Bond markets and bond market instruments

The bond market, also known as the debt, credit, or fixed income market, is a financial market where participants buy and sell debt securities usually in the form of bonds. The size of the international bond market is an estimated $45 trillion. Bond market participants are similar to participants in most financial markets and are essentially either buyers (debt issuer) of funds or sellers (institution) of funds and often both.

Participants include:

  • Institutional investors
  • Governments
  • Traders
  • Individuals

Because of the specificity of individual bond issues, and the lack of liquidity in many smaller issues, the majority of outstanding bonds are held by institutions like pension funds, banks and mutual funds.

Bond market volatility

For market participants who own a bond, collect the coupon and hold it to maturity, market volatility is irrelevant; principal and interest are received according to a pre-determined schedule. But participants who buy and sell bonds before maturity are exposed to many risks, most importantly changes in interest rates. When interest rates increase (decrease), the value of existing bonds fall (rise), since new issues pay a higher (lower) yield. This is the fundamental concept of bond market volatility: changes in bond prices are inverse to changes in interest rates. Fluctuating interest rates are part of a country’s monetary policy and bond market volatility is a response to expected monetary policy and economic changes.

Economists' consensus views of economic indicators versus actual released data contribute to market volatility. A tight consensus is generally reflected in bond prices and there is little price movement in the market after the release of “in-line” data. If the economic release differs from the consensus view the market usually undergoes rapid price movement as participants interpret the data. Uncertainty (as measured by a wide consensus) generally brings more volatility before and after an economic release. Economic releases vary in importance and impact depending on where the economy is in the business cycle.

Types of bonds

  • Zero Coupon Bonds – Don’t pay periodic interest. They repay the loan amount at maturity but are sold at a discount
  • Floating Rate Notes – The interest payments on these securities are not fixed at issue but fluctuate with market interest rates. They are reset against a predetermined benchmark
  • Callable Bonds - These securities have provisions allowing the issuer to redeem the issue prior to the scheduled maturity date

The bond market is a market where bonds are issued and traded. The most actively traded bonds in our local market are (government, semi-government and corporate bonds):
 

Issuer

Instrument Name

RSA

R153, R157, R186, R194, R196, R201, R203, R204, R206, R207,

ESKOM

E168, E170

Telkom

TK01

Transnet

T011

Bonds as an asset class generally exhibit lower risk than equities. As a bond holder you have the security of knowing that the bond will be repaid in full by the government or semi-government authorities at a specific time in the future. Corporate bonds are of higher risk as there is a possibility of default. The other major risk associated with bonds is interest rate risk. As market interest rates move, bonds experience price fluctuations. These fluctuations are inversely related to movements in market rates i.e. as market rates move up, bond prices are negatively affected.

Bond Exchange of South Africa (besa)

The Bond Exchange of South Africa is the principal bond market of South Africa. It was founded in 1989 and is based in Johannesburg. As of April 2007, BESA lists over 375 fixed-income securities, or bonds.