INVESTMENTS IN BONDS
INVESTMENTS IN BONDS
At AXON Securities we offer our clients the opportunity to invest in Greek, government and corporate, bonds as well as bonds from all international money markets.
Investing in this financial product is one of the most common and reliable strategies for diversifying an investment portfolio. Traditionally, bonds offer a stable, expected return over time, allowing the investor to spread the sources of return and risk in his portfolio.
At AXON Securities, our team is specialized in bond investments and remains constantly aware of macroeconomic and geopolitical developments and how they affect bond yields.
You can read more details about the bond market, how it works and the risks involved in the following sections:
– In the debt securities market, investors who buy and sell bonds traded on regulated or unregulated markets participate and therefore automatically become creditors of the issuer of these bonds. Bond issuers can be states and associations of states, up to listed or unlisted companies, organisations, municipalities and regions, and any legal entity.
The positive expectations of bond investors are that the company (issuer) will pay them interest (coupons) at certain intervals or at maturity of the bond. The two main forms of interest rates contained in the terms of the bond are fixed and floatingAlso, in regulated markets, investors can benefit from a potential rise in bond prices. The terms of the bond at the time of issue explicitly state the features such as the face value, the maturity date, the coupon payment frequency and the interest rate which accompany the bond throughout its life until maturity.
Yield to Maturity (YTM) is defined as the percentage of the yield on a bond or other long-term fixed income security if the investor buys and holds it to maturity. The return is calculated in relation to the market price, the coupon yield, the Redemption Value, the length of time to maturity and the time between the frequency of coupon payments. Recognising the time value of money, the Yield to Maturity is the discount rate at which the present value of all future payments would be equal to the current price of the bond/notes.
Finally, bonds are traded at a basis value of one hundred (100), which corresponds to the par value or face value or nominal value of the bond. During its lifetime the bond may trade at a price above its face value (100), in which case it trades at a premium, or below 100, in which case it trades at a discount. The price of bonds is influenced to a fairly large extent by their credit rating.
Bond issuers are rated by internationally renowned Credit Rating Agencies (CRAs) which assess the credit risk of governments, financial institutions, corporations and fixed income issuers in general. The rating results are a valuable guide for traders, savers and investors weighing the potential risks of non-repayment or a fall in the market price of bonds.
The three best-known CRAs that operate internationally use the following scales for rating bonds:
- Standard and Poor’s: AAA, AA+, AA, AA-, A+, A, A-, BBB+, BBB, BBB-
- Moody’s: Aaa, Aa1, Aa2, Aa3, A1, A2, A3, Baa1, Baa2, Baa3
- Fitch Ratings: AAA, AA+, AA, AA-, A+, A, A-, BBB+, BBB, BBB-
At any point in time, the fair value of a bond can be estimated. In essence, the sum of the present value of future interest payments and the present value of the bond’s face value, which the bond issuer pays at maturity, is calculated.
Accrued Interest: is the interest that has accrued between one payment and the next coupon payment or the sale of the bond. At the time of the sale of the security, the buyer pays the seller the price of the security plus accrued interest calculated by multiplying the coupon price by the fraction of the time period since the last coupon payment.
Bonds are categorised into simple (non-composite) fixed-rate or floating-rate bonds and composite bonds that include an option or derivative in their terms.
The category of straight (non-complex) bonds (Straight Bonds or Plain Vanilla Bonds) comprises four main types:
- Zero – Coupon Bond: It gives the right to a single payment (at maturity) throughout its life. It is issued at a price below par and redeemed at par.
- Coupon Bond (Coupon Bond): It is issued at its face value and the issuer is obliged to pay the face value of the bond at maturity, while in between, at the end of each interest-bearing period, it pays interest based on a fixed interest rate which is set at the time of issue and does not change during the life of the bond. A typical example is the Treasury Bond, which is a long-term US Treasury bond with a minimum face value of one thousand (1000) dollars. It usually has a maturity of 10, 20 or 30 years and pays a coupon every six (6) months until its expiry, when the last coupon payment coincides with the repayment of its face value.
- Floating Rate Bond or Floating Rate Note (FRN): It is a bond with a coupon, which fluctuates according to a fixed reference rate. The interest rate of a Floating Rate Note is determined as a percentage of an interbank market index, e.g. +1% of Libor (London Interest Bank Rate). If the Libor index decreases on the date of the interest rate adjustment, the interest rate decreases and vice versa. Typically, an FRN is a medium-term bond, usually maturing around five years. In addition to the three- or six-month Libor, the reference rate adopted is the yield on the Treasury bill or 85 % of the average yield on the five-year Treasury bond or the prime rate of the FED rate.
- Perpetual Bond: These are bonds without a maturity date that are not redeemable but pay a fixed coupon in perpetuity.
Examples of complex bonds (they contain an option or derivative in their terms):
- Callable bond: When issuing a bond, the issuer announces that it has the right to call it, i.e. to redeem it before it matures. If market interest rates fall too low then it is very likely that the call clause will be invoked and the investor will receive his initial capital, if there is a capital security clause (guarantee), and interest until the date of the call.
- Putable bond: When a bond is issued, it is stated in the terms and conditions that the investor has the right to require the issuer to repay the bond early at a predetermined price and at certain intervals before maturity. If market interest rates rise too much, then it is very likely that the investor will invoke the early repayment clause.
- Convertible Bond: These bonds state in their terms of issue that they can be converted into shares of the issuer immediately or after a specified period of time and at a specified conversion price. The conversion is always at the request of the investor and not the issuer.
- Reverse Convertible Bond: This bond can be converted into cash debt and shares on a predetermined date. The bond contains an embedded derivative allowing the issuer to exercise the right to purchase the bond on a predetermined date prior to maturity for the existing debt or shares of the underlying company. The underlying company must not be related in any way to the issuer. This category of bonds refers to bonds with a shorter maturity and higher value than most bonds because of the risk they carry for the investor, who may be forced to liquidate the bonds into securities of a company that has or will significantly decrease in value.
Finally, there are Structured Bonds: these bonds include one or more simple bonds combined with one or more derivative securities to form a desired structure.They are usually created by banks in order to respond more fully to the needs of their customers. The desirability of investing in a structured bond depends on whether the structure offered actually meets the needs and the level of risk the buyer is willing to take. The regularity of the transaction (purchase or sale) depends on whether the price offered corresponds to the actual value of the structured security. The valuation of structured notes requires that they be broken down into their individual components.
These types of securities are complex and should therefore primarily be used by experienced investors.
The bonds are subject to the risk of the issuer’s failure to meet the principal and/or interest payments (credit risk)They are also subject to price volatility due to factors such as interest rate sensitivity, market perception of the issuer’s creditworthiness, market liquidity and other economic factors. When interest rates rise, the value of corporate securities is expected to decline. More specifically, fixed rate securities with long maturities and low coupons are more sensitive to changes in interest rates than securities with shorter maturities and higher coupons.
Therefore investments in bonds, depending on the type of bond chosen by the investor, do not have a guaranteed return and can lead to the loss of a significant amount or the entire initial investment in case the investor does not hold the bond until maturity or the issuer goes bankrupt and there are negative changes in the level of interest rates.