1.3 Debt Securities & Issuers
This chapter covers the main kinds of debt an investment adviser will see, from the basic mechanics of a bond to corporate, Treasury, agency, municipal and international issues. Exam questions turn on a few repeating ideas: how interest rates move prices, what backs each bond, how quotes convert to dollar prices, and which investor each bond suits. Clients ask the same things in plainer words, such as how safe a bond is and what happens if rates change.
What each topic covers
Bond Fundamentals & Par Value sets the base. Par is typically $1,000, the coupon is a percentage of par, and interest is usually paid semi-annually and cannot be skipped the way a dividend can. It also covers bearer and book entry bonds, zero coupon bonds, and why prices fall when rates rise, which produces discounts and premiums.
Callable, Puttable & Secured Bonds contrasts secured bonds with full faith and credit bonds. A call lets the issuer end the bond early, usually when rates fall, and the issuer owes accrued interest, par and any call premium. A put lets the holder sell back at par. Bonds with long maturities and low coupons are the most price volatile.
Corporate Debt & Bond Quotes weighs debt against equity financing and lists the seven tiers of liquidation priority, from unpaid wages down to common stockholders. It teaches the fraction-boot-scoot method for quotes in eighths, so 98 3/4 is $987.50, and shows how to read a quote such as 5M 10s ABC Debenture M’40 @ 95 1/2.
Debentures, Mortgage Bonds & Commercial Paper sorts corporate bonds by security. Commercial paper is zero coupon debt with a 270-day maximum maturity and an SEC registration exemption. Debentures and guaranteed bonds are unsecured. Income bonds pay only if earnings allow. Mortgage bonds, equipment trust certificates and collateral trust certificates are secured by real estate, equipment and marketable assets.
Convertible Bonds & Parity gives the conversion ratio and conversion price formulas, both built on $1,000 par. It then works through stock parity price, bond parity price, call price against conversion value, and the anti-dilution adjustment after a stock split, where the ratio rises and the price falls.
Treasuries, STRIPS & TIPS starts with the $100 minimum denomination and compares bills, notes and bonds by maturity and coupon. It separates STRIPS, which the government backs, from Treasury Receipts, which it does not, and explains phantom tax. TIPS keep a fixed coupon while principal adjusts to CPI every six months, with a floor at original par at maturity.
Agency & Mortgage-Backed Bonds maps Ginnie Mae, Fannie Mae and Freddie Mac to the loans they guarantee or buy and the type of government backing each has. Mortgage-backed securities pay monthly principal and interest and carry prepayment risk when rates fall and extension risk when rates rise. The lesson also covers government quotes in 32nds and the discount yield form for Treasury bills.
General Obligation & Revenue Bonds compares G.O. bonds, repaid from property taxes, with revenue bonds, repaid from project revenue after a feasibility study. Revenue bonds default at 13 times the G.O. rate. The lesson also covers liquidity risk, the opportunity cost for low-bracket investors, and advance refunding with its 90-day rule.
CDs, Eurodollars & Eurobonds covers jumbo CDs ($100,000 minimum) and brokered CDs, with FDIC coverage of $250,000 per bank. Eurodollar deposits are dollars held outside the United States. Eurobonds pay in a currency other than that of the country of issue, which creates currency risk, and neither Eurobonds nor Eurodollar bonds are subject to SEC registration.