Lecture 2
Presented by Amir Khan
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Case Study: McDonald’s Dim Sum Bonds: “Lovin’ It”
Global Fixed-Income Market
 Global fixed-income markets represent the largest subset of financial
markets in terms of number of issuances and market capitalization
 Global fixed-income markets can be classified by:
 Type of Issuer
 Bond Maturity, Credit Quality, Geography, Currency Denomination and Type
of Coupon
 Bond Issue and Trading Location
Sovereign Bonds
 Sovereign bonds are the bonds issued by national governments. Bond names
vary depending on the country of issue and the bond’s maturity.
 Sovereign bonds are usually unsecured obligations of the sovereign issuer. That
is, they are not backed by collateral but by the taxing authority of the national
government.
 The majority of the trading in secondary markets is of sovereign securities that
were most recently issued. These securities are called “on the run.”
Sovereign Bonds Classification
 Local currency sovereign bonds have low(er) credit risk because of the
taxing and money-issuing power of the government.
 Foreign currency sovereign bonds’ credit risk depends on the strength
of the national economy and government finances.
Ways of Investing in Fixed-Income Market
 Primary market: Placement of competitive / non-competitive bids in
SBP’s auction
 Secondary market: Purchasing fixed income securities through brokers
or directly from primary dealers
Local Fixed-Income Market
The main players in the local fixed income market are:
 Issuers
 Primary Dealers
 Investors
Issuers
 In most emerging markets, the government is the largest issuer
 Government use funds for:
 Deficit financing
 Project financing
 Corporates also issue debt to raise capital
 Tax advantage
 Ownership is not diluted
 Borrow long-term
Functions of Primary Dealers
 Participate in auction and “when issued” trading (both buying and short
selling)
 Place bids on behalf of non-PD financial institutions and investors
 Settle purchase and sale transactions through RTGS / DVP / Other
payment modes
 Maintain investor portfolio securities (IPS) accounts for investors
Primary Dealers of Government Securities
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Bank Alfalah Limited
Habib Bank Limited
National Bank of Pakistan
United Bank Limited
Pak Oman Investment Company Limited
JS Bank Limited
MCB Bank Limited
Bank of Punjab
Citibank NA (Pakistan Operations)
Standard Chartered Bank (Pakistan) Limited
Investors
 Corporate clients
 Institutional investors such as Asset Management Companies
 Insurance companies and pension funds
 High net-worth individuals
Functions of Secondary Market
 To facilitate liquidity and marketability of outstanding debt instruments
 To contribute to economic growth through allocation of funds to the most efficient channel through the
process of disinvestments to reinvestment
 To provide instant valuation of securities affected by changes in the internal environment
 To facilitate valuation of the cost of capital and the rate of return of economic entities at the micro level by
take into account local as well as international factors
 To protect investors’ interests through readily available market information
 To stimulate companies to improve performance since the market price at the stock exchanges reflects the
performance of the company
 To update investors about the market price of their investment
Classification of Fixed-Income Portfolio
 Held to Maturity (HTM): Intention and ability to hold security till
maturity
 Held for Trading (HFT): Intention to trade security to take advantage of
short-term interest rate movements
 Available for Sale (AFS): Intention to hold security long term
Accounting of Fixed-Income Securities
Accounting
Category
Description
Balance
Sheet
Income Statement
Unrealized
Gains/Losses
Other
Trading
Securities acquired
mainly for short-term
or trading gains
(usually less than
three months)
Fair Value
Recognize in net
income
Recognize
realized
gains/losses and
interest income in
net income
Available-forSale
Securities neither
held for trading nor
held-to-maturity
Fair Value
Not recognized in
net income, but
recognized in
comprehensive
income
Recognize
realized
gains/losses and
interest income in
net income
Held-toMaturity
Securities acquired
with both the intent
and ability to hold to
maturity
Amortized
Cost
Not recognized in
either net income
or comprehensive
income
Recognize
realized
gains/losses and
interest income in
net income
Fixed Income Securities
Types of Fixed Income Securities
Pricing a Fixed Income Security
 The price of the bond is the PV of its cash flows
 Discount Rate (yield) is the return required by the investors
 Price of a zero coupon bond:
Coupon Bonds
 Coupon bonds can be interpreted as portfolio of zeros.
Time Path of the Bond Price