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Bonds
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Type of Yields
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Bond Rating Agencies
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The Yield Curve
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Laddering
Types of Bonds
- Corporate Bonds
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Municipal Bonds
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Asset Backed Securities
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High-Yielding Securities –
Junk Bonds
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Enhanced Trust- Preferreds
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Zero-Coupon Bonds
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STRIPS Bonds
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Internotes
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International Bonds
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Brady Bonds
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Enhanced Trust Preferreds
These are new financial
debt/equity hybrid instruments mainly sold to institutional investors. The
accounting and tax treatment has not yet been finalized and ruled upon by
the regulators. These fund raising instruments have the following
attributes:
- Yields are
competitive, but on the high side. Rates can be fixed or variable.
- The dividend/interest
payment is tax deductible to the issuing corporation; usually dividend
payments are not tax deductible. The tax deductibility makes these
instruments a very attractive fund raising vehicle.
- Maturities are
long-term, 50 to 60 years plus.
- Repayments are
subordinate to the senior lenders and other shorter term creditors, making
them equity-like instruments. The long-term payback of this debt
effectively acts as a yield enhancement for the shorter term creditors.
- Flexible interest
payments and default triggers for the insurers. Interest payments are
directly tied to credit ratings. If credit ratings drop, in accordance
with preset thresholds, interest payments will be halted, but it does not
trigger defaults.
These instruments are
very attractive to companies because the equity/debt payments are tax
deductible, reducing a company’s cost of capital. They also lower leverage
ratios and optimize earnings per share.
Because this product is
in its developmental stage, there are many variations being sold. For
example, many issuances contain call provisions.
Some financial
institutions are prematurely classifying these instruments as debt, thereby
using a lower risk weighting then equity securities. The proper
classification of these hybrid securities has not yet been determined.
Investors,
however, need to weigh whether the little extra yield is worth all the extra
risk!
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