A method of redeeming bonds using surplus funds provided from an unrelated bond issue. Cross calling occurs when a lender, which repackages its loans into new securities, uses prepayments from low interest rate loans to repay principal on the high-yield securities. |||The practice of cross-calling is seen in the mortgage-backed securities (MBS) market. However, it is seen as taboo because it shifts risk from high-yield investors to low-yield ones.For example, let's examine a simple bank that has issued two mortgages with interest rates of 5% and 10%. The bank converts these into mortgage-backed securities and sells them to investors with coupon rates of 7% and 15%, respectively. Cross calling involves using prepayments from the 5% mortgage to pay principal on the 15% MBS. While this pays off the more risky bond faster, it forces the 7% bondholders to rely on risky payments from the 10% mortgage. The 7% bondholders are not compensated for the additional risk and the bank saves by making smaller interest payments.
The risk of loss of principal or loss of a financial reward stemming from a borrower's failure to repay a loan or otherwise meet a contractual obligation. Credit risk arises whenever a borrower is expecting to use future cash flows to pay a current debt. Investors are compensated for assuming credit risk by way of interest payments from the borrower or issuer of a debt obligation.Credit risk is closely tied to the potential return of an investment, the most notable being that the yields on bonds correlate strongly to their perceived credit risk. |||The higher the perceived credit risk, the higher the rate of interest that investors will demand for lending their capital. Credit risks are calculated based on the borrowers' overall ability to repay. This calculation includes the borrowers' collateral assets, revenue-generating ability and taxing authority (such as for government and municipal bonds).Credit risks are a vital component of fixed-income investing, which is why ratings agencies such as S&P, Moody's and Fitch evaluate the credit risks of thousands of corporate issuers and municipalities on an ongoing basis.
One of the principal criteria for judging the investment quality of a bond or bond mutual fund. As the term implies, credit quality informs investors of a bond or bond portfolio's credit worthiness, or risk of default.Also known as a "bond rating." |||An individual bond or bond mutual fund's credit quality is determined by private independent rating agencies such as Standard & Poor's, Moody's and Fitch. Their credit quality designations range from high ('AAA' to 'AA') to medium ('A' to 'BBB') to low ('BB', 'B', 'CCC', 'CC' to 'C').Investors interested in the safety of their bond investments should stick to investment grade bonds ('AAA', 'AA', 'A', and 'BBB'), while other investors willing and able to accept a higher level of risk could consider lower credit-quality bonds.
1. The broad market for companies looking to raise funds through debt issuance. The credit market encompasses both investment-grade bonds and junk bonds, as well as short-term commercial paper. 2. The market for debt offerings as seen by investors of bonds, notes and securitized obligations such as mortgage pools and collateralized debt obligations (CDOs). |||The credit markets dwarf the equity markets in terms of dollar value. As such, the current state of the credit markets tells us the relative health of a large portion of the financial community if we examine the prevailing interest rates and look at investor demand for various grades of credit - from "riskless" (as in Treasury Bonds) to junk bonds that carry high default risks. More demand from investors will prompt companies and lenders to issue more bonds, the effects of which will spill over into the equity markets. There are broad classes of mutual funds and ETFs that invest solely in the credit markets, allowing investors to add fixed-income exposure to their portfolios without purchasing individual securities.
A bond with a coupon rate that is within 0.5% of the current market rate. Current coupon bonds are typically less volatile than other bonds with lower coupons because the coupon rate is closer to that set by the market. Watch: Understanding Bonds |||Because a current coupon bond is less volatile, it is also less likely to be called. It has implied call protection rather than an explicit call provision. Its inherent stability, however, also means that it won't offer as great of a return.
A currency system that establishes a trading range that a currency's exchange rate can float between. A currency band represents the price floor and ceiling within which the price of a given currency can trade, and is like a hybrid of a fixed exchange rate and a floating exchange rate. The currency band restricts how much the price can move relative to a reference currency or currencies. |||If the value of the currency begins trading outside the band, then the country of that currency will usually revert to a fixed exchange rate. This usually stablizes the currency's price back within the band. The Chinese yuan is an example of a currency that moves within a currency band.
The revenue stream pledged to secure "securities being refunded" is being used to payoff debt on the refunded securities until they mature. |||When they mature or are called, the pledged revenues pay debt service on the refunding securities.
A provisions in a bond indenture or loan agreement that puts the borrower in default if the borrower defaults on another obligation. Also known as "cross acceleration". |||This provides more security to the lender. You can think of this as an "out-clause" to the contract.
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