What are bonds?

A bond is fixed-income security where a lender comes into a contract with the borrower. The borrower agrees to make payment and interest at a specified date in the future or on maturity period. It is a type of financing that helps to fulfill and meet obligations. Many people invest in bonds because it is a simple form of security.

International bonds

A bond issued in a foreign currency or foreign by the domestic investor in another foreign country is known as an international bond. They are issued by foreign governments or business organizations and issued in both foreign and domestic markets.

Features of international bonds

Features of international bonds are fixed income securities, dealing in foreign currency, savings, debt market and foreign market.
Features of International Bonds
  1. A bond provides a fixed income at a fixed interest rate to the investors like the governments, organizations, corporations, businesses, etc.
  2. International bonds are issued in foreign currency. When bonds are issued across the international border, it is issued in the form of currency. It helps to reduce the cost of borrowings.
  3. It helps to create the habit of savings among different types of investors. It provides an opportunity for investors to invest in foreign currency or international bonds and maximize their wealth and savings power.
  4. A market that allows the trading of debt securities or instruments to investors is known as the debt market. It provides a fixed rate of return to the debt investors in the form of interest. International bonds are traded in the debt market. The debt market includes two types: the primary debt market and the secondary debt market.
  5. International bonds are purchased in the foreign market. When the government corporation or business organization issues the bonds, foreign entities purchase these bonds in the foreign market.

Advantages of international bonds

  1. Diversification of portfolio strategy – It helps an investor diversify the portfolio, which helps minimize the risk and maximize the return. It allows an investor to invest in different types of international bonds to maximize wealth.
  2. Investment avenue International bonds are a good investment avenue because they provide an opportunity for the business, government, corporations, etc., to invest in long-term and short-term foreign bonds or currency.
  3. Fundraising security Allows the government corporation to effectively raise funds to provide welfare services to citizens and meet their expenses and business organizations to expand their activities and operations.
  4. Stable income – It provides a stable and fixed revenue to foreign investors. It bears a fixed rate of interest on it and facilitates the payment of principal amount and interest on the date of maturity.

Disadvantages of international bonds

  1. Limited choice International bonds provide a limited choice of selection to investors. It does not provide extensive choice options to the people who want to invest in the bonds.
  2. High fees Fees for international bonds are high. As international bonds are issued in foreign countries, an investor must spend additional expenses to purchase such bonds.
  3. Risk assertive International bonds have a high level of risk. Sometimes the return on them is low despite the high risk.  But the bonds having a high level of risk provides high returns.

Risk in international bonds

The risks involved in International bonds are Interest risk, default risk, Inflation risk, liquidity risk, Downgrade risk and reinvestment risks.
Risk in International Bonds
  1. Interest rate risk – Fluctuations in the rate of interest change the return on the bonds. An increase in the interest rate will decrease the value of the international bonds.
  2. Default risk – It is the risk between the lender and borrower where the borrower fails to repay the bond value and debt obligations.
  3. Inflation risk – Increase in the level of inflation decreases the purchasing power of the investors in the bonds. It affects the investments in the bonds.
  4. Liquidity risk – It is a risk that results in high losses as the business organization or financial firms cannot meet their short-term and long-term debt liabilities and obligations.
  5. Downgrade risk – It is a risk that is associated with the ratings of the bonds. Downgrade risk results in a negative rating that affects the growth and development of bonds.
  6. Reinvestment risk – The return received from the international bonds does not allow an investor to reinvest. This results in reinvestment risk.

Instruments of international bonds

  1. Floating-rate bonds – When the interest rates of the bonds fluctuate or do not remain the same during a period, they are known as floating-rate bonds. The interest rates change periodically and are adjusted.
  2. Straight-rate bonds – When the interest rates of the bonds remain constant, they are known as straight-rate bonds. Investments in such types of bonds provide fixed interest to the investors.
  3. Convertible bonds – When the foreign bonds are easily converted into common shares, they are known as convertible bonds.
  4. Zero-coupon bonds – A bond that does not pay interest on the investment of the bonds is known as the zero-coupon bond. Such types of bonds are traded at a discounted price of the face value of the bonds.
  5. Dual-currency bonds – The other name of dual-currency bond is hybrid debt bonds. One bond instrument is used to raise the currency, and the other bond instrument is used to redeem the principal amount of the debt.

Classification of international bonds

International bonds are classified into Domestic bonds, Foreign bonds and Euro dollar bonds.
Classification of International Bonds

Domestic bonds

A bond traded in the domestic country with the help of the domestic currency is known as a domestic bond. It is also known as domestic investment in bonds. They do not have currency risk. There are different types of domestic bonds, such as

  • Corporate bonds
  • Public sector undertaking bonds
  • Emerging bonds market
  • Tax-savings bonds

Eurodollar bonds

A bond that brings the lender and borrower into the contract and then asks the borrower to pay the interest along with the principal amount on the maturity date is known as euro bonds. They have less risk and provide the tax benefit to an issuer. They are easily convertible into shares as they deal with liquid investing portfolios. It does not provide short-term investing strategies. Issuer, taxation, ratings, interest rates, etc., are essential elements of euro bonds.

The process of euro bond is as follows:

  • The borrower who is investing in euro bonds needs to select the lead manager first. The lead manager is an investment bank.
  • The lead manager directs and organizes a group. This group provides information about the bond issues to the investor.
  • Once the borrower receives information about the bond issues, the managing group and borrower come into the contract. The borrower sells the bond to the group. The group sells the euro bonds to the underwriter.
  • A borrower hires an agent to look after the matters and conduct all the legal proceedings and regulations.

Foreign bonds

A bond issued by a foreign country in the domestic country is known as a foreign bond. A foreign country is an issuer. A foreign business organization with a large outlet in the domestic country issues various investments portfolio and their bonds are traded in the foreign market. And the denomination for the foreign bond is foreign currency.

Context and Applications

This topic is significant in the professional exams for both undergraduate courses & postgraduate courses and competitive exams, especially for:

  • Bachelor in Business Administration
  • Masters in Business Administration
  • Global Finance Analytics

Practice Problems

Question 1: Identify which of the following is fixed-income security.

(a.) Equity shares

(b.) Bonds

(c.) Currency

(d.) Real estate

Answer: (b)

Explanation: Bonds provide a fixed income in the form of interest to the bondholder. All the other assets like equity shares. Currency and real estate have fluctuating prices dependent on the market.

Question 2: Identify the risk involved in international bonds.

a. Positive risk

b. Natural risk

c. Classification risk

d. Liquidity risk

Answer: (d)

Explanation: Liquidity risk results in loss to business organizations as they cannot meet their obligations. International bonds entail liquidity risks because if they are used to finance trade.

Question 3: Identify the types of international bonds.

a. Eurodollar bonds

b. Simple bonds.

c. Normal bonds.

d. Flexible bonds

Answer: (a)

Explanation: International bonds are categorized into domestic, foreign, and eurodollar bonds.

Question 4: Identity which of the following is not an instrument of international bonds.

a. Commercial paper

b. Straight-rate bonds

c. Floating-rate bonds

d. Convertible bonds

Answer: (a)

Explanation: Commercial paper is a money market instrument.

Question 5: Identify the type of domestic bond.

a. Convertible bonds

b. Corporate bonds

c. Zero-coupon bonds

d. Dual currency bonds

Answer: (b)

Explanation: As the name suggests, corporate bonds are issued by corporate houses and do not form a part of international bonds.

Common Mistakes

Students make mistakes in understanding the difference between domestic bonds and international bonds. They are not clear about the procedure of issuing bonds. They should learn about the risk associated with the bonds and eliminate them.

While studying this topic, it is recommended to read the following topics to get a better knowledge:

  • Financial management
  • Issue of bonds
  • Types of bonds
  • Domestic bonds

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