固定收益證-券Municipal-Securit課件

Chapter8

MunicipalSecurities

Chapter8

MunicipalSecuritiLearningObjectivesAfterreadingthischapter,youwillunderstandthetwobasicsecuritystructures:tax-backeddebtandrevenuebondstheflowoffundsstructureforrevenuebondsmunicipalbondswithhybridstructuresandspecialbondsecuritystructuressuchasrefundedbondsandinsuredmunicipalbondsthedifferenttypesoftax-exemptshort-termmunicipalsecuritieswhatmunicipalderivativesecuritiesareLearningObjectivesAfterreadiLearningObjectives(continued)Afterreadingthischapter,youwillunderstandthetwobasicsecuritystructures:tax-backeddebtandrevenuebondshowmunicipalinversefloatersarecreatedthetaxriskthatinvestorsfacewheninvestinginmunicipalsecuritiesyieldspreadswithinthemunicipalmarkettheshapeofthemunicipalyieldcurvetheprimaryandsecondarymarketsformunicipalsecuritiesthetaxablemunicipalbondmarketLearningObjectives(continuedTypesandFeaturesofMunicipalSecuritiesTherearebasicallytwodifferenttypesofmunicipalbondsecuritystructures:tax-backedbondsrevenuebondsTherearealsosecuritiesthatsharecharacteristicsofbothtax-backedandrevenuebonds.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)Tax-BackedDebtTax-backeddebtobligationsareinstrumentsissuedbystates,counties,specialdistricts,cities,towns,andschooldistrictsthataresecuredbysomeformoftaxrevenue.Tax-backeddebtincludesgeneralobligationdebt,appropriation-backedobligations,anddebtobligationssupportedbypubliccreditenhancementprograms.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)Tax-BackedDebtThebroadesttypeoftax-backeddebtisgeneralobligationdebt.Anunlimitedtaxgeneralobligationdebtisthestrongerformofgeneralobligationpledgeasitissecuredbytheissuer’sunlimitedtaxingpower.Alimitedtaxgeneralobligationdebtisalimitedtaxpledgebecauseforsuchdebtthereisastatutorylimitontaxratesthattheissuermaylevytoservicethedebt.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)Tax-BackedDebtAgenciesorauthoritiesofseveralstateshaveissuedbondsthatcarryapotentialstateliabilityformakingupshortfallsintheissuingentity’sobligation.However,thestate’spledgeisnotbinding.Debtobligationswiththisnonbindingpledgeoftaxrevenuearecalledmoralobligationbonds.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)RevenueBondsThesecondbasictypeofsecuritystructureisfoundinarevenuebond.Suchbondsareissuedforeitherprojectorenterprisefinancingsinwhichthebondissuerspledgetothebondholderstherevenuesgeneratedbytheoperatingprojectsfinanced.Forarevenuebond,therevenueoftheenterpriseispledgedtoservicethedebtoftheissue.Thedetailsofhowrevenuereceivedbytheenterprisewillbedisbursedaresetforthinthetrustindenture.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)RevenueBondsTherearevariousrestrictivecovenantsincludedinthetrustindentureforarevenuebondtoprotectthebondholders.Arate,orusercharge,covenantdictateshowchargeswillbesetontheproductorservicesoldbytheenterprise.Othercovenantsspecifythatthefacilitymaynotbesoldtheamountofinsurancetobemaintainedrequirementsforrecordkeepingandfortheauditingoftheenterprise’sfinancialstatementsbyanindependentaccountingfirmrequirementsformaintainingthefacilitiesingoodorderTypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)RevenueBondsExamplesofrevenuebondsinclude:AirportRevenueBondsHigherEducationBondsHospitalRevenueBondsSingle-FamilyMortgageRevenueBondsMultifamilyRevenueBondsPublicPowerRevenueBondsResourceRecoveryRevenueBondsStudentLoanRevenueBondsTollRoadandGasTaxRevenueBondsWaterRevenueBondsPollutionControlRevenueandIndustrialDevelopmentRevenueBondsTypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)HybridandSpecialBondSecuritiesSomemunicipalbondsthathavethebasiccharacteristicsofgeneralobligationbondsandrevenuebondshavemoreissue-specificstructuresaswell.Someexamplesareinsuredbondsbank-backedmunicipalbondsrefundedbondsstructured/asset-backedsecurities“troubledcity”bailoutbondsTypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)HybridandSpecialBondSecuritiesInsuredbonds,inadditiontobeingsecuredbytheissuer’srevenue,arealsobackedbyinsurancepolicieswrittenbycommercialinsurancecompanies.Becausemunicipalbondinsurancereducescreditriskfortheinvestor,themarketabilityofcertainmunicipalbondscanbegreatlyexpanded.Therearetwomajorgroupsofmunicipalbondinsurers.Thefirstincludesthemonolinecompaniesthatareprimarilyinthebusinessofinsuringmunicipalbonds.Thesecondgroupofmunicipalbondinsurersincludesthemultilinepropertyandcasualtycompaniesthatusuallyhaveawidebaseofbusiness,includinginsuranceforfires,collisions,hurricanes,andhealthproblems.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)HybridandSpecialBondSecuritiesSincethe1980s,municipalobligationshavebeenincreasinglysupportedbyvarioustypesofcreditfacilitiesprovidedbycommercialbanks.Therearethreebasictypesofbanksupport:letterofcredit,irrevocablelineofcredit,andrevolvinglineofcredit.Aletter-of-creditagreementisthestrongesttypeofsupportavailablefromacommercialbank.Underthisarrangement,thebankisrequiredtoadvancefundstothetrusteeifadefaulthasoccurred.Anirrevocablelineofcreditisnotaguaranteeofthebondissue,althoughitdoesprovidealevelofsecurity.Arevolvinglineofcreditisaliquidity-typecreditfacilitythatprovidesasourceofliquidityforpaymentofmaturingdebtintheeventthatnootherfundsoftheissuerarecurrentlyavailable.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)HybridandSpecialBondSecuritiesAlthoughoriginallyissuedaseitherrevenueorgeneralobligationbonds,municipalsaresometimesrefunded.ArefundingusuallyoccurswhentheoriginalbondsareescrowedorcollateralizedbydirectobligationsguaranteedbytheU.S.government.Theescrowfundforarefundedmunicipalbondcanbestructuredsothattherefundedbondsaretobecalledatthefirstpossiblecalldateorasubsequentcalldateestablishedintheoriginalbondindenture.Suchbondsareknownasprerefundedmunicipalbonds.Althoughrefundedbondsareusuallyretiredattheirfirstorsubsequentcalldate,somearestructuredtomatchthedebtobligationtotheretirementdate.Suchbondsareknownasescrowed-to-maturity

bonds.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)HybridandSpecialBondSecuritiesTherearethreereasonswhyamunicipalissuermayrefundanissuebycreatinganescrowfund.Manyrefundedissueswereoriginallyissuedasrevenuebonds.Someissuesarerefundedinordertoalterthematurityscheduleoftheobligation.Wheninterestrateshavedeclinedafteramunicipalsecurityhasbeenissued,thereisataxarbitrageopportunityavailabletotheissuerbypayingexistingbondholdersalowerinterestrateandusingtheproceedstocreateaportfolioofU.S.governmentsecuritiespayingahigherinterestrate.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)RedemptionFeaturesMunicipalbondsareissuedwithoneoftwodebtretirementstructures,oracombination.Eitherabondhasaserialmaturitystructureorithasatermmaturitystructure.Aserialmaturitystructurerequiresaportionofthedebtobligationtoberetiredeachyear.Atermmaturitystructureprovidesforthedebtobligationtoberepaidonafinaldate.Municipalbondsmaybecalledpriortothestatedmaturitydate,eitheraccordingtoamandatorysinkingfundorattheoptionoftheissuer.TypesandFeaturesofMunicipaTypesandFeaturesofMunicipalSecurities(continued)RedemptionFeaturesThemunicipalmarkethassecuritieswithvariousfeatures.Thesearezero-couponbonds,floating-ratebonds,andputablebondsinthemunicipalbondmarket.Forthismarket,therearetwotypesofzero-couponbonds.Onetypeisissuedataverydeepdiscountandmaturesatpar.Thedifferencebetweentheparvalueandthepurchasepricerepresentsapredeterminedcompoundyield.Thesezero-couponbondsaresimilartothoseissuedinthetaxablebondmarketforTreasuriesandcorporates.Thesecondtypeiscalledamunicipalmultiplier.Thisisabondissuedatparthathasinterestpayments.Theinterestpaymentsarenotdistributedtotheholderofthebonduntilmaturity,buttheissueragreestoreinvesttheundistributedinterestpaymentsatthebond’syieldtomaturitywhenitwasissued.TypesandFeaturesofMunicipaMunicipalMoneyMarketProductsTax-exemptmoneymarketproductsinclude:notescommercialpapervariable-ratedemandobligationsahybridofthelasttwoproductsMunicipalMoneyMarketProductMunicipalMoneyMarketProducts(continued)Municipalnotesincludetaxanticipationnotes(TANs),revenueanticipationnotes(RANs),grantanticipationnotes(GANs),andbondanticipationnotes(BANs).Thesearetemporaryborrowingsbystates,localgovernments,andspecialjurisdictions.Usually,notesareissuedforaperiodof12months,althoughitisnotuncommonfornotestobeissuedforperiodsasshortasthreemonthsandforaslongasthreeyears.TANsandRANs(alsoknownasTRANs)areissuedinanticipationofthecollectionoftaxesorotherexpectedrevenues.Theseareborrowingstoevenoutirregularflowsintothetreasuriesoftheissuingentity.BANsareissuedinanticipationofthesaleoflong-termbonds.MunicipalMoneyMarketProductMunicipalMoneyMarketProducts(continued)Tax-ExemptCommercialPaperAswithcommercialpaperissuedbycorporations,tax-exemptcommercialpaperisusedbymunicipalitiestoraisefundsonashort-termbasisrangingfromoneto270days.Thedealersetsinterestratesforvariousmaturitydatesandtheinvestorthenselectsthedesireddate.Variable-RateDemandObligationsVariable-ratedemandobligations(VRDOs)arefloating-rateobligationsthathaveanominallong-termmaturitybuthaveacouponratethatisreseteitherdailyoreverysevendays.Theinvestorhasanoptiontoputtheissuebacktothetrusteeatanytimewithsevendays’notice.Theputpriceisparplusaccruedinterest.MunicipalMoneyMarketProductMunicipalMoneyMarketProducts

(continued)CommercialPaper/VRDOHybridThecommercialpaper/VRDOhybridiscustomizedtomeetthecashflowneedsofaninvestor.Aswithtax-exemptcommercialpaper,thereisflexibilityinstructuringthematurity,becausetheremarketingagentestablishesinterestratesforarangeofmaturities.Althoughtheinstrumentmayhavealongnominalmaturity,thereisaputprovision,aswithaVRDO.MunicipalMoneyMarketProductMunicipalDerivativeSecurities

(continued)Inrecentyears,anumberofmunicipalproductshavebeencreatedfromthebasicfixed-ratemunicipalbond.Thishasbeendonebysplittingupcashflowsofnewlyissuedbondsaswellasbondsexistinginthesecondarymarkets.Theseproductshavebeencreatedbydividingthecouponinterestpaymentsandprincipalpaymentsintotwoormorebondclasses,ortranches.Thenamederivativesecuritieshavebeenattributedtothesebondclassesbecausetheyderivetheirvaluefromtheunderlyingfixed-ratemunicipalbond.MunicipalDerivativeSecuritieMunicipalDerivativeSecurities

(continued)Floaters/InverseFloatersAcommontypeofderivativesecurityisoneinwhichtwoclassesofsecurities,afloating-ratesecurityandaninverse-floating-ratebond,arecreatedfromafixed-ratebond.Thecouponrateonthefloating-ratesecurityisresetbasedontheresultsofaDutchauction.Inversefloaterscanbecreatedinoneofthreeways:Amunicipaldealercanbuyinthesecondarymarketafixed-ratemunicipalbondandplaceitinatrustwiththetrustissuingafloaterandaninversefloater.AsillustratedinExhibit8-1(seeOverhead8-24),themunicipaldealerusesanewlyissuedmunicipalbondtocreateafloaterandaninversefloater.Usingthemunicipalswapsmarket,onecreatesaninversefloaterwithouttheneedtocreateafloater.MunicipalDerivativeSecuritieExhibit8-1

CreationofaMunicipalInverseFloaterMunicipalfloating-ratebondMunicipalinverse-floating-rateFixed-ratemunicipalbond(newlyissuedorseasoned)Exhibit8-1

CreationofaMuniMunicipalDerivativeSecurities

(continued)StripsandPartialStripsMunicipalstripobligationsarecreatedwhenamunicipalbond’scashflowsareusedtobackzero-couponinstruments.Thematurityvalueofeachzero-couponbondrepresentsacashflowontheunderlyingsecurity.Partialstripshavealsobeencreatedfromcashbonds,whicharezero-couponinstrumentstoaparticulardate,suchasacalldate,andthenconvertedintocouponpayinginstruments.Thesearecalledconvertibles

orstep-upbonds.Otherproductscanbecreatedbyallocatingtheinterestpaymentsandprincipalofafixed-coupon-ratemunicipalbondtomorethantwobondclasses.MunicipalDerivativeSecuritieCreditRiskAlthoughmunicipalbondsatonetimewereconsideredsecondinsafetyonlytoU.S.Treasurysecurities,todaytherearenewconcernsabouttheircreditrisks.ThefirstconcerncameoutoftheNewYorkCitybillion-dollarfinancialcrisisin1975.Thesecondreasonforconcernaboutmunicipalsecuritiescreditriskistheproliferationinthismarketofinnovativefinancingtechniquestosecurenewbondissues.Whatdistinguishesthesenewerbondsfromthemoretraditionalgeneralobligationandrevenuebondsisthatthereisnohistoryofcourtdecisionsorothercaselawthatfirmlyestablishestherightsofthebondholdersandtheobligationsoftheissuers.CreditRiskAlthoughmunicipalCreditRisk(continued)Aswithcorporatebonds,someinstitutionalinvestorsinthemunicipalbondmarketrelyontheirownin-housemunicipalcreditanalystsfordeterminingthecreditworthinessofamunicipalissue.Otherinvestorsrelyonthenationallyrecognizedratingcompanies.ThetwoleadingratingcompaniesareMoody’sandStandard&Poor’s,andtheassignedratingsystemisessentiallythesameasthatusedforcorporatebonds.Althoughtherearenumeroussecuritystructuresforrevenuebonds,theunderlyingprincipleinratingiswhethertheprojectbeingfinancedwillgeneratesufficientcashflowtosatisfytheobligationsduebondholders.CreditRisk(continued)AswithRisksAssociatedwithInvestinginMunicipalSecuritiesTheinvestorinmunicipalsecuritiesisexposedtothesamerisksaffectingcorporatebondsplusanadditionalonethatmaybelabeledtaxrisk.Therearetwotypesoftaxrisktowhichtax-exemptmunicipalsecuritiesbuyersareexposed.Thefirstistheriskthatthefederalincometaxratewillbereduced.Thesecondtypeoftaxriskisthatamunicipalbondissuedasatax-exemptissuemayeventuallybedeclaredtobetaxablebytheInternalRevenueService.RisksAssociatedwithInvestinCopyright?2010PearsonEducation,Inc.PublishingasPrenticeHallYieldsonMunicipalBondsAcommonyieldmeasureusedtocomparetheyieldonatax-exemptmunicipalbondwithacomparabletaxablebondistheequivalenttaxableyield,whichiscomputedas:Example:Supposethataninvestorinthe40%marginaltaxbracketisconsideringtheacquisitionofatax-exemptmunicipalbondthatoffersayieldof6.5%.Whatistheequivalenttaxableyield?Copyright?2010PearsonEduca8-30YieldsonMunicipalBonds

(continued)Becauseofthetax-exemptfeatureofmunicipalbonds,theyieldonmunicipalbondsislessthanthatonTreasurieswiththesamematurity.TheyieldonmunicipalbondsiscomparedtotheyieldonTreasurybondswiththesamematuritybycomputingthefollowingratio:Yieldspreadswithinthemunicipalbondmarketareattributabletodifferencesbetweencreditratings(qualityspreads),sectorswithinmarkets(intramarketspreads),anddifferencesbetweenmaturities(maturityspreads).8-30YieldsonMunicipalBondsMunicipalBondMarketPrimaryMarketMunicipalobligationsarebroughttomarketweekly.Astateorlocalgovernmentcanmarketitsnewissuebyofferingbondspubliclytotheinvestingcommunityorbyplacingthemprivatelywithasmallgroupofinvestors.Whenapublicofferingisselected,theissueusuallyisunderwrittenbyinvestmentbankersand/ormunicipalbonddepartmentsofcommercialbanks.Moststatesmandatethatgeneralobligationissuesbemarketedthroughcompetitivebidding,butgenerallythisisnotrequiredforrevenuebonds.Anofficialstatementdescribingtheissueandtheissuerispreparedfornewofferings.Municipalbondshavelegalopinionsthataresummarizedintheofficialstatement.MunicipalBondMarketPrimaryMMunicipalBondMarket(continued)SecondaryMarketMunicipalbondsaretradedintheover-the-countermarketsupportedbymunicipalbonddealersacrossthecountry.Marketsaremaintainedonsmallerissuers(referredtoaslocalgeneralcredits)byregionalbrokeragefirms,localbanks,andbysomeofthelargerWallStreetfirms.Largerissuers(referredtoasgeneralnames)aresupportedbythelargerbrokeragefirmsandbanks,manyofwhomhaveinvestmentbankingrelationshipswiththeseissuers.MunicipalBondMarket(continuMunicipalBondMarket

(continued)SecondaryMarketTheconventionforbothcorporateandTreasurybondsistoquotepricesasapercentageofparvaluewith100equaltopar.Municipalbonds,however,generallyaretradedandquotedintermsofyield(yieldtomaturityoryieldtocall).Thepriceofthebondinthiscaseiscalledabasisprice.Theexceptioniscertainlong-maturityrevenuebonds.Abondtradedandquotedindollarprices(actually,asapercentageofparvalue)iscalledadollarbond.MunicipalBondMarket(continuTheTaxableMunicipalBondMarketTaxablemunicipalbondshavetheirinteresttaxedatthefederallevel.Becausethereisnotaxadvantage,anissuermustofferahigheryieldthanforanothertax-exemptmunicipalbond.Therearethreereasonswhyamunicipalitywouldwanttoissueataxablemunicipalbondandtherebyhavetopayahigheryieldthanifitissuedatax-exemptmunicipalbond:Someactivitiesdonotbenefitthepublicatlargeandmunicipalitieshavetofinancetheserestrictedactivitiesinthetaxablebondmarket.TheU.S.incometaxcodeimposesrestrictionsonarbitrageopportunitiesthatamunicipalitycanrealizefromitsfinancingactivities.MunicipalitiesdonotviewtheirpotentialinvestorbaseassolelyU.S.investors.WhenbondsareissuedoutsideoftheUnitedStates,theinvestordoesnotbenefitfromthetax-exemptfeature.TheTaxableMunicipalBondMarTheTaxableMunicipal

BondMarket(continued)Themostcommontypesofactivitiesfortaxablemunicipalbondsusedforfinancingare:localsportsfacilitiesinvestor-ledhousingprojectsadvancedrefundingofissuesthatarenotpermittedtoberefundedbecausethetaxlawprohibitssuchactivityunderfundedpensionplanobligationsofthemunicipality.TheTaxableMunicipal

BondMarAllrightsreserved.Nopartofthispublicationmaybereproduced,storedinaretrievalsystem,ortransmitted,inanyformorbyanymeans,electronic,mechanical,photocopying,recording,orotherwise,withoutthepriorwrittenpermissionofthepublisher.PrintedintheUnitedStatesofAmerica.Allrightsreserved.Noparto

Chapter9

Non-U.S.Bonds

Chapter9

Non-U.S.Bonds

LearningObjectivesAfterreadingthischapter,youwillunderstandthereasonsfortheglobalizationoffinancialmarketstheclassificationofglobalfinancialmarketswhattheforeignbondmarketiswhataglobalbondistheforeignexchangeriskexposureofaninvestorwhoinvestsinnondollar-denominatedbondswhataEurobondisandthedifferenttypesofEurobondstructurestheclassificationoftheglobalbondmarketintermsoftradingblocsLearningObjectivesAfterreadiLearningObjectives(continued)Afterreadingthischapter,youwillunderstandtheeurogovernmentbondmarketthemethodsofdistributionofnewgovernmentbondstheissuanceoflinkersbysovereignissuersthemotivationforinvestinginnondollarbondsfactorsconsideredintheratingofsovereignbondshowtocompareyieldsonU.S.bondsandEurobondsthePfandbriefemarketemergingmarketbondsLearningObjectives(continuedClassificationofGlobalBondMarketsTheglobalbondmarketcanbeclassifiedintotwomarkets:aninternalbondmarket

andanexternalbondmarket.Theinternalbondmarket(ornationalbondmarket)canbedecomposedintotwoparts:thedomesticbondmarketiswhereissuersdomiciledinthecountryissuebondsandwherethosebondsaresubsequentlytraded.theforeignbondmarketofacountryiswherebondsofissuersnotdomiciledinthecountryareissuedandtraded.Exhibit9-1(seeOverhead9-5)providesaschematicpresentationoftheglobalclassificationsystem.ClassificationofGlobalBondExhibit9-1

ClassificationofGlobalFinancialMarketsInternalMarket(alsocallednationalmarket)DomesticMarketExternalMarket(alsocalledinternationalmarket,offshoremarket,andEuromarket)ForeignMarketExhibit9-1

ClassificationofClassificationofGlobal

BondMarkets

(continued)IntheUnitedStatestheforeignbondmarketisthemarketwherebondsareissuedbynon-U.S.entitiesandthensubsequentlytraded.BondstradedintheU.S.foreignbondmarketarenicknamedYankeebonds.Regulatoryauthoritiesinthecountrywherethebondisissuedimposecertainrulesgoverningtheissuanceofforeignbonds.ClassificationofGlobal

BondClassificationofGlobal

BondMarkets

(continued)Theexternalbondmarket,alsocalledtheinternationalbondmarket,includesbondswiththefollowingdistinguishingfeatures:theyareunderwrittenbyaninternationalsyndicateatissuancetheyareofferedsimultaneouslytoinvestorsinanumberofcountriestheyareissuedoutsidethejurisdictionofanysinglecountrytheyareinunregisteredform.TheexternalbondmarketismorepopularlycalledtheEurobondmarket.Aglobalbondisonethatisissuedsimultaneouslyinseveralbondmarketsthroughouttheworld.ClassificationofGlobal

BondClassificationofGlobal

BondMarkets

(continued)Anotherwaytoclassifytheworld’sbondmarketisintermsoftradingblocs.Thetradingblocsusedbypractitionersforthisclassificationaredollarbloc,Europeanbloc,Japan,andemergingmarkets.ThedollarblocincludestheUnitedStates,Canada,Australia,andNewZealand.Thetradingblocconstructisusefulbecauseeachblochasabenchmarkmarketthatgreatlyinfluencespricemovementsintheothermarkets.ClassificationofGlobal

BondForeignExchangeRiskandBondReturnsThereturntoU.S.investorsfrominvestmentsinnon-U.S.bondsthataredenominatedinaforeigncurrencyconsistsoftwocomponents:thereturnonthesecuritymeasuredinthecurrencyinwhichthebondisdenominated(calledlocalcurrencyreturn),whichresultsfromcouponpayments,reinvestmentincome,andcapitalgains/losseschangesintheforeignexchangerateForeignExchangeRiskandBondForeignExchangeRiskandBondReturns(continue)Anexchangerateistheamountofonecurrencythatcanbeexchangedforanothercurrency,orthepriceofonecurrencyintermsofanothercurrency.Sincetheearly1970s,exchangeratesbetweencurrencieshavebeenfreetofloat,withmarketforcesdeterminingtherelativevalueofacurrency.Whenacurrencydeclinesinvaluerelativetoanothercurrency,itissaidtohavedepreciated

relativetotheothercurrency.Alternatively,thisisthesameassayingthattheothercurrencyhasappreciated.ForeignExchangeRiskandBondForeignExchangeRiskandBondReturns(continue)Iftheforeigncurrencydepreciates(declinesinvalue)relativetotheU.S.dollar,thedollarvalueofthecashflowswillbeproportionatelyless.Thisriskisreferredtoasforeignexchangerisk.Thisriskcanbehedgedwithforeignexchangespot,forwards,futures,oroptionsinstruments(althoughthereisacostofhedging).SeveralreasonshavebeenofferedforwhyU.S.investorsshouldallocateaportionoftheirfixedincomeportfoliotonondollarbonds.Thepartylineisthatdiversifyingbondinvestmentsacrosscountries—particularlywiththecurrencyhedged—mayprovidediversificationresultinginareductioninrisk.ForeignExchangeRiskandBondEurobondMarketTheEurobondmarketisdividedintosectorsdependingonthecurrencyinwhichtheissueisdenominated.Forexample,whenEurobondsaredenominatedinU.S.dollars,theyarereferredtoasEurodollarbonds.EurobondsdenominatedinJapaneseyenarecalledEuroyenbonds.AlthoughEurobondsaretypicallyregisteredonanationalstockexchange,themostcommonbeingtheLuxembourg,London,orZurichexchanges,thebulkofalltradingisintheover-the-countermarket.EurobondMarketTheEurobondmaEurobondMarket(continued)Issuersofforeignbondsincludenationalgovernmentsandtheirsubdivisions,corporations(financialandnonfinancial),andsupranationals.Asupranationalisanentitythatisformedbytwoormorecentralgovernmentsthroughinternationaltreaties.Thepurposeforcreatingasupranationalistopromoteeconomicdevelopmentforthemembercountries.IntheEurobondmarket,indicationsfortradesareinitiallyexpressedonaspreadbasis.IntheU.S.market,thespreadisrelativetotheU.S.Treasuryyieldcurve.EurobondMarket(continued)IssEurobondMarket(continued)CorporateBondsandCovenantsIntheEurobondmarket,thereisadebateregardingtherelativelyweakprotectionaffordedbycovenants.ThechiefreasonforthisisthatinvestorsincorporateEurobondsaregeographicallydiverse.Asaresult,itmakes