52 Fixed-Income Markets for Corporate Issuers

Central Bank Funds Rate

• This accurately describes the interest rate on excess reserves one bank borrows from another.
• Deposits with a country's central bank are required reserves.
• Banks with deposits exceeding the required amount have excess reserves.
• These banks may lend to other banks in the central bank funds market.
• Interest rates on these loans are known as central bank funds rates.

Debt Covenants

• These protect debt investors.
• A cap on the total amount of debt a company can have outstanding protects current debt investors from additional borrowing.
• This prevents the company from putting current obligation interest and principal payments at risk.
• A debt-to-equity ratio debt covenant is likely to be a maximum threshold.
• Dividend payments are likely to be maximum amounts not to be exceeded.

Redding Company's Debt Options

• Redding has a credit rating below investment grade, and needs to issue new debt for capital.
• Redding's best options are callable debt instruments or leveraged loans with prepayment options
• Shorter-maturity instruments are preferable.
• Redding may be able to borrow at lower rates later if its financial situation improves.

Credit Spread and Bond Type

• Credit spreads for high-yield bonds are a larger proportion of yield.
• This is in comparison to government and investment-grade bonds.
• The credit spread is 5% of the yield on Bond A, 10% of the yield on Bond B, and 30% of the yield on Bond C, therefore bond C is high yield.

Rollover Risk and Standardization

• This is a benefit available to investment-grade corporate bond issuers.
• Investment-grade issues are standardized and issued across multiple maturities.
• This reduces the risk that maturing debt will have to be replaced with new debt at higher interest rates.
• High-yield debt is not standardized, matures earlier, and short-term debt carries more rollover risk.

Overnight Repurchase Agreement

• Repo rate and repo margin are lower.
• Term repo agreements have higher repo rates and repo margins.

Yield Curve Environment

• In a normal environment higher yields must be offered by corporate issuers on bonds that mature further in the future.
• Both investment-grade and high-yield corporate issuers need to offer these higher yields on longer maturities.

Interbank Funds Market

• This refers to short-term unsecured loans between banks.
• It is not the trading of negotiable certificates of deposit.
• Borrowing from the central bank occurs in the central bank funds market.

Repurchase Agreements

• Greater demand for the underlying security results in a lower repo margin.
• Repo margin is the percent difference between market value of collateral and the loan amount.
• Repo margin and repo rate have an inverse relationship with the credit quality of the collateral.
• Repo rate is the annualized percent difference between the sale price and repurchase price of the collateral.

"Reverse Repo"

• A reverse repo is when a bond dealer is the lender.
• Bond dealers use repurchase agreements as funding sources.