When a bond is issued, one issuer typically sells a large number of bonds at the same time. Sometimes every bond in the offering has the same issue date and the same maturity date. Other times, the issuer structures the maturities differently. Here are the main issuance formats you’ll see:
Term
Serial
Series
Debt securities are structured in different ways depending on the issuer and the purpose of the financing. Most corporate and U.S. government bonds are issued in term format, while many municipal (city and state government) bonds are issued in serial format. Bonds that fund construction-related projects are commonly issued in series format. These are general patterns, and there are exceptions.
We’ll also learn how bonds are quoted in future chapters.
You don’t need to know why bonds are quoted differently yet. For now, focus on the idea that some bonds are quoted with prices and some are quoted with yields.
Price quote example
Yield quote example
These quotes describe different things:
Bonds issued in certain formats are commonly quoted in specific ways. Term bonds are most often quoted in price, also called percentage of par form. As described above, a bond quoted at 95 is trading at 95% of par, which is why it’s called a percentage of par quote. You may also hear this called a dollar quote or a term quote.
Serial bonds are most often quoted in yield form. Yield quotes are also referred to as serial quotes and basis quotes.
You may have heard of a basis point. A basis point equals 0.01%. In practice, basis points are often used to describe small changes in rates or performance. For example:
“The company’s revenues exceeded expectations by 50 basis points.”
That means the company exceeded revenue expectations by 0.50%. On the exam, you may see basis points written in a few equivalent ways:
When basis points are mentioned in a bond quote, they refer to the bond’s yield. That’s why yield quotes are sometimes called basis quotes.
Underwriters market securities to the investing public on behalf of issuers (in the primary market). Issuers pay underwriters to help them raise capital by selling their securities. For example, the underwriters for Uber’s initial public offering (IPO) in 2019 collected over $100 million in fees. Many factors affect underwriting fees, and one major factor is the type of underwriting commitment.
Underwriting commitments can be firm or best efforts. The key difference is who ends up with any unsold securities. For example, if an underwriter tries to sell $100 million of bonds but only sells $75 million, who keeps the remaining $25 million?
If a bond is issued on a firm commitment basis, the underwriter keeps the unsold securities. In this arrangement, the underwriter pays the issuer (typically close to the full offering amount) and then tries to profit by reselling the bonds to customers. If any bonds go unsold, the underwriter is stuck with them.
If a bond is issued on a best efforts basis, the issuer keeps the unsold securities. The underwriter earns an underwriting fee for each unit sold, but doesn’t have to buy or hold any unsold shares or bonds.
Firm commitments are riskier for underwriters, so they typically come with higher underwriting fees than best efforts commitments. As with other areas of finance, taking on more risk generally requires higher compensation.
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