Municipal Bond Glossary
The accumulation of principal or interest over a period of time. This is usually referring to “zero-coupon” or discount bonds building value towards par.
Interest earned but not yet due or payable. The buyer of a bond pays the seller accrued interest from the last coupon payment date to settlement date. The buyer will then receive the full interest payment at the next coupon payment date.
Additional Bonds Test:
(AKA the ABT). Future issues of parity bonds (see Parity Bonds) cannot be issued unless the issuer can demonstrate that revenues are available to pay the current debt service plus the additional debt service of the new bonds. The ABT is usually expressed by a factor such as 1.25 times meaning revenues must be 125% of the current and future debt service. This is a feature common in revenue bonds.
(as in “ad valorem taxes”) The tax levied on real property (the property tax). The most common tax pledge securing a general obligation bond.
(AGC) Assured Guaranty Corporation:
Began operations in 1988 and is a leading provider of financial guaranty and credit enhancement products to investors, financial institutions and other participants in the global capital markets. Assured Guaranty is currently rated Aa3 by Moody’s and AA+ by S&P.
AMBAC (American Municipal Bond Assurance Corporation):
A holding company founded in 1971 which provides financial guarantee insurance for municipal and structured finance obligations. AMBAC filed for Bankruptcy under Chapter 11 in November 2010. Moody's, S&P and Fitch have withdrawn their ratings for AMBAC.
The legal mechanism by which the legislative branch of government sets specific spending authority for the executive branch to provide and pay for governmental services. The consolidation of appropriations is the budget.
The obligation to pay debt service is contingent upon inclusion of the debt service payment in the issuer’s adopted budget (the appropriation). Once the appropriation is made, the obligation to pay debt service is usually absolute and unconditional. Types of appropriation bonds are certificates of participation, lease revenue bond and service contract bonds.
Index arbitrage exploits price differences between bond index futures and underlying bonds. By taking advantage of momentary disparities in prices between markets, arbitrageurs perform the economic function of making those markets operate more efficiently.
Authority and Agency Bonds (Revenue Bonds):
Created by states, counties, cities or a combination to perform specific functions such as the operation of bridges, tunnels, water or electric systems. These bonds pay interest and principal from the revenue generated by the facility.
1/100 of a percent, as of interest rates or investment yields.
A bond that is not registered in the owner’s name and has coupons attached. It is fully negotiable, similar to cash. In order to sell such a bond, all coupons must be attached and not mutilated. It is payable to whoever possesses the bond (whoever “bears” the bond).
BHAC (Berkshire Hathaway Assurance Corporation):
Berkshire Hathaway Assurance Corp. (BHAC) was created in December 2007 by Warren Buffett, CEO of Berkshire Hathaway, Inc., as an insurer for municipal bonds. BHAC is rated Aa1 by Moody's and AA+ by S&P.
The price the client will receive when they sell.
When a security is purchased in book-entry form, the client receives a confirmation of the purchase. The client will also receive a periodic account statement indicating his/her holdings, interest, principal payments, or any other activity. This is similar to banks, which now use bank statements and at one time might have used a passbook system. Book-entry relieves a client of the risk, expense, and bother of safekeeping their securities. The client does not need to worry about missing a call notice, and they are no longer exposed to the inconvenience of replacing lost or stolen certificates.
The contract between the borrower (the municipal issuer) and the lender (the investing public). The promise to repay the monies borrowed.
In the purest sense, the credit analysis of a General Obligation bond centers on two issues: (1) the municipality’s willingness to pay and (2) its willingness to pay its debts in a timely manner. The two main ratings companies for municipal bonds are Moody’s and S&P. The basic difference between the ways that the two ratings companies analyze bonds is that, while Moody’s concentrates on debt burdens and debt ratios, S&P focuses on the socioeconomic base of a community (e.g. per capita growth trends, total personal income). Moody’s ratings are in parenthesis.
• AAA (Aaa) - The highest rating assigned by Moody’s and S&P. Capacity to pay interest and repay principal is extremely strong.
• AA (Aa) - Debt has a very strong capacity to pay interest and repay principal and differs from the highest rated issues only in a small degree.
• A - Debt rated “A” has a strong capacity to pay interest and repay principal, although it is somewhat more susceptible to the adverse affects of changes in circumstances and economic conditions than debt in higher-rated categories.
• BBB (Baa) - Debt is regarded as having an adequate capacity to pay interest and repay principal. These ratings by Moody’s and S&P are the “cut-off” for a bond to be considered investment grade. Whereas debt normally exhibits adequate protection parameters, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity to pay interest and repay principal in this category than in higher-rated categories.
• BB (Bb), B, CCC (Ccc), CC (Cc), C - Debt rated in these categories is regarded as having predominantly speculative characteristics with respect to capacity to pay interest and repay principal. “BB” indicates the least degree of speculation and “C” the highest. While such debt will likely have some quality and protective characteristics, these are outweighed by large uncertainties or market exposure to adverse conditions and are not considered to be of investment grade.
• D - Debt rated “D” is in payment default. This rating category is used when interest payments or principal payments are not made on the date due, even if the applicable grace period has not expired, unless S&P believes that such payments will be made during such grace period.
The legal authorization on the part of a municipal entity to issue bonds. The resolution sets out the terms and conditions of the bond issue including such items as the legal ability to issue bonds, the type of bond, the pledge and any other legal covenants necessary and required for the legal issuance of the bond.
Another term for debt service. See Debt Service for definition.
(See also Redemption Provisions.) The ability of a municipal issuer to partially or totally repay a bond issue before its stated maturity.
A bond which is subject to redemption prior to maturity at the option of the issuer on a specific date at a specific price.
Certificates of Participation:
(AKA COPs) Municipal bonds whereby bondholders have a proportionate share (represented by the dollar amount of bonds owned) in the lease rental payment (the debt service) made by a municipality.
A bond that is issued by one entity (the conduit) on behalf of another entity (the obligor). (The New York State Dormitory Authority is an example of a conduit financing. The Dorm Authority issues bonds on behalf of private colleges and universities, hospitals, the State of New York, City of New York etc. The Dorm Authority is the issuer but the other entities, the obligors, are responsible for paying the debt service.)
Legally enforceable pledges to bondholders by the municipal issuer to perform certain actions to insure that debt service payments can and will be made in a timely manner.
Amount by which pledged revenues are greater than the debt service of the bonds. Coverage is expressed by a times factor similar to the ABT. For example, if revenues are equal to $100 and debt service is $10, then the coverage is $100/10 or 10 times (or 10x). A term common in revenue bonds.
The substitution of the paying ability and therefore the rating of one entity for another. The most common type of credit enhancement is municipal bond insurance.
The annual rate of interest that the borrower promises to pay the bondholder, usually semi-annually in the case of municipal bonds.
Proceeds of a refunding bond, which are invested in U.S. government securities, are used to pay the debt service of the refunding bonds up to a point then cross over to pay the debt service of the refunded bonds. Not common. See Refunding Bonds, Refunded bonds and Escrow for further information.
The coupon rate divided by the price.
A nine-digit code permanently assigned to each issue and embossed on every certificate.
Custodial Receipt Form:
A form of registered bond where a buyer receives a certificate with their name on it. They are negotiable certificates and payments come directly from the transfer agent.
The date that interest starts to accrue on a new issue.
The payment of interest and the repayment of principal to bondholders on specified dates. Generally interest is paid twice a year at six month intervals and principal is repaid once a year.
Debt Service Reserve Fund:
(AKA DSR) A reserve fund, usually funded from bond proceeds, which can only be used if a debt service payment is not made. DSR’s are common in lease obligation bonds and revenue bonds and are necessary for moral obligation bonds.
A bond that is selling for less than the price it will mature at.
A bond which is traded in dollars rather than yield.
The legal document outlining the terms and conditions under which proceeds of refunding bonds are used to pay the debt service of refunded bonds. The escrow (which should be irrevocable) stipulates which bond or bonds are to be refunded, whether the bonds will be redeemed at a call date or paid until maturity and what the refunding bond proceeds are invested in. Usually refunding bonds are invested in U.S. government securities.
ETM –(Escrowed To Maturity):
Sometimes, rather than retiring all the outstanding bonds at the call date, refunding bond proceeds are escrowed to provide sufficient money to retire the bonds at their stated maturities. In most cases, the escrowed funds are invested directly into U.S. Government or Government Agency (depending on the Agreement) securities and carry an “AAA” rating. These bonds are then considered "Escrowed to Maturity." However, recently there has been some uncertainty regarding the call options of the escrowed bonds. In many instances, it is not specified in the escrow agreement that the bond calls are defeased and there have been instances where issuers have tried to call escrowed bonds. But to date, ETM bonds have never actually been called prior to maturity.
"Extraordinary Redemption" provisions or extraordinary calls:
Sometimes also known as Catastrophe Calls are usually at par (or accreted value for original issue discount bonds) and can occur at any time after the bonds are issued. These redemption provisions are specifically designed to protect the creditworthiness of the issuer by allowing bonds to be retired in the event that extraordinary circumstances impair the issuer’s future revenue stream.
FGIC (Financial Guaranty Insurance Company):
The company began operations writing municipal bond insurance in 1984. FGIC is no longer rated by Moody’s and S&P.
FHA (Federal Housing Administration):
Bond proceeds are placed in an escrow account invested in U.S. Government securities or in a guaranteed investment contract with a highly rated bank. FHA actually insures 99% of the mortgage and deducts a 1% fee.
Financial Industry Regulatory Authority.
Bonds that are trading without any accrued interest.
FSA (Financial Security Assurance):
FSA was acquired by Assured Guaranty Ltd. in July 2009.
General Obligation Bonds:
Bonds are issued directly by state or local governments or their agencies to meet essential government functions such as schools and highway construction. These bonds are backed by the issuer’s pledge and its full faith, credit and taxing power to meet interest and principal payments.
A type of revenue bond pledge in which all revenues before deductions for operations and maintenance are pledged to bond holders. A term commonly used in revenue bonds.
These issues are secured by mortgage repayments on single family homes or multi-unit rental buildings.
Industrial Development Bonds:
Made available by communities to encourage the construction of private purpose facilities such as factories and airports. These bonds are usually subject to the Alternative Minimum Tax.
This is when the securities are actually owned.
The date that the issuer will pay back principal in full and cease paying interest. Bonds that have principal maturing every year until the final state maturity are called serial maturities. Bonds that have only one principal maturity at a date in the future are called term bonds. Term bonds pay only semi-annual interest payments until the final date when principal is paid. Bonds that pay no principal and interest during the term of the bonds and pay only one payment at the end of term are called Zero-coupon bonds. Zero bonds are sold at a steep discount because the interest payments accumulate over the term the bond—the accretion—and are paid at the final maturity.
MBIA (Municipal Bond Investors Assurance Corporation):
Starting in 1974, MBIA was one of the first municipal bond guarantors. MBIA Insurance Corp. transferred all of its U.S. public finance business to National Public Finance Guaranty and now only engages in the non-U.S. sector.
Moral Obligation Bond:
A tax-exempt bond issued by a municipality or a state financial intermediary and backed by the moral obligation pledge of a state government. Under a moral obligation pledge, a state government indicates its intent to appropriate funds in the future if the primary obligor (the municipality or intermediary) defaults. The state’s obligation to honor the pledge is moral rather than legal because future legislatures cannot be legally obligated to appropriate the funds required. Examples of entities which possess New York State’s moral obligation pledge are: NYS HFA (for the State University Construction Fund, Nursing, Non-Profit Housing, Health Facilities, and Hospital programs), the Battery Park City Authority, The NYS Dormitory Authority for City Colleges, and the NYS Urban Development Corporation.
NATL (National Public Finance Guaranty):
A wholly owned subsidiary of MBIA Inc. formed in early 2009 to acquire all of MBIA Insurance Corp.’s U.S. public finance business. National is currently rated Baa1 by Moody’s and BBB by S&P. National guarantees bonds previously insured by MBIA, as well as, some previously insured by FGIC.
A type of revenue bond pledge in which revenues remaining after deductions for operations and maintenance are pledged to bondholders. Considered the stronger of the revenue pledges (see Gross Revenues) because without the ongoing viability of the revenue producing entity (a water and sewer system), eventually there would be no revenues to pay debt service.
The price at which a broker is willing to sell a security.
(AKA the O.S.) the legal disclosure document identifying all pertinent items of information to the bondholder. An O.S. generally identifies the issuer, the obligor (if different from the issuer), the nature of the obligation (whether a G.O. or revenue), maturity schedule, redemption provisions, information about the obligor, etc.
Original Issue Discount. Refers to bonds that were issued at a price below their par value.
Price equal to the face amount of a security: 100%
Bonds that are equal to each other in terms of their requirement to be paid from the pledged revenues. For example, all general obligation bonds issued by a specific municipality are equal to each other in terms of being repaid regardless of when issued. In other words, a bond issued in 1990 does not have a superior position to be repaid than a bond in 1995. Unlike general obligation bonds, revenue bonds, COPs, lease revenue and service contract bonds are not necessarily on parity with each other.
The face value of a bond.
A designated bank or treasurer for the issue which is responsible for paying principal and interest.
When a security is selling above face or par value.
Bonds are pre-refunded when the monies raised from a refunding issue are put in escrow to retire the debt at one of the call dates. When this occurs, the call date then becomes the stated maturity and the call price becomes the maturity value.
The interest rate charged by commercial banks to its best clients.
The face amount of a bond excluding interest.
One point on a bond equals $10 per $1000 face.
The minimum level of debt service coverage that must be provided by the pledged revenues on a yearly basis. If the minimum cannot be met, then revenues must be increased. A term commonly seen in revenue bonds. (Obviously, an absolute rate covenant is 1.00 times, but the covenant is usually greater than 1, something like 1.25 times, for example. In other words, if debt service is $10, then net revenues must be at least $12.50 for a 1.25x rate covenant).
These are designations used to indicate relative quality of an issue and the ability of an issuer to pay principal.
The conditions under which bonds can be called or redeemed prior to their stated maturity. Bonds can be called at the option of the issuer (optional redemption—usually at a premium price if called at specific dates) or must be called if certain special specific conditions occur (mandatory, special or extraordinary redemptions). The special redemption provisions are outlined in the Official Statement.
When a client purchases a security in registered form, they receive a registered certificate in their name. This is a negotiable certificate, and payment comes directly from the paying agent.
(AKA pre-refunded or pre-re) Payment of the debt service for these bonds are provided by the proceeds and investment earnings of refunding bonds. The refunding bond proceeds are placed in an irrevocable escrow (see Escrow) and invested in securities for the benefit of the bondholders. The investments are usually in U.S. government obligations.
Bonds which are used to redeem other outstanding bonds. The concept is similar to refinancing a mortgage. Municipalities issue refunding bonds generally to (1) take advantage of lower interest rates, or (2) restructure their debt service schedule.
Bonds which are secured by a specific stream(s) of revenue(s) rather than the general taxing power of a municipality. Revenue bonds encompass a wide array of pledged revenues including but not limited to sales tax revenue bonds, utility revenue bonds, college and university revenue bonds, motor vehicle revenue bonds etc.
Securities and Exchange Commission.
The bondholders have first call on the pledged revenues securing the bonds. Unless the bondholder specifically holds a subordinate lien revenue bonds (see Subordinate Lien) by definition all revenue bonds are senior lien bonds.
Service Contract Bonds:
A bond secured by a service contract between the State of New York (the obligor) and the issuer. New York State has entered into a contract whereby the state is obligated to pay the debt service subject only to annual appropriation. (See Appropriation and Appropriation Bond for further information)
Bonds maturing in a sequence of years, usually short to intermediate maturity.
The date that payment is required by the client for any given transaction entered. Regular settlement for bond trades is trade date + 3 business days.
Sinking Funds are reserves set aside by the issuer to redeem term bonds over a specified period prior to the stated maturity date. Just as serial maturities help issuers spread their financial charges evenly, sinking funds help even out payments on term bonds. Instead of paying off the entire issue at maturity, the issuer pays a set amount annually into a sinking fund from which bonds are redeemed on a set schedule. If the bonds are redeemed, the price is usually at par.
SIPC- The Securities Investor Protection Corporation has two main function:
1. SIPC insures that customers of a failed brokerage firm receive all non-negotiable securities that are already registered in their names or in the process of being registered. All other so-called "street name" securities are distributed on a pro-rata basis.
2. SIPC uses its reserves to satisfy the remaining claims of customers up to a maximum of $500,000. This figure includes a maximum of $100,000 on claims for cash. Recovered funds are used to pay investors whose claims exceed SIPC's protection limit of $500,000.
The difference between bid and offering.
The bondholders of these bonds will be paid after the bondholders of the senior lien bonds are paid first. (The concept is similar to a second mortgage).
Occur when all excess revenues after the payment of operating expenses, interest, and rated principal are used to retire term bonds early in order of maturity.
Unit Investment Trust:
A trust with a fixed portfolio of securities that are held to maturity.
Unlimited tax pledge:
The ad valorem taxes pledged as security for a general obligation bond is unlimited as to rate or amount.
1. Current yield is equal to the coupon interest payment divided by the current price of the bond. It is a simple method of calculating current income on a bond earned from interest payments.
2. Yield-to-maturity takes into consideration what an investor would earn from all interest and principal payments over the life of the bond. This concept takes into account the time value of money.
3. Yield-to-call shows the investor what yield would be earned if the bonds are called. It is the equivalent of YTM except that it is calculated to the call.
(as in “Zero Coupon Bond”) bearing no interest, but sold substantially below face value.
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