Introduction to Fixed Income
Securities
Fixed Income Securities
MB 77
Outline
 Introduction to the Course
 Why a separate course only on Fixed Income
Securities?
 What are fixed-income securities?
 Participants/Players
 Meaning of a Bond
 Features of a Bond
 Types of Bonds
 Sources of Risk and Return in Debt Securities
 Regulation of Fixed Income Securities
Why a Separate Course on
Fixed Income Securities?
 Markets Prior to 1980s
– Dominated by plain vanilla bonds with simple cash
flow structures
– Valuation was simple and straightforward
 Markets After 1980s
– Complex cash flow structures
– A variety of securities
– Derivative products to facilitate portfolio strategies to
control interest rate risk and to enhance return
– Wider range of investors
 Two thirds of the market value of all the securities
outstanding in world classified as fixed income
 Most participants in the corporate and financial sectors
participate in this market
 Federal governments, state governments, and
municipalities have not choice but to issue fixed income
securities
 Therefore, a need to have well informed participants so
that they understand
– the forces that drive the bond market
– The valuation of complex cash flow structures
– Portfolio management strategies
Objective of this Course
A detailed coverage of the fixed income
securities markets in contrast to one or two
chapters in a book on investments
Coverage of securities available in the
market—Treasury, Agency, Municipals,
International, Mortgage, Mortgage-backed
securities, CMOs.
What are fixed Income
Securities?
 Financial claims issued by government, government
agencies, state governments, corporations,
municipalities, and banks and other financial
institutions
 The cash flows promised to the buyer of fixed
income securities represent contractual obligations of
the respective issuers.
 Typically, when such contractual obligations are not
met, the buyers of fixed income securities will have
the right to take control of the firm that issued such
debt securities
A fixed income security is a financial
obligation of an entity that promises to pay
a specified sum of money at specified
future dates. The entity promising the
payment is called the issuer of the security
Two categories:
– Debt obligations—Bond Markets
– Preferred Stock
Participants
 Issuers/sellers
• government, government agencies, state governments,
corporations, municipalities, and banks and other financial
institutions
– To receive a fair value for their securities
– Be able to issue securities that best fit their needs
 Investors
• Large institutions such as pension funds, insurance
companies, commercial banks, corporations, mutual funds,
and central banks
• Smaller institutions
• Individual investors
Participants
– Objective is to buy/sell at a fair market price and at narrow
bid/offer spread.
 Intermediaries
– Help issuers in the initial offering of the security,
assist in pricing and distribution of the securities,
make a secondary market, provide liquidity, and
engage in proprietary trading activities
– Produce information about credit quality of different
issuers
– Provide liquidity and credit enhancement for a fee
Bond Markets
Global Bond Markets
U.S. Bond Markets
Meaning of a Bond
 A debt instrument requiring the issuer also called
the debtor or borrower to repay to the
lender/investor the amount borrowed plus interest
over some specified period of time
 A typical “plain vanilla” bond issued in the U.S.
specifies
– A fixed date when the amount borrowed is due
– The contractual amount of interest, which is typically
paid every six months
 Cash flow pattern is know assuming no default