it evaluates the issuer’s ability to pay bond investors the money owed them. crossing bonds the same investment firm acts as agent in a trade between two of its customers without the firm’s trading desk ever owning the bonds. currency risk the risk that the currency your foreign bond is issued in will appreciate in value so your bond’s proceeds will be converted back into fewer dol- lars than they would have been before. current yield to calculate, divide the bond’s annual dollar interest by the current market price. cushion bonds bonds trading in the secondary market that have coupons signif- icantly higher than current interest rates. Their larger coupon offers a cushion against price fluctuations when interest rates move, so these bonds tend to experi- ence less price volatility. Since they are trading at substantial premiums, many investors won’t buy (they erroneously think they are expensive). Therefore, the YTM is often higher than similar bonds with lower coupons, offering an attractive yield pickup. CUSIP number stands for Committee on Uniform Security Identification Pro- cedures number. Pronounced “Q-sip”. Every bond that is issued is assigned a GLOSSARY 268 CUSIP number to identify the issue. It is analogous to the social security number that identifies you. cyclicals bonds issued by companies whose successes tend to follow business cycles: When the economy and consumer demand are strong, the company does well; when they falter, the company also struggles. debenture bond whose interest and principal payments are not secured by hard assets that could be sold if the company goes under. The bond is sold on the basis of the company’s past performance and good name. deflation prices of goods and services are declining. deliverable the security is able to be transferred into an account. It is often not a physical security only an electronic notation. depreciate decline in value. discount price below par; price less than 100. discount bond or zero coupon bond bond sold at a price way below its face value. No interest is paid until the bond matures. At maturity, the principal, interest, and interest-on-interest is paid to the investor. The interest-on-interest calculation assumes semiannual reinvestment of “phantom” interest at the bond’s interest rate. discount rate (1) An annualized rate of return based on the par value of a T-bill; (2) what the Federal Reserve charges member banks on a collateralized loan. It is the base rate that all other interest rates are pegged off. discount window where member banks can borrow money from the Federal Reserve at below market rates if they need to increase their reserves. This borrowing is discouraged and is only used in really tough spots. diversification spreading out your risk by splitting up your investable assets among several different types of securities. The hope is that they will react differ- ently to stimuli, like interest rates or unemployment figures, so your investment returns won’t all go down at the same time. dollar-cost average to invest equal dollar amounts in an investment at equal time intervals. This technique has been found commonly to result in a lower average cost than trying to time the market. double tax-free you don’t have to pay state or federal taxes on the interest you earn from the bond. due diligence period when issuer is checked out to make sure what it asserts to be true is, and to make sure all the ducks are lined up for the new offering. durable goods goods with a life of 3 or more years. duration the measure of bond price volatility in years. Duration equates the bond to a zero coupon bond (e.g., a bond with a 4-year duration has the volatility of a 4-year zero). easy policy also known as being accommodative. The objective is to get more money into the domestic monetary system in an attempt to stimulate the economy. Glossary 269 escrowed to maturity money has been put aside and held in a separate account to pay all of the bond’s future interest and principal payments. The payments are assured and do not come from the issuer any longer. euro ( C = ) common currency shared by 12 European countries that agreed to function as one economic and financial unit beginning in 1999. The monetary system is governed by one central bank. Trade and employment barriers have been dropped. Eurobond bond underwritten by banks and investment firms from several different European countries. Eurobonds can be denominated in any currency. They are sold to investors outside the country whose currency pays the issue’s principal and interest. Eurodollar bond a bond whose principal and interest are paid in U.S. currency held in foreign banks, usually European banks. They are not registered with the SEC. European Union (EU) begun in 1950, the EU has 15 member states, with 13 others soon to be added. It includes countries that have not adopted the euro as their domestic currency. ex-autos short for excluding automobile sales. exercise to use the right you purchased in a futures or option contract. ex-food and energy short for excluding food and energy statistics. face value amount the borrower must pay the investor at maturity. This amount is used to calculate the interest payments. fast markets when prices in the secondary market are rising or falling with ex- treme speed. the Fed short for the Federal Reserve Bank, the United States governing bank authority. Federal Reserve Bank the United States’ central bank, charged with maintaining the health of the country’s banking system. There are 12 Federal Reserve branches owned by the member banks in their region. These branches monitor the member banks to make sure they comply with the Federal Reserve Board reg- ulations. They also provide member banks with emergency funds when needed at below market rates through their discount window. The Federal Reserve is also charged with monitoring and maintaining the country’s economic health. They do this by affecting monetary flows. Fed funds rate the interest rate a bank will charge another bank that needs an overnight loan. fixed income investments also known as bonds. Bond issuers are obligated to pay the income stipulated in the contract until the security matures. At that time the issuer pays back the principal borrowed from the investors. Most bonds have level income payments. A few pay variable income streams that change according GLOSSARY 270 to a set formula. Bonds with their promised income are different from stocks, which pay income only when it is earned. flat the issuer is no longer paying interest on the bond. floor slang referring to a physical location where traders meet face-to-face to trade the securities that are listed with them. An example is the cavernous room where the New York Stock Exchange (NYSE) conducts its trading. front-end load mutual fund’s sales charge that is added onto your purchase price. full employment considered to be around 5.5% unemployment, a level of unemployment that is felt to be transitional (people temporarily out of work or between jobs). If unemployment falls below this level, it is felt inflation pressures will begin to heat up. fundamental analysis researching economic indicators, financial statistics, and issuer’s financial position in an attempt to predict the future direction and be- havior of the economy, interest rates or a certain bond issue. futures a contract agreeing to buy or sell a certain amount of something (e.g., bonds, gold, cattle) at a set price on a specific date. G-8 eight developed nations that have formed a loose economic alliance (for- merly the G-7). Their economies and interest rates tend to move in the same direction. The G-8 includes: Canada, France, Germany, Great Britain, Italy, Japan, Russia, and the United States. global bond bond issued in several countries’ currencies simultaneously. govies trader slang for government securities. guaranteed bond bond backed by some other corporation, for example the issuer’s parent company. handle trader lingo for the part of the bond’s price that is a whole number. When a bond’s price is 98 1 / 4 , the handle is 98. heavy hitters big players, size traders, large investors. hedge fund originally used to mean any mutual fund that uses futures and options defensively to limit risk. Hedge fund now usually refers to speculative funds that use these same techniques as an aggressive tool to compound their investment returns. These funds are known for their excessive volatility; they can give their investors incredibly stellar returns or they can lose most of your money for you. hit trader slang meaning you accept the price and agree to exchange money for the bond. Short for saying, “Yes, I will buy/sell at that price. Let’s trade the bonds.” illiquid the lack of interest in the bond makes it very difficult to sell, because finding buyers is so tough. indenture formal agreement between bond holders and the issuer covering such issues as: type, size of issue, terms, what backs the issue, any provisions that Glossary 271 further protect the investor (such as a sinking fund), call privileges, and appoint- ment of trustee on behalf of bond holders. index bond a sampling of corporate bonds that is supposed to act similarly to a sector of the bond market as measured by an index. indications of interest syndicate members canvas their major clients about their interest in an upcoming new issue to determine if the yield they are think- ing about is too high or too low and whether they have to make adjustments. inflation when prices of goods and services are rising without any improve- ment in productivity or quality. institutional investors large investors such as pension funds and insurance companies. institutional trading sector of the bond market where bonds are traded in very large size—for example, $1 million. The smaller-sized trades done by individuals are usually done on retail trading desks. interest money that a borrower owes the lender in addition to the amount borrowed. It is the cost of borrowing. Lenders demand this additional money for the inconvenience of being unable to use the money they have lent to the borrower. in-the-money the price of the underlying security has moved so that if you ex- ercised the option you would make money. The contract has intrinsic value. Investment Company Institute (ICI) private company that monitors the mutual fund industry. lagging indicator economic measure that tends to show how the economy was doing a while ago. leading indicator economic measure that tends to presage what the economy is going to do in the future. letter of credit (LOC) a bank or large investment firm stands ready to make the issue’s payments should the issuer become unable to make them itself. liquid there is a significant amount of interest in the issue, so buyers can be found if you want to sell. The bond can be easily traded in the secondary market. long owning a bond or other security. lots created when you bundle together a bunch of the same security, usually done to take advantage of economies of scale. M1 currency in circulation, commercial bank demand deposits: NOW (interest- bearing checking) and ATS (automatic transfer from savings) accounts, credit union share drafts, and mutual savings bank demand deposits. M2 includes M1 plus: overnight repurchase agreements issued by commercial banks, overnight Eurodollars savings accounts time deposits under $100,000, and money market mutual fund shares. M3 includes M2 plus: time deposits over $100,000 and term repurchase agreements. GLOSSARY 272 [...]... 241–242 personal, 184, 201 Indenture, 65–66 Index of Coincident Indicators, 207 Index of Lagging Indicators, 207 Index of Leading Economic Indicators (LEI), 206–207 Indications of interest, 128, 130 Indicators: business inventories/sales, 185, 206 car sales, 183, 205 coincident, 198 Commodity Research Bureau (CRB), 190–191, 209 construction spending, 185, 204 consumer price index (CPI), 184, 190–193... 168 Initial jobless claims, 197–198 Initial bond offering, 130 Institute for Supply Management (ISM) Report on Business, 183, 195, 199–200 Institutional investors, 18 Institutional trading, 140–141 284 INDEX Insured municipal bonds, 53–54 Interest: accrued, 142–145, 147 defined, 4, 7 implications of, generally, 88 rate, see Interest rate on U.S savings bonds, 20 Interest rate: callable vs noncallable bonds, ... High-yield bonds, 63–65, 232 Index Hit, 220–221 Home sales, new, 185, 204 Housing starts, as indicator, 184, 204 Illiquid, 131, 236–237 Implicit deflator, 190 Inactive approach to investing: barbell, 248–249 compounding, 244–247 doubling your money, 243 ladder, 239–240 monthly income, 241–242 90 10 strategy, 242–243, 258 systematic investing, 243–244 yield curve, reading guidelines, 250 Income: decreasing,... savings bonds, 22, 24–25 Payroll employment, 198–199 Perpetual preferreds, 104 105 Pickup, 173, 252 Plus, in pricing, 141 286 INDEX Points, in pricing, 138–140 Pooled mortgages, 69–70 Portfolio: asset allocation, 234–235 classic strategies, 239–258 defined, 3 design, 258–259 diversification, 3–4, 84–85, 110, 234–235 Position, 131–132 Preferred stock: adjustable rate, 105 106 bonds distinguished from, 103 104 ... convertible, 106 fixed rate capital securities, 107 108 perpetual, 104 105 sinking fund, 106 Premium: convertible bonds, 99 discount distinguished from, 136–138, 225–226 initial offering, 130 recovery period, convertibles, 102 Premium Paradox, 225 Prepaid mortgages, 75–76 Prepayment risk, 75 Prerefunded bonds (pre-re), 51–53 Price: accrued interest, 142–145 discount, 136–138 fast markets, 141 handle, 140–141 institutional... management, 111, 120, 122 U.S savings bonds, 20 FGIC (Financial Guaranty Insurance Company), 53 Fixed income investments, 1–2, 5 See also specific types of investments Fixed rate capital securities, 107 108 Fixed rate coupons, 63 Fixed-weight: deflator, 190, 193 index, 188 Flat bonds, 65 Floating rate, 63, 227 Floor, 65 Forecasting, 234 Foreign investments, 92 See also Global bonds 401(k) programs, 246 Freddie... 213 In- the-money options, 95, 97 Intrinsic value, 95, 97 Inventories, as indicator, 205–206 Inverse head and shoulders, 215 Inversely related investments, 84 Inverse relationship, price and yield, 157–161 Investment, generally: goals, 233–234 matrix, 231 needs, identification of, 231 risk tolerance, 232, 237 Investment clubs, 216 Investment Company Institute (ICI), 113 Investment firms, 35, 224 Investment-grade... Simple interest, 28–29 Single-price auction, 36–37 Sinking fund: bonds, 68, 130 preferreds, 106 Size, defined, 39 SKIS (subordinated capital income securities), 108 Slug, 53 Sovereign: bonds, 63 risk, 83, 85, 91–92 Spot, 209 Spreads, 237–238 Stay short, 250 Stock, preferred, 103 108 Stock market crash, 168 Straight-line amortization, 108 , 146, 148 Strike price, 94, 96–97 STRIPS (Separate Trading of... 161 compounding, 244–247 decreasing, impact of, 161 downward trend, 167 forecasting, 172, 251 increasing, impact of, 161 in ation, impact of, 6 maturity and, 6 mortgage prepayments and, 78 preferred stock and, 106 risk and, 6 term structure, 165–167 volatility and, 175 yield and, 161 Interest rate risk, 11–12 Internal Revenue Service (IRS), 33, 107 International bonds, see Global bonds International... 190–191, 209 Compounding, 4, 146, 243–247 Confirm/confirmation, 150–151, 223 Conservative investments/investors, 4, 223 Construction spending, as indicator, 185, 204 Consumer price index (CPI), 184, 190–193 Consumer sentiment, 184, 201–202 Index Consumption, personal, 184, 201 Contrarian investing, 244, 256–257 Conversion ratio, 93, 99 100 Convertible bonds: buying guidelines, 98 102 call option, 95 characteristics . considering investing in securities such as stocks, bonds, mutual funds or unit investment trusts. It details what the investment objectives are, what it invests in, and how it has performed in. measured by an index. indications of interest syndicate members canvas their major clients about their interest in an upcoming new issue to determine if the yield they are think- ing about is too. (real rate of return equals nominal interest rate minus in ation rate). realized security is sold thus locking in the profit or loss. reciprocal as used in calculating a municipal bonds TEY; the reciprocal

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