Classifications of Bonds

Global debt markets are three times larger than equity markets. As such, there are many ways by which to go to classify bonds.

Classification by Type of Issuer

The three bond market sectors are government and government-related, corporate sector, and structured finance sector. The government-related sector includes supranational organizations (such as the World Bank), governments, and local governments (provinces, regions, states). Structured finance is done by securitization that transforms transactions into tradeable securities in public markets. Securitized (or asset-backed) securities transfer ownership of assets i.e. loans and receivables into a special legal entity.

Classification by Creditworthiness of Issuer

The issuer’s creditworthiness is determined by credit rating agencies. Ratings of Baa3 or above by Moody’s Investors Service or BBB- or above by Standard & Poor’s (S&P) and Fitch are investment grade. Ratings below these are non-investment grade, high-yield, speculative, or “junk”. Investment-grade bonds are generally more liquid than high-yield bonds.

Classification by Maturity

Maturities of money market securities such as Treasury bills range from overnight to 1 year. Corporate sector securities with short maturities are commercial paper and negotiable certificates of deposit. The currency denomination is also distinctive. If a bond is in British Pound, credit quality, and UK interest rates govern the price. Bonds could pay a fixed rate of interest or a floating rate of interest. Floating-rate bonds, floating-rate notes (FRNs) or floaters, adjusts to market interest rates. Interest rate risk is associated with a change in interest rate. To limit volatility, banks with floating-rate debt often make floating-rate loans.

Question

A fixed-income security with a maturity of 3 months is most likely a:

A. Capital market security

B. Money market security

C. Junk bond

Solution

The correct answer is B.

The maturity of money market securities ranges from overnight to one year.

 

Reading 51 LOS 51a:

Describe classifications of global fixed-income markets

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