CHAPTER 12 INTERNATIONAL BOND MARKETS
ANSWERS & SOLUTIONS TO END-OF-CHAPTER QUESTIONS AND PROBLEMS
QUESTIONS
1. Describe the differences between foreign bonds and Eurobonds. Also discuss why
Eurobonds make up the lion’s share of the international bond market.
Answer: The two segments of the international bond market are: foreign bonds and Eurobonds.
A foreign bond issue is one offered by a foreign borrower to investors in a national capital market
Eurobonds make up over 80 percent of the international bond market. The two major
reasons for this stem from the fact that the U.S. dollar is the currency most frequently sought in
international bond financing. First, Eurodollar bonds can be brought to market more quickly than
Yankee bonds because they are not offered to U.S. investors and thus do not have to meet the
2. Briefly define each of the major types of international bond market instruments, noting their
distinguishing characteristics.
Answer: The major types of international bond instruments and their distinguishing
characteristics are as follows:
Straight fixed-rate bond issues have a designated maturity date at which the principal of the
bond issue is promised to be repaid. During the life of the bond, fixed coupon payments that
Floating-rate notes (FRNs) are typically medium-term bonds with their coupon payments
indexed to some reference rate. Common reference rates are either three-month or six-month
A convertible bond issue allows the investor to exchange the bond for a pre-determined
number of equity shares of the issuer. The floor value of a convertible bond is its straight fixed-
rate bond value. Convertibles usually sell at a premium above the larger of their straight debt
value and their conversion value. Additionally, investors are usually willing to accept a lower
Zero coupon bonds are sold at a discount from face value and do not pay any coupon
interest over their life. At maturity the investor receives the full face value. Another form of zero
A dual-currency bond is a straight fixed-rate bond which is issued in one currency and pays
coupon interest in that same currency. At maturity, the principal is repaid in a second currency.
Coupon interest is frequently at a higher rate than comparable straight fixed-rate bonds. The
Composite currency bonds are denominated in a currency basket, such as SDRs or ECUs,
instead of a single currency. They are frequently called currency cocktail bonds. They are
3. Why do most international bonds have high Moody’s or Standard & Poor’s credit ratings?
Answer: Moody’s Investors Service and Standard & Poor’s provide credit ratings on most
international bond issues. It has been noted that a disproportionate share of international bonds
4. What factors does Standard & Poor’s analyze in determining the credit rating it assigns to a
sovereign government?
Answer: In rating a sovereign government, S&P’s analysis centers around an examination of:
political risk, income and economic structure, economic growth prospects, fiscal flexibility,
general government debt burden, offshore and contingent liabilities, monetary flexibility, external
5. Discuss the process of bringing a new international bond issue to market.
Answer: A borrower desiring to raise funds by issuing Eurobonds to the investing public will
contact an investment banker and ask it to serve as lead manager of an underwriting syndicate
that will bring the bonds to market. The lead manager will usually invite other banks to form a
managing group to help negotiate terms with the borrower, ascertain market conditions, and
manage the issuance. The managing group, along with other banks, will serve as underwriters
6. You are an investment banker advising a Eurobank about a new international bond offering it
is considering. The proceeds are to be used to fund Eurodollar loans to bank clients. What
type of bond instrument would you recommend that the bank consider issuing? Why?
Answer: Since the Eurobank desires to use the bond proceeds to finance Eurodollar loans,
which are floating-rate loans, the investment banker should recommend that the bank issue
7. What should a borrower consider before issuing dual-currency bonds? What should an
investor consider before investing in dual-currency bonds?
Answer: A dual currency bond is a straight fixed-rate bond which is issued in one currency and
pays coupon interest in that same currency. At maturity, the principal is repaid in a second
currency. Coupon interest is frequently at a higher rate than comparable straight fixed-rate
bonds. The amount of the dollar principal repayment at maturity is set at inception; frequently,
the amount allows for some appreciation in the exchange rate of the stronger currency. From
PROBLEMS:
1. Your firm has just issued five-year floating-rate notes indexed to six-month U.S. dollar LIBOR
plus 1/4%. What is the amount of the first coupon payment your firm will pay per U.S. $1,000 of
face value, if six-month LIBOR is currently 7.2%?
2. Consider 8.5 percent Swiss franc/U.S. dollar dual-currency bonds that pay $666.67 at
maturity per SF1,000 of par value. It sells at par. What is the implicit SF/$ exchange rate at
maturity? Will the investor be better or worse off at maturity if the actual SF/$ exchange rate is
SF1.35/$1.00?
Solution: Implicitly, the dual currency bonds call for the exchange of SF1,000 of face value for
$666.67. Therefore, the implicit exchange rate built into the dual currency bond issue is
.
3. A five-year, 4 percent Euroyen bond sells at par. A comparable risk five year, 5.5 percent
yen/dollar dual currency bond pays $833.33 at maturity. It sells for ¥110,000. What is the
implied ¥/$ exchange rate at maturity? Hint: The par value of the bond is not necessarily
equivalent to ¥100,000.
Solution: Since the dual currency bond is of comparable risk, it will yield 4 percent like the
straight Euroyen bond selling at par. Thus,
MINI CASE: SARA LEE CORPORATION’S EUROBONDS
Sara Lee Corp. is serving up a brand name and a shorter maturity than other recent
corporate borrowers to entice buyers to its first-ever dollar Eurobonds. The U.S. maker of
consumer products, from Sara Lee cheesecake to Hanes pantyhose and Hillshire Farm meats,
is selling $100 million in bonds with a 6 percent coupon. These are three-year bonds; other
corporate bond sellers including Coca-Cola Co., Unilever NV, and Wal-Mart Stores, Inc., have
concentrated on their five-year maturities.
“It is a well-known name and it is bringing paper to a part of the maturity curve where there
is not much there,” said Noel Dunn of Goldman Sachs International. Goldman Sachs expects to
find most buyers in the Swiss retail market, where “high-quality American corporate paper is
their favorite buy,” Dunn said.
These are the first bonds out of a $500 million Eurobond program that Sara Lee announced
in August 1995, and the proceeds will be used for general corporate purposes, said Jeffery
Smith, a spokesman for the company.
The bond is fairly priced, according to Bloomberg Fair Value analysis, which compared a
bond with similar issues available in the market. The bond offers investors a yield of 5.881
percent annually or 5.797 percent semiannually. That is 22 basis points more than they can get
on the benchmark five-year U.S. Treasury note.
BFV analysis calculates that the bond is worth $100,145 on a $100,000 bond, compared
with the re-offer price of $100,320. Anything within a $500 range on a $100,000 bond more or
less than its BFV price is deemed fairly priced. Sara Lee is rated “AA-” by Standard & Poor’s
Corp. and “A1,” one notch lower, by Moody’s Investors Service.
In July 1994, Sara Lee’s Netherlands division sold 200 million Dutch guilders ($127 million)
of three-year bonds at 35 basis points over comparable Netherlands government bonds. In
January, its Australian division sold 51 million British pounds ($78 million) of bonds maturing in
2004, to yield 9.43 percent.
What thoughts do you have about Sara Lee’s debt-financing strategy?
Suggested Solution to Sara Lee Corp.’s Eurobonds
Sara Lee is the ideal candidate to issue Eurobonds. The company has worldwide name
recognition, and it has an excellent credit rating that allows it to place new bond issues easily.
Additionally, it appears as if Sara Lee is raising funds in a variety of foreign currencies.
Sara Lee most likely has large cash inflows in these same currencies that can be used to meet