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Investments: Analysis and Behavior Chapter 14- Bond Instruments and Markets Learning Objectives Read bond quotes Learn the characteristics of corporate bonds Identify bonds with low credit risk Understand Treasury, Agency, and asset-backed instruments Compute the tax advantages of municipal bonds Bond Market Bond dealers act as intermediaries between bond issuers and investors Issuers sell new bonds in the primary market, dealers resell them to investors in the secondary market Size Roughly twice the equity market! 2006 US bond market value, $24.7 trillion 2006 US stock market value, $12.7 trillion Relatively illiquid for small investors because of high transaction cost How to read bond tables Corporate Bond Listing Percent of par value, with fraction The Lucent bond pays 6.45% interest (coupon), $64.50 per year or $32.25 semiannually and matures in 2029. Its current yield is 7.46% based on closing price of $865.00 ($1,000* 86. 5%). The bond was up $11.25. Treasury Bond Listing Percent of par value, with 32nds 3.785% coupon rate, matures in January 2009. A buyer willing to pay $1059.375 (=1,000*105.9375(=30/32)%) and seller’s lowest asking price $1059.6875 (=1,000*105.9688(=31/32)%), a difference of 31.25cents. Municipal Bond listing Coupon rate 5.00% and matures in September of 2024. Price 104% of par value (usually $5,000 for muni bond, in which case, current price of this bond would be $5,200). Yield to maturity is 4.48, therefore sold at a premium. ( YTM is smaller than coupon rate) Corporate Bond Characteristics Indenture: legal terms of bond agreement trustee duties, collateral/security, steps bondholders can take in case of default Senior Bond: debt with prior claim to other securities in event of default Mortgage bond—backed by property liens Equipment trust certificates—backed by equipment lien, often serial bonds retired in sequence Debentures/Subordinated Debentures: unsecured by any real property Risk depends on firm’s