CHAPTER 4 Bond Market

  Learning  objectives  

After studying this chapter, you should be able to:

  1. Explain the basics of the debt security market and the types of debt securities that treasury desks use to manage the bank’s trading liquidity book and generate trading profits.
  2. Discuss the concepts around return on debt securities, including yield to maturity, credit spread, and Z-spread.
  3. Describe the properties of various debt security products, such as fixed-rate bonds, zero coupon bonds, and floating rate notes.
  4. Understand other issues around the debt market, including measurement of interest rate risk, portfolio duration and immunisation, and management of basis risk.

Introduction

The bank’s treasury desk does not concern itself only with foreign exchange and money market instruments. It also needs to be aware of, and be familiar with, debt instruments, for example, when managing debt securities such as floating-rate notes as part of a liquidity book portfolio.

As we discussed briefly in the previous chapter, bonds are debt-capital market instruments that represent a cash flow payable during a specified time period heading into the future. This cash flow represents the interest payable on the loan and the loan redemption. So, essentially, a bond is a loan, but one that is tradable in the secondary market. This differentiates bond-market securities from commercial bank loans.

In this chapter, we discuss the general types of debt securities, their investment return, the ...

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