IBUS 302:
International Finance
Topic 13-International Bonds
Lawrence Schrenk, Instructor
.
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Learning Objectives
1.
2.
3.
Describe the general characteristics of
international bond markets.▪
Explain the classification of international
bonds.
Explain the types of instruments available in
the international bond market.▪
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International Bond Markets


International bond markets are NOT unified
into a single market (like FX and
Eurocurrency market).
International Bonds are viewed as substitutes
to Domestic bonds.
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Market Demographics



Bond Market Segments: Domestic Bonds,
Foreign Bonds, Eurobond
Total market value of the world’s bond
markets are about 50% larger than the
world’s equity markets.
Denominations:
1. U.S. $ = 47% (46% of international)
2. Euro = 18%
(23% of international)
3. Yen = 19%
(4.0% of international)
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Classification
•Domestic Bond Market
•Foreign Bond Market
Internal
•Global Bond Market
•EuroBond Market
International
External /
Offshore
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Domestic Bonds



Issued by domestic entity
Denominated in that country’s currency
Corporate


IBM issues $ denominated bonds in USA
Governments:



Treasury Bonds (USA)
Gilts (UK)
Bunds (Germany)
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Domestic Bonds: Review

Key Variables

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Principal, Par Value, Face Value
Coupon, Coupon Rate
Maturity (t)
Discount Rate (r)
Periods (per year), (m)


Coupon 
PV 
1
r


m

1
r 

1  
m

tm


  ParValue
tm
 
r 
 1  
m
 
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Domestic Bonds: Review


Premium versus Discount Bonds
Features




Callable Bonds
Convertible Bonds
Sinking Funds
Debt Covenant


Financial Ratios
Technical Default
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Foreign Bonds–Type I




Issued by foreign entity
Outside the country where the entity resides
Denominated IN THE currency of the country
where issued
Example:

Toyota issues $ denominated bonds in USA.
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Foreign Bonds–Type II




Issued by foreign entity
Outside the country where the entity resides
Denominated in currency OTHER THAN
THAT of the country where issued
Example:

Toyota issues Yen denominated bonds in USA
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Foreign Bonds–Type II



Who are the potential investors for such a bond?
Toyota issues Yen denominated bonds in USA
Hedger:



Your Firm imports from Japan and has Yen A/P
Yen bond interest you receive is used to pay Yen A/P on
your imports. Like a forward contract
Speculator:

Speculate that Yen will appreciate (buy more $)
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Global Bonds




Similar to Foreign bonds, but
Simultaneously issued in many different
countries.
Denominated in 1 or many currencies.
Registered in each market where issued.
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EuroBonds




Issued outside the country in bond is
denominated (same as second type of
foreign bond)
OR, issued in same country, but only to ‘nonresidents’
Not Registered, i.e., Bearer Bonds
Example:


Toyota issues Yen-denominated bonds in
“offshore” market.
EUROYEN Bond
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Bond Return of Foreign
Currency Bonds

RETURN
= local currency return
+ foreign exchange return
= YTM + %change in spot exchange rate
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Comparing Yields on US
Bonds and Eurodollar Bonds



U.S. Bonds pay semiannual coupons
Eurobonds pay annual coupons
Bond Equivalent Yield (BEY) of Eurobond
= 2[(1 + YTM on eurobond)1/2 - 1]

Example:
YTM on Eurobond = 10%.
BEY = 2[(1.1).5 -1] = 0.09762 = 9.762%

Thus, Eurobonds must offer higher yields (all else is
equal).
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Summary of Features Affecting
Eurobond Yields
Yield impact
Eurobond Feature
–
Tax Free Interest
+
+
–
Registration and Regulation
Annual Coupons
Quality of Issuer
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Types of Instruments



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Straight Fixed Rate Debt
Floating-Rate Notes
Zero Coupon Bonds
Equity-Related Bonds
Dual-Currency Bonds
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Straight Fixed Rate Debt




‘Plain Vanilla’ Bonds
Typically have annual coupons.
Since most Eurobonds are bearer bonds,
coupon dates tend to be annual rather than
semi-annual, less costly for issuer.
The vast majority (71% in 2002) of new
international bond offerings are straight fixedrate issues.
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Floating-Rate Notes



Coupon rate reset every 6 or 12 months
Eurobonds commonly use LIBOR as
reference rates
LIBOR = London Interbank Offer Rate
Usually pay quarterly or semiannual coupons
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Zero Coupon Bonds


No Explicit Interest Paid
Issued in one of two ways:

At a discount to face value



Issued as a zero at a 50% discount to $100 face value
in 4 years
Yield = 18.9%
At face value, but pay a premium at maturity


Issue at $100 (Face Value), Pay $200 in 4 years
yield = 18.9%
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Equity-Related Bonds

Convertibles


Allow the holder to convert bond in exchange for
a specified number of shares in the firm of the
issuer (or for some other specified commodity).
Bonds with Equity Warrants

Allow the holder to keep his bond but still buy a
specified number of shares in the firm of the
issuer at a specified price.
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Dual-Currency Bonds

Fixed-rate bond


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
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Price and interest in one currency.
Principal in another currency.
Japanese firms have been big issuers with
coupons in yen and principal in dollars.
Good option for a MNC financing a foreign
subsidiary.
Straight Bond + Forward Contract on ‘FV’
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Credit Ratings

Corporate Debt



Fitch IBCA, Moody’s and Standard & Poor’s sell
credit rating analysis.
Focus on default risk, not exchange rate risk.
Sovereign Debt


Assessing sovereign debt focuses on political risk
and economic risk.
Sovereign debt is the obligation of a country’s
central government.
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International Bond Market Indices


There are several international bond market
indices.
J.P. Morgan and Company




Domestic Bond Indices
International Government bond index for 18
countries.
Widely referenced and often used as a
benchmark.
Appears daily in The Wall Street Journal
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