Fixed-income Investors Research Articles

Structured Finance Certification: FIIN’s Key Contribution to Market Resilience

FIIN (the Fixed Income Investor Network) has developed a practitioner-oriented structured finance testing and certification program in-house to address the current vacuum of educational opportunity to learn best practices. It is an obstacle not only for structured finance practitioners to seek continuous professional development, but also to the further development of depth, liquidity and coverage in the structured finance market itself. Since its formation in 2018, FIIN has viewed education as mission critical. The support for education is there in FIIN’s motto: <italic>Better Investors Make Better Markets</italic>. Having grown rapidly in the past five years, to 550 individual members from more than 250 firms, and drawing on the talents of veteran buyside and structured finance-specific training talent, FIIN is uniquely positioned to offer professional certification. And given that the buyside always pays when structured securities are not rated or priced for fully-loaded risk, FIIN is the obvious entity to take the lead in setting educational standards for the market. The target date for the Beta launch is October 2023.

The Credit Suisse CoCo wipeout: Facts, misperceptions, and lessons for financial regulation

The Credit Suisse CoCo wipeout: Facts, misperceptions, and lessons for financial regulation

Factors Limiting Investment Attractiveness of Developing Countries (on the Example of the Kyrgyz Republic)

This article discusses the factors that limit the investment attractiveness of developing countries and allow developing countries to improve living standards and eventually move into the ranks of developed countries. In general, the article discusses the following factors that limit growth in the economy and hinder the involvement of investment: low rates of savings and investment; underdeveloped financial markets; weak or even corrupt legal systems and failure to enforce laws; lack or non-observance of the right of ownership; political instability; weak public education and health care; tax and regulatory policies that hinder entrepreneurship; restrictions on international trade and capital flows. The article highlights the importance of analyzing the potential gross domestic product (GDP) and its growth rate in the investment decisions of shareholders and fixed-income investors. It is known that investments in physical capital, human capital, and technological development affect the economic growth of the country. In conclusion, we reviewed some of the key factors and requirements related to economic growth and investment in Kyrgyzstan and provided a summary of the factors limiting investment growth in developing countries, using the example of financial performance in Kyrgyzstan.

The Value of Data to Fixed Income Investors

The Value of Data to Fixed Income Investors

The origin of LYONs: A case study in financial innovation

The origin of LYONs: A case study in financial innovation

The Long Term Comovement Between Sukuk And Conventional Fixed Income Markets

Sukuk markets have made significant progress both in terms of market volumes and international awareness in recent years. These financial products are specially designed for investors who avoid interest gain. On the other hand, it is an ongoing issue in the literature whether these markets are a useful alternative for conventional fixed income investors as well. Our main purpose is to explore sukuk market as an investment alternative for conventional fixed income market investors' points of view. Since the integration of assets is one of the key criteria for portfolio investments, this study investigated the long-term comovements between sukuk and other fixed-income indexes via Johansen and Engle-Granger cointegration technique. To proxy international fixed income portfolio, international bond indexes which are prepared by FTSE (Financial Times Stock Exchange Group) are employed. Besides, the vector error correction model is also applied to deepen the results. According to the findings, there is a limited causality in the long run between sukuk markets and conventional bond markets. This can make international sukuk assets highly beneficial diversification alternative to conventional bond portfolios. The study aims to contribute to the literature by examining the benefits of sukuk markets as an investment alternative to conventional, wide-range fixed income markets.

Practical Applications of Scott Wolle, Jay Raol, and Scott Hixon — Conversations with Frank Fabozzi

Frank Fabozzi interviewed three members of <bold>Invesco’s </bold>quantitative asset-management team—<bold>Scott Wolle</bold>, <bold>Jay Raol</bold>, and <bold>Scott Hixon</bold>—about multifactor investing and multiasset strategies. A video recording of the complete interview is available on the PMR website at <ext-link>https://www.pm-research.com/Wolle-Hixon-Raol</ext-link>. They discussed the following: <list><list-item> the history of factor investing beyond equity factors, and its current relevance to commodity and fixed-income investors; </list-item><list-item> the underlying philosophy of factor investing; </list-item><list-item> the practicalities of factor investing, including nonequity factors; and </list-item><list-item> how a macrofactor perspective can simplify asset allocation. </list-item></list> Factors are powerful tools for helping to clarify the risk and return behavior of securities. The rapid propagation of factors has incentivized the use of macrofactors to manage this profusion better and to understand portfolio risk more comprehensively.

ABS East 2021 Conference Notes

The recent 27^th Annual ABS East Conference at the Fontainebleau in Miami Beach attracted roughly 1,500 attendees from issuers, investors, and government entities. The conference started on Monday, December 13, 2021, and ran through Wednesday, December 15, 2021. The conference was a hybrid event that allowed remote participation via the Internet. The overall mood was strongly positive. This report covers 18 sessions from the event, including the general sessions on Tuesday and breakout sessions covering ESG, the pandemic, mortgage-backed securities, consumer ABS, equipment lease ABS, and aircraft ABS. <b>SESSIONS COVERED</b> <b><i>Monday Sessions</i></b> ESG Hub: Analyzing and Implementing a Taxonomy Distressed Credit Trading Opportunities in the Commercial MBS Market ESG Hub: Applications to MBS FIIN Task Force: Consumer ABS Pandemic Recovery Assessment: The RMBS Market <b><i>Tuesday Sessions</i></b> IMN &amp; FIIN ABS East Welcoming Remarks The Corporate World Re-Emerging: Pandemic Recovery and Moving Towards a Sustainable Finance Agenda Defining the Real Risks to Our Economy Today Keynote Fireside Chat: The Big Gender Short—Presented by 100 Women in Finance Trends in Non-QM MBS Single Family Rental: A Market Heating Up or Prone to Overheating? Outlook for GSE Mortgage Credit Risk Transfer FIIN Task Force: RMBS Sector Update: Aircraft ABS <b><i>Wednesday Sessions</i></b> The Fixed Income Investor Roundtable: Focus Areas for a Post-Pandemic Market Keynote Fireside Chat: Life Insurance Premium Finance—Evolution of a New ABS Asset Class Sector Update: Equipment Leasing Blockchain for ABS: Digitization and Automation Developments in Online Lending

Financing Correlated Drug Development Projects

Current business models have struggled to support early-stage drug development. In this paper, we study an alternative financing model, the megafund structure, to fund drug discovery. We extend the framework proposed in previous studies to account for correlation between phase transitions in drug development projects, thus making the model a more realistic representation of biopharma research and development. In addition, we update the parameters used in our simulation with more recent estimates of the probability of success (PoS). We find that the performance of the megafund becomes less attractive when correlation between projects is introduced. However, the risk of default and the expected returns of the vanilla megafund remain promising even under moderate levels of correlation. In addition, we find that a leveraged megafund outperforms an equity-only structure over a wide range of assumptions about correlation and PoS. TOPICS:Portfolio theory, portfolio construction, equity portfolio management, asset-backed securities (ABS), mutual funds/passive investing/indexing, simulations, performance measurement Key Findings • The performance of a biomedical megafund becomes less attractive when correlation between phase transitions in drug development projects is introduced. • The risk of default and the expected returns of the vanilla megafund remain promising to fixed-income investors and equity holders, even under moderate levels of correlation. • A leveraged megafund outperforms an equity-only structure over a wide range of assumptions about correlation and probability of success.

The power of diversification: Do African fixed-income investors have a chance in Malaysian Sukuk market?

PurposeThis study investigates the presence of portfolio diversification benefits for South African, Nigerian, Ghanaian and Kenyan fixed-income investors diversifying bond portfolios in the Malaysian sovereign Sukuk market.Design/methodology/approachThe paper uses wavelet coherence and a multivariate generalized autoregressive conditional heteroscedastic (GARCH) model. The data cover the period from September 2013 to January 2019.FindingsThe findings obtained from the wavelet coherence model reveal evidence of portfolio diversification opportunities for African fixed-income investors in the Malaysian sovereign Sukuk market. These opportunities are more significant in the short- and medium-term investment horizons than in the long-term. Also, the results of multivariate GARCH show that the Malaysian Sukuk market has a negative unconditional correlation with the South African bond market, signifying better diversification benefits for these investors.Practical implicationsThe findings have implications for both fund managers and investors intending to include Sukuk in a diversified portfolio to reduce their risks and maximize their return from bonds.Originality/valueTo the best knowledge of the authors, this is the first study to examine the opportunities for African investors in the Malaysian Sukuk market.

Comparing Sovereign Debt Rating consistency with Sovereign AML Rating Accuracy

Many stakeholders in the global anti-money laundering (AML) space, including correspondent banks, rely upon explicit or de facto AML sovereign rating services. This reliance is similar to that reposed by fixed income investors in sovereign debt ratings. In this paper we demonstrate that sovereign debt rating agencies provide highly consistent and reasonably accurate ratings. Sovereign AML ratings, by contrast, are usually inconsistent and lack any empirical basis to judge their accuracy. Users of sovereign AML ratings are therefore cautioned that, whatever value they place upon these ratings, they are unreliable measures of the actual incidence of money laundering in any given jurisdiction.

Minimum Connectedness Portfolios and the Market for Green Bonds: Advocating Socially Responsible Investment (SRI) Activity

Socially responsible investment (SRI) practices are increasingly widely adopted, and moving into mainstream investment activity. Among the suite of instruments available to responsible investors is a fixed-income offering known as a green bond - a specialized bond in which the use of proceeds are strictly earmarked for projects with an explicit ‘green’ orientation. The market for green bonds was established in 2007, and in recent years is achieving a phase of maturity. Notwithstanding this, there is as yet scant evidence or empirical insights around their potential value to investors. Here we question whether green bonds have a (value-enhancing) role to play in a balanced fixed-income investment portfolio. We phrase our analysis around international bond indices, for green versus black bonds in the three major market regions for green bonds, namely the US, Europe and China. A time-varying parameter vector auto-regression (TVP-VAR) econometric framework is applied to daily data - spanning July 2016 to April 2019 - to examine aggregate network, and pairwise dynamics as they have evolved through time and illustrate the evolving nature of connectedness between these core bond-market benchmarks. Following this, bond portfolios are constructed with dynamic weighting schemes (including a novel ‘minimum connectedness’ portfolio) to question, if, when and to what extent green bonds are part of an international fixed-income investor’s portfolio. The results indicate a non-trivial role for green bonds, with weights ranging from approximately 40% to 80% depending on time, and portfolio construction choice. Chinese green bonds typically have the largest weight of the green bond indices, especially under minimum-variance portfolios, while in the preferred ‘minimum connectedness’ portfolio there is a much more balanced representation of US, European and Chinese green bonds. Our analysis contributes unique evidence to the literature on the role of SRI practices as a complement to mainstream investment.

A Complete Model for Pricing CoCo Bonds

Contingent convertible (CoCo) bonds comprise a specialized market segment of the contingent capital market, an instrument that offers a valuation challenge to investment professionals. In this article, we develop new pricing models for these bonds that provide a methodology useful to both equity and fixed-income investors. We develop models in terms of the free boundary value problem where the spatial variable is the underlying stock price. These models allow the calculation of delta and gamma, as well as any kind of interest rate measure (i.e., duration and convexity) including the callability feature. Moreover, we revise the closed-form solution of a well-known model suggested for CoCo bond pricing such that it meets all practical needs. We use this explicit solution for testing the accuracy of their numerical methods. Two approaches are used based on the assumption about the dynamics of the underlying stock price. The first approach is based on the primary assumptions about the market used in the development of the Black-Scholes option pricing model; the second approach involves credit risk modeling by means of jump-to-default stock price dynamics. TOPICS:Project finance, fixed income and structured finance, derivatives, quantitative methods, credit risk management Key Findings • Two improved models for pricing contingent convertible (CoCo) bonds are developed using (1) a framework entirely based on the assumptions of the Black-Scholes option-pricing model and (2) a framework involving credit risk modeling by means of jump-to-default stock price dynamics. • The numerical models allow for not only CoCo bond pricing for a given interest rate term structure but also for the calculation of delta, gamma, and any kind of duration and convexity for CoCo bonds including the callability feature. • Unlike other proposed CoCo bond pricing models that have been oriented to one investor group, the models presented in this article are useful for both equity investors and fixed income investors.

Agnosticism in Pan-Asian Structured Finance

Fixed income investors doing Asian cross-border deals have become increasingly agnostic in the types of transactions they are now engaging in, departing from the “safe” high-quality credit portfolios that underlie traditional securitizations and venturing into nontraditional asset classes and structures such as equity hybrids, mezzanine debt, single-asset or single-issuer deals, real estate, and distressed debt. These trends are driven by the chase for higher yields. Increasingly, a double-digit internal rate of return is becoming the predominant determinant for whether or not to do a deal. In Asia, however, foreign exchange controls and currency mismatching remain the biggest challenges to realizing such high levels of return. Cross-border movements of capital and currency conversions are often strictly regulated by central banks. Even where and to the extent permitted, the risk of local currency depreciation requires cross-currency and other types of market hedging, the cost of which may well render the proposed deal unfeasible. <b>TOPICS:</b>Fixed income and structured finance, international investing, real estate, risk management, interest-rate and currency swaps

Collateral Affects Return Risk: Evidence From the Euro Bond Market

Covered bonds and senior bonds are important securities for fixed income investors. Senior bonds are unsecured, while covered bonds are secured and backed by collateral. Our results show that collateral reduces the total risk in individual bonds by more than 70%. Compared to diversified portfolios of senior bonds, diversified portfolios of covered bonds have a significantly lower level of systematic risk. However, the fraction of systematic risk to total risk is higher for covered bonds. By decomposing the variance of bond returns, we find that around 33% of the risk in senior bonds is systematic, versus 53% in covered bonds. Both types of bonds contain instrument specific risk.

Dynamic Risk-Aware Yield Search: A Useful Tool for Fixed Income Investors

Fixed income investors favor higher yields with lower risk. Our objective in this paper is to outline an active fixed income strategy that maximizes yield and is protected against major risk factors affecting fixed income securities. In particular, we look at interest rate risk, credit risk, inflation risk, price volatility, and liquidity risk as different risk factors and are able to tactically change our allocations in favor of a higher yielding fixed income portfolio compared to the benchmark allocation - Barclays US Aggregate Bond Index. In the current low yield environment with flattening yield curves, we find that the strategy favors allocation to the short end of the interest rate curve and inflation-protected securities and the strategy is able to seamlessly incorporate investor views across different risk factors. The strategy returns a portfolio that only takes those risks for which it is appropriately compensated through higher yields. The methodology discussed is quite flexible and can accommodate multiple investor preferences with respect to different risk factors. The strategy is expressed via ETFs to reduce liquidity risk and to contain execution costs.

Does the Malaysian Sovereign sukuk market offer portfolio diversification opportunities for global fixed-income investors? Evidence from wavelet coherence and multivariate-GARCH analyses

Understanding the co-movement among asset returns is a critical issue in finance, as investors can minimize risk through diversification. International investors seek alternative asset classes to diversify their portfolio. Therefore, it would be meaningful to investigate whether sukuk (Islamic bond) offer any advantages in terms of global diversification. In this context, we examined the volatilities and correlations of sovereign bond indexes in developed countries, such as the US, Canada, Germany, the UK, Australia, and Japan, and the Thomson Reuters BPA Malaysia Sukuk Index, using wavelet coherence and multivariate-GARCH analyses. The data cover the period January 2010–December 2015. The results of the study significantly highlight that wavelet coherence illustrates lower co-movement between returns on developed market bond index (the US, the UK, Australia, Canada, Germany, and Japan) with returns on the Malaysian sukuk index during the sample period. Moreover, the Malaysian sukuk market has negative unconditional correlation with the US and Canadian bond markets, which is a good sign of diversification benefits. This study reveals attractive opportunities in terms of diversification benefits, with credit quality and sharia-compliant financial sector exposure for investors who want to invest in fixed-income securities.

Are Interest Rates Really Low?

Contrary to common perception, many fixed-income investors have not suffered unusually low real interest rates in and after the Great Recession of 2008. This is because taxable investors must first pay taxes on nominal interest returns, before inflation further reduces their earned real interest rates. To obtain the same real after-tax yield, investors need more than one-to-one compensation for inflation. As a result, long-term Treasury bonds have been no less attractive for taxable investors in 2016 (with a 1.0% post-tax real yield) than they were in 2006 (0.5%), 1976 (–1.7%), 1966 (0.9%), and 1956 (0.8%), although they have been less attractive than they were in 1996 (2.4%) and 1986 (2.9%). Short-term Treasury bond yields have been on the low side but have also not been particularly unusual.

Impact of exchange rate and oil price on the yield of sovereign bond and sukuk: Evidence from Malaysian capital market

This study analyses the impact of exchange rate and oil prices on the yield of sovereign bond and sukuk for Malaysian capital market. This study aims to ascertain the effect of weakening Malaysian Ringgit and declining of crude oil price on the fixed income investors in the emerging capital market. This study utilises daily time series data of Malaysian exchange rate, oil price and the yield of Malaysian sovereign bond and sukuk from year 2006 until 2015. The findings show that the weakening of exchange rate and oil prices contribute different impacts in the short and long run. In the short run, the exchange rate and oil prices does not have a direct relation with the yield of sovereign bond and sukuk. However, in the long run, the result reveals that there is a significant relationship between exchange rate and oil prices on the yield of sovereign bond and sukuk. It is evident that only a unidirectional causality relation is present between exchange rate and oil price towards selected yield of Malaysian sovereign bond and sukuk. This study provides numerical and empirical insights on issues relating to capital market that supports public authorities and private institutions on their decision and policymaking process.

Financial integration between sukuk and bond indices of emerging markets: Insights from wavelet coherence and multivariate-GARCH analysis

Some investors strive for capital appreciation while others may follow capital preservation strategies in terms of investment. In relation to that, Islamic finance receives a lot of attention from institutional investors and asset managers in the search for higher returns, lower correlation and growth potentiality. Therefore, it would be meaningful to investigate whether sukuk can offer any advantage in terms of global diversification. In such context, we have examined the volatilities and correlations of bond indices of emerging counties such as South Korea, Singapore, China, India, Indonesia, and Malaysia with Thomson Reuters BPA Malaysia Sukuk Index by applying wavelet coherence and Multivariate GARCH analyses. The data covers the period January 2010 to December 2015. We conclude that the sukuk market offers effective portfolio diversification opportunities for fixed income investors of the mentioned sample countries. Global and regional investors can avail the benefits of portfolio diversification through investment in sukuk markets but portfolio diversification is not feasible domestically. As a practical implication to the finance industry, the outcome of this research provides a framework for investigating sukuk market integration of several emerging bond markets which serve as an important platform for conducting further research.