This tutorial is the first in two parts covering fixed income. The objective of these sessions is to build on the foundation created in Level 1 in order to establish a competency of valuing more complex fixed income securities beyond basic coupon paying and zero coupon bonds. Given the complexity of some of the material […]
Fixed Income Part 1
Principles of Credit Analysis
Credit Risk to Investors: Three Types Default Risk: The risk that a borrower fails to make an interest or principal payment on schedule. Credit Spread Risk: The risk that market conditions change in a manner that causes the yield spread of a fixed income security to widen against its benchmark yield. Downgrade Risk: This is […]
High Yield Corporate Debt (aka Junk bonds)
“Junk” bonds are a special segment of the corporate debt universe. High yield bonds, also called non-investment grade, speculative grade, or junk bonds, are the bonds rated below investment grade. As the rating suggests, these bonds carry a higher risk of default, and pay a higher yield to compensate for the higher risk. When evaluating high […]
Analyzing Credit of Asset Backed Securities
An asset-backed security is a security whose price and income is derived from a specific pool of underlying assets (or collateral). These securities are debt obligations that represent claims to the payments or cash flows from pools of different asset classes (loans). Some examples of these assets are credit card loans, auto loans, bank loans, […]
Analyzing Credit of Municipal Bonds
Two general types of municipal bonds (or “munis” as they are commonly called): Tax-backed or general obligation bonds. Revenue bonds. These bond types require their own distinct approaches when performing credit analysis. Tax backed bonds: factors to consider The debt burden of the community. This is commonly examined in terms of debt per capita, debt […]
Sovereign Debt
Sovereign debt is debt issued by foreign governments. Sovereign debt is unique because analysts and investors will need to evaluate not only the government’s ability to repay (economic risk), but also its willingness to repay (political risk). Because default rates on sovereign debt issued in foreign currency have been higher than sovereign debt issued in […]
Three Shapes of the Yield Curve
Term Structure of Interest Rates: The term structure of interest rates is the relationship between the spot rate of U.S. Treasury securities and their time until maturing. Yield Curve: The relationship between U.S. Treasury yields and time to maturity. Three Shapes of the Yield Curve Positive Slope: Short term bonds have lower yields than long […]
Parallel and Non-parallel Shifts in Yield Curve
Parallel Shift Rates across the maturity spectrum change by a constant amount and the slope of the yield curve remains consistent. Non-Parallel Shifts Twist: The slope of the yield curve becomes flatter (the spread between short and long term yields narrows) or steeper (the spread between short and long term yields widens). Butterfly: Change to […]
Factors Driving Treasury Investment Returns and Bond Price Risk
Zero coupon U.S. Treasuries have historically seen their returns driven by the following: Interest Rate Level Changes: This is measured by duration and has shown to account for 90% of historical investor returns.This is the inverse of the P/E ratio. Yield Curve Slope Changes: This is measured by key rate duration and accounts for 8 […]
Yield Curve Construction with Treasuries
The Treasury bond yield curve can be built from several different sources: On the Run Treasuries: This entails plotting the observed yields from the most recently issued Treasuries. On the Run + Selected Off the Run Treasuries: On the run issues may not cover the all time periods needed, particularly for longer maturities, so off […]