municipal bonds

(noun)

A municipal bond is a bond issued by an American city or other local government, or their agencies.

Related Terms

Examples of municipal bonds in the following topics:

  • Taxes and Bond Prices

    • For example, the U.S. government bonds have a lower risk of default and higher liquidity than municipal bonds, whereas municipal bonds are the state and local government bonds.
    • However, the interest rates of municipal bonds are consistently lower than U.S. government bonds for the last 50 years because investors do not pay U.S. taxes on the interest they earn on municipal bonds while they pay U.S. government taxes on U.S. government securities.
    • Government taxes both the municipal and non-municipal bonds while the default risk, liquidity, and information costs are equivalent for both markets.
    • Government has exempted municipal bonds from federal taxes.
    • Therefore, municipal bonds have a lower interest rate than U.S. government bonds.

  • The Nature of Bonds

    • A bond is an instrument of indebtedness of the bond issuer to the holders.
    • The main categories of bonds are corporate bonds, municipal bonds, and U.S.
    • Bond maturities range from a 90-day Treasury bill to a 30-year government bond.
    • Corporate and municipal bonds are typically in the three to 10-year range.
    • A bond is a form of loan: the holder of the bond is the lender (creditor), the issuer of the bond is the borrower (debtor), and the coupon is the interest.

  • Floating-Rate Bonds

    • Floating rate bonds are bonds that have a variable coupon equal to a money market reference rate (e.g., LIBOR), plus a quoted spread.
    • Floating rate bonds (FRBs) are bonds that have a variable coupon, equal to a money market reference rate, like LIBOR or federal funds rate, plus a quoted spread (i.e., quoted margin).
    • There are many variations of floating-rate bonds.
    • FRBs can also be obtained synthetically by the combination of a fixed rate bond and an interest rate swap.
    • Thus, FRBs differ from fixed rate bonds, whose prices decline when market rates rise.

  • Par Value at Maturity

    • A bond selling at par has a coupon rate such that the bond is worth an amount equivalent to its original issue value or its value upon redemption at maturity.
    • Corporate bonds usually have par values of $1,000 while municipal bonds generally have face values of $500.
    • Federal government bonds tend to have much higher face values at $10,000.
    • Par value of a bond usually does not change, except for inflation-linked bonds whose par value is adjusted by inflation rates every predetermined period of time.
    • Bond price is the present value of coupon payments and the par value at maturity.

  • The Valuation of Bonds

    • This coupon bond is a U.S.
    • We calculate the bond market price in Equation 4, and the bond's market price, PV0, equals $930.70.Consequently, investors would earn a 12% return on their 8% interest bonds.
    • Bearer Bonds: Who possesses these bonds receive the interest payment.Coupon bonds are usually bearer bonds.
    • Debenture Bonds are unsecured bonds.Thus, the corporation does not pledge assets for the bond issues.A corporation must be financially strong to issue these bonds because these bonds rely on the corporation's credit standing.
    • Municipal Bonds: City and county governments issue municipal bonds to finance local projects.These bonds are popular with investors because the U.S. government does not tax their interest earnings.Consequently, municipal bonds usually pay lower interest rates than other bonds.

  • Financial Instruments

    • Treasury Notes or T-notes from one to 10 years, while Treasury Bonds or T-bonds have maturities greater than 10 years.These Treasury securities have a stated interest rate, and government usually pays interest every six months.
    • State and local governments can issue bonds, called municipal bonds.The U.S. federal government encourages investors to buy these bonds by exempting investors from U.S.income taxes.Furthermore, municipal bonds fall under two categories: General-obligation bonds and revenue bonds.For general-obligation bonds, a state or local government guarantees the bonds payment with its taxing power.For instance, a city government buildsa new firehouse.Then the city government guarantees payment of the bonds with its power to tax.For revenue bonds, local or state government secures the bonds' payment by the revenues that the project generates.For example, a college builds a new dormitory, using revenue bonds.When the students pay to live there, the university pays the bondholders some of the revenue.
    • We include stocks and bonds that we had defined earlier in this chapter.
    • Government agencies can issue securities.For example, Sallie Mae is a quasi-government agency and lends to college students.Then Sallie Mae pools the student loans into a fund and issues bonds, allowing investors to buy into the fund.Subsequently, the investors indirectly earn the interest from the students' monthly payments.Thus, Sallie Mae increases the liquidity of student loans.

  • Types of Market Organizations

    • The secondary market, also known as the aftermarket, is the financial market where previously issued securities and financial instruments such as stock, bonds, options, and futures are bought and sold.
    • Most bonds and structured products trade "over the counter," or by phoning the bond desk of one's broker-dealer.
    • Over-the-counter (OTC) or off-exchange trading is to trade financial instruments such as stocks, bonds, commodities, or derivatives directly between two parties.
    • Municipal bonds are often traded in this way.

  • Bond Rating System

    • The credit rating is a financial indicator assigned by credit rating agencies; bond ratings below BBB-/Baa are considered junk bonds.
    • Bond ratings below BBB-/Baa are considered to be not investment grade and are colloquially called "junk bonds. "
    • Under the Credit Rating Agency Reform Act, an NRSRO may be registered with respect to up to five classes of credit ratings: (1) financial institutions, brokers, or dealers; (2) insurance companies; (3) corporate issuers; (4) issuers of asset-backed securities; and (5) issuers of government securities, municipal securities, or securities issued by a foreign government.
    • Bonds that are not rated as investment-grade bonds are known as high-yield bonds or more derisively as junk bonds.
    • Bond ratings below BBB-/Baa are considered to be not investment grade and are colloquially called "junk bonds

  • Other Types of Bonds

    • Other bonds include register vs. bearer bonds, convertible bonds, exchangeable bonds, asset-backed securities, and foreign currency bonds.
    • Fixed rate bonds have a coupon that remains constant throughout the life of the bond.
    • Convertible bonds are bonds that let a bondholder exchange a bond for a number of shares of the issuer's common stock.
    • A serial bond is a bond that matures in installments over a period of time.
    • Eurodollar bond - U.S. dollar-denominated bond issued by a non-U.S.

  • Purchase Process

    • Most individuals purchase bonds via a broker or through bond funds.
    • Most individuals who want to own bonds purchase bonds via a broker or do so through bond funds.
    • An individual can also purchase bonds by investing in bond funds, which hold baskets of bonds rather than competing for individual bond sales.
    • Most bond funds pay out dividends more frequently than individual bonds.
    • Bond funds invest in many individual bonds, so that even a relatively small investment is diversified.