1. Chapter 11 International Debt Markets
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

2. Learning Objectives
Examine the use of international debt markets as a source of funding
Describe the role of euromarkets and US capital markets
Distinguish between eurocurrency, euronote and eurobond markets
Consider US debt markets and securities
Explain the role of credit rating agencies
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

3. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

4. 11.1 The Euromarkets International debt markets Are used by:
financial institutions, who are the largest borrowers
governments and corporations
Attract investors as they:
provide a deep and liquid market
allow higher investment returns
are a form of portfolio diversification
Have grown in importance owing to deregulation of FX markets
Accessible to borrowers with a strong financial reputation and a very good credit rating
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

5. 11.1 The Euromarkets (cont.)
International debt markets (cont.)
Consist of large unregulated money and capital markets
Major centres in London, the Middle East and Asia
USD is the dominant currency
Euro-zone is the domestic market for countries adopting the euro currency
Debt securities denominated in euros have grown as the predictability, liquidity and volatility of the euro consolidate
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

6. 11.1 The Euromarkets (cont.)
Initially evolved to enable countries to hold USD outside of the US, e.g. USSR
Although euromarkets originated in Europe, euromarket transactions can occur in any nation-state of the world
‘Euro’ means ‘outside’
A euromarket transaction is conducted in a foreign country but not in its currency
Growth in euromarket transactions is driven mainly by interest rate factors, i.e lower borrowing and higher lending rates
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

7. 11.1 The Euromarkets (cont.)
Provide intermediated and direct finance over a range of terms to maturity and are categorised as follows:
Eurocurrency markets
Provide intermediated bank finance
Euronote markets
Provide short-term direct finance
Eurobond markets
Provide medium- to long-term direct finance
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

8. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

9. 11.2 Eurocurrency Market
The major forms of eurocurrency facilities discussed are:
short-term bank advances
standby arrangements
medium- to long-term eurocurrency loans
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

10. 11.2 Eurocurrency Market (cont.)
Short-term bank advances
Similar to term loans or fully drawn advances
Term determined and full amount drawn down on approval
Commitment fee may be charged if advance not drawn down immediately after approval
May be extended by ‘revolving credit’, where a mixture of currencies can be chosen at each rollover (to match borrower’s currency inflows)
LIBOR typically used as indicator or reference rate
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

11. 11.2 Eurocurrency Market (cont.)
Eurocurrency standby facilities
A source of ‘back-up’ funds to meet short-term cash shortfalls
Funds more likely to be available offshore in periods of tight domestic liquidity
Short-term finance (up to two years)
Interest charge and commitment fee apply
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

12. 11.2 Eurocurrency Market (cont.)
Medium- to long-term eurocurrency bank loans
Loan size about USD3–100 million
Larger loans may involve a syndicate of banks
Term is typically five to 10 years
Loans usually fully drawn down at commencement of loan unless an availability period is arranged, which attracts a commitment fee
Interest rate normally above LIBOR and fixed for a period of one to 12 months, plus other fees apply
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

13. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

14. 11.3 Euronote Market
Active market for short-term promissory notes or commercial paper
Euronotes take several forms, two of which are:
1. euronote issuance facility (NIF)
2. eurocommercial paper (ECP)
Demystified in that these securities are fundamentally the same as domestic money-market and capital-market securities
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

15. 11.3 Euronote Market (cont.)
Euronote issuance facility (NIF)
A short-term unconditional bearer promissory note drawn by the borrower in borrower’s name
Underwriting banks guarantee funds at issue and convert funding into medium term through a rollover facility
The instrument
Discount security
Maturity usually 30 to 180 days
Bearer securities in denominations of USD to
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

16. 11.3 Euronote Market (cont.)
Euronote issuance facility (NIF) (cont.)
Structure
A syndicate of banks underwrite the facility to a specified amount and discount rate, thus providing certainty for borrower
Selling procedures
Usually sold by a tender process, inviting members of a tender panel to tender prices for the notes
Tender panel composed of up to 25 financial institutions, including some of the underwriters
Issuer may specify a rate (posted rate), which is the yield at which the issuer is willing to sell a security
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

17. 11.3 Euronote Market (cont.)
Euronote issuance facility (NIF) (cont.)
Parties involved in NIF issue
Arranger, lead manger, co-managers and senior managers, facility agent, tender panel agent, issuing and paying agent
Fees
Additional to NIF issue and rollover fees: include establishment fees for the arranger, managers and underwritter; commitment fee and take-up fees to underwriters; and agency fees for administration
Approximately 50 basis points (0.50%) in equivalent annual costs
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

18. 11.3 Euronote Market (cont.)
Eurocommercial paper (ECP)
Arrangement where P-notes are issued into euromarkets that are not underwritten
Developed owing to changes in needs of:
borrowers—high credit ratings and a history of successful issues, sought cheaper funds by dispensing with underwriters
financial institutions—underwriting NIF issues sought to avoid imposed capital adequacy requirements of off-balance-sheet exposures
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

19. 11.3 Euronote Market (cont.)
Eurocommercial paper (ECP) (cont.)
Typically more than USD250 million
Issued in tranches to test market’s reaction and to match borrower’s cash needs
Usually less than six dealing institutions (spread geographically and involving different institutional forms) to avoid fragmentation of facility
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

20. 11.3 Euronote Market (cont.)
Calculating the price of NIF and ECP
Discount security formulae (from Chapter 9) but with market convention of a 360-day year
(11.1)
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

21. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

22. 11.4 Eurobond Market
Eurobond market is the equivalent of a domestic capital market
Two main long-term coupon debt securities issued in the euromarket considered here
1. Euro medium-term notes
2. Eurobonds, including straight bonds and floating rate notes
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

23. 11.4 Eurobond Market (cont.)
1. Euro medium-term notes (MTN)
Emerged from the US equivalent market
Unsecured, non-homogenous bearer securities paying periodic coupon, issued in tranches
Maturities up to 15 years, average about three years
Coupons can be a fixed or variable interest rate expressed as a margin above a specified indicator rate
MTNs are not homogenous and can include a range of maturities, currencies and fixed and floating coupons
Dealers
With issuers, determine amount of facility and maturities
Act as agents for the issuer and seek investors
Promote secondary market by quoting two-way prices
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

24. 11.4 Eurobond Market (cont.)
Euro medium-term notes (MTN) (cont.)
Issues
Primary issue on a periodic or continuous (daily) basis
To remove concerns of fragmentation of notes, two other distribution techniques used
1. MTN tap approach—involves dividing facility into a number of tranches, each with a specified minimum and maximum dollar amount, and identical maturity and coupon
2. Serial offering technique—involves setting the maturity and coupon terms when facility is established. Facility may have several series of notes, each with different characteristics
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

25. 11.4 Eurobond Market (cont.)
2. Eurobonds
Bond markets consist of three broad market groups
i Domestic bonds
Bonds issued into a local market, in the local currency, by a local company
ii Foreign bonds
Bonds issued into a foreign market, in the local currency of that market
iii Eurobonds
Bonds issued into a foreign market, but not in the currency of that market
Traded on global markets and may escape local market listing and trading regulations
Underwritten by a multinational syndicate of banks
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

26. 11.4 Eurobond Market (cont.)
Issue and trading of eurobonds
Eurobonds are sold in a multistage process organised by an international bank called the lead manager
Lead manager creates a management group by inviting five to 30 banks to be co-managers
Management group prepares the bond issue, sets final conditions of the bond, selects underwriters and usually subscribes to a large portion of the issue
30 to 300 underwriters are invited to participate based on their regional placement power
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

27. 11.4 Eurobond Market (cont.)
Issue and trading of eurobonds (cont.)
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

28. 11.4 Eurobond Market (cont.)
Types of eurobonds
Eurobond markets continue to develop with new types of instruments and issuing techniques arising from time to time
Two classes of bonds considered here
1. Straight (fixed coupon)
2. Floating rate notes
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

29. 11.4 Eurobond Market (cont.)
Types of eurobonds (cont.)
1. Straight (fixed coupon)
A fixed-interest bond paying periodic coupons; principal repayable at maturity
Issuers and investors
Issuers—high credit rating and a household name
Investors include retail and institutional investors
Amount and currency of denomination
Fixed costs of issue constrain minimum size of issue to at least USD50 million, average about USD500 million
Main currency USD, but also yen, euro and pound sterling
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

30. 11.4 Eurobond Market (cont.)
Types of eurobonds (cont.)
Interest rate (coupon)
Fixed coupon set at issue generally paid annually in arrears
Coupons detached from bonds and presented to issuer’s paying agent for payment on due date
Maturity
Usually a specified maturity date (mostly three to 12 years), with no option for issuer or investor to lengthen or shorten life of bond
Usually principal payable in full on maturity (bullet repayment, although a partly amortised repayment structure possible)
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

31. 11.4 Eurobond Market (cont.)
Types of eurobonds (cont.)
Listing
Eurobond market has no specific physical location
Secondary market dealings occur through market-makers in a number of world financial centres
Eurobonds may be listed on the Luxembourg, London or Singapore exchanges, in compliance with disclosure standards and to ensure periodic public quotation, but few if any transactions
Participants
In addition to lead and co-mangers, and underwriting and selling groups, trustee and paying agents are involved
Costs
Commission of 1.5% to 2.5% of issue price and direct costs
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

32. 11.4 Eurobond Market (cont.)
Types of eurobonds (cont.)
2. Floating rate notes (FRNs)
A bearer bond with a variable coupon rate based on an indicator interest rate, generally LIBOR
Coupon rate reset periodically (usually six monthly) and therefore the price remains relatively stable
Issue amount typically USD100 million, but can be more than USD500 million
Maturities ranging from five to 20 years
FRNs often have a call option, and may also have a put option
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

33. 11.4 Eurobond Market (cont.)
Calculating the price of fixed-interest euromarket securities
Formula is the same as fixed-interest security formula 10.7 in Chapter 10
(11.2)
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

34. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

35. 11.5 Markets in the USA
US markets accessible to more international borrowers than euromarkets because of the lower required investment grade credit rating, i.e. BBB and AA respectively
Important available US securities
Commercial paper (USCP)
US foreign (Yankee) bonds
American depository receipts (ADRs)
The US market is highly innovative and has other products not discussed here
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

36. 11.5 Markets in the USA (cont.)
Commercial paper (USCP)
Short-term promissory note, i.e. discount security
Average maturity less than 45 days
Denominations of USD$
Some issues are supported by credit enhancements such as a bank letter of credit, or security over the assets of the issuer
Issue by public offer or private placement without requirement for official SEC registration
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

37. 11.5 Markets in the USA (cont.)
US foreign (Yankee) bonds
A debt security issued by a foreign borrower into the US market
Denominated in USD
Issued for up to 20 years
Straight bond—fixed interest periodic coupon, principal repayable at maturity
Yankee bond—a variation issued as a floating rate note with interest coupons based on an indicator rate
Junk bond—issue of securities with a credit rating less than investment-grade BBB
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

38. 11.5 Markets in the USA (cont.)
American depository receipts (ADRs)
A security issued by a US depository bank and supported by a depository share
The depository share represents one or more ordinary shares of a foreign issuer listed on the foreign company’s home stock exchange
Allows foreign companies to raise capital in US market without needing to meet SEC listing requirements
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

39. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

40. 11.6 Credit Rating Agencies
An organisation specialising in assessing the credit quality associated with financial obligations, e.g. S&P (Standard & Poor’s)
The rating methodology develops a profile balancing business risk, financial risk and environmental risk factors
S&P provide:
long-term credit ratings (AAA to D), with BBB and above being ‘investment grade’
short-term credit ratings (A-1 to D)
a rating of a corporation overall
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

41. 11.6 Credit Rating Agencies (cont.)
S&P provide (cont.):
issue-specific credit ratings on the creditworthiness of an obligor with respect to a specific financial obligation
credit ratings of specific issues into international markets include the following:
Country risk—risk of changes in the laws of a foreign country affecting financial transactions
Sovereign risk—risk of a foreign government defaulting on its obligations
Foreign exchange risk— risk of the value of one currency, relative to another, changing
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

42. Chapter Organisation 11.1 The Euromarkets 11.2 Eurocurrency Market
11.3 Euronote Market
11.4 Eurobond Market
11.5 Markets in the USA
11.6 Credit Rating Agencies
11.7 Summary
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

43. 11.7 Summary
International debt markets are attractive to both investors and borrowers
Major eurocurrency facilities include short-term bank advances, standby facilities and medium- to long-term bank loans, and are attractive because of:
the lower cost of borrowing
their creating a natural hedge
the size of the eurocurrency market
The euronote market is a market for short-term direct debt markets
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger

44. 11.7 Summary (cont.)
Main security is the P-note (commercial paper) with two main facilities, NIF and ECP
The eurobond market is a market for the issue of bonds in a currency other than the currency of the market of issue, and it includes MTNs, straight (fixed coupon) bonds and floating rate notes
Debt markets in the US include commercial paper (USCP), US foreign (Yankee) bonds and American depository receipts (ADRs)
Credit rating agencies assess the credit quality of a firm and/or its financial obligations
Copyright  2009 McGraw-Hill Australia Pty Ltd PPTs t/a Financial Institutions, Instruments and Markets 6e by Viney
Slides prepared by Anthony Stanger