3531Week10S11 - Week 10 Part I Corporate Bonds Our goal is...

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Week 10 Part I Corporate Bonds Our goal is to introduce the specialized knowledge concerning trading corporate bonds. Money managers who buy and sell corporate bonds possess this kind of knowledge. 1
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Corporate Bond Basics A Corporate bond is a security issued by a corporation. It represents a promise to pay bondholders a fixed sum of money (called the bond’s principal , or par or face value) at a future maturity date, along with periodic payments of interest (called coupons ). McGraw-Hill Ryerson Limited 2
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Corporate Bond Basics Corporate bonds differ from common stock in three fundamental ways. 3 Corporate Bonds Common Stock Represent a creditor’s claim on the corporation Represents an ownership claim on the corporation Promised cash flows (coupons and principal) are stated in advance Amount and timing of dividends may change at any time Mostly callable Almost never callable
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Corporate Bond Basics In Canada the corporate bond market is illiquid, however there are several trillion dollars of corporate bonds outstanding in the United States. More than half of these are owned by life insurance companies and pension funds. These institutions can eliminate much of their financial risk via cash flow matching . They can also diversify away most default risk by including a large number of different bond issues in their portfolios. McGraw-Hill Ryerson Limited 4
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Corporate Bond Basics 5
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Types of Corporate Bonds Bonds issued with a standard, relatively simple set of features are popularly called Plain Vanilla Bonds (or “bullet” bonds) . Debentures are unsecured bonds issued by a corporation. Mortgage bonds are debt secured with a property lien. Collateral trust bonds are debt secured with financial collateral. Equipment trust certificates are shares in a trust with income from a lease contract. McGraw-Hill Ryerson Limited 6
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Bond Indentures A Bond indenture is a formal written agreement between the corporation and the bondholders. This agreement spells out, in detail, the obligations of the corporation, the rights of the corporation, and the rights of the bondholders (with respect to the bond issue.) In practice, few bond investors read the original indenture. Instead, they might refer to an indenture summary provided in the prospectus of the bond issue. McGraw-Hill Ryerson Limited 7
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Different bond issues can usually be differentiated according to the seniority of their claims on the firm’s assets in case of default. Senior Debentures are the bonds paid first in case of default. Subordinated Debentures are paid after senior debentures. Bond seniority may be protected by a negative pledge clause . A negative pledge clause prohibits a new debt issue
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This document was uploaded on 10/27/2011 for the course ADMS 3531 at York University.

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3531Week10S11 - Week 10 Part I Corporate Bonds Our goal is...

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