Block B · Fixed income segments
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Bonds are debt capital; money is lent against interest and repayment; the segments differ by issuer (who owes?), structure (how is it paid?), maturity (for how long?) and credit quality (how safe?).
13 · Government bonds (Bund, Treasuries)
Bonds of sovereign states in their own currency; Bunds (German federal bonds) and US Treasuries are the reference ("risk-free" rate) of their currency area.
Safety anchor, liquidity reserve, collateral, precise duration management of the portfolio.
Highest liquidity; crisis protection (flight to quality); no spread risk.
Full interest rate risk; negative real return under inflation; currency risk with foreign currency government bonds.
Confusing "risk-free" with "price-stable"; long-dated Bunds lost over 20% in the 2022 rate rise.
107 · Duration & modified duration · 27 · Long-dated bonds (>10 years) · 91 · Yield curve (normal/flat/inverted)
14 · Supranationals (EIB, World Bank)
Issuers owned by several states or carrying a state guarantee; mostly rated AAA/AA.
Quasi-sovereign quality with a small yield pickup over Bunds; large green bond supply.
Spread pickup without meaningfully more credit risk; ESG selection.
Lower liquidity than Bunds; spreads can widen.
Equating agency status with an explicit state guarantee without checking; the forms of liability differ.
15 · Corporate bonds investment grade
Bonds of companies rated BBB-/Baa3 or better.
Core return building block of defensive portfolios; predictable income above government bond levels.
Spread over sovereigns; a huge universe for diversification.
Spread widening in recessions; downgrade risk (fallen angels); thinner liquidity in stress phases.
Overlooking the BBB cluster; the lowest IG notch now makes up a large part of the IG market.
109 · Spread (G-spread, Z-spread, OAS) · 118 · S&P Global Ratings (AAA-D scale) · 123 · Investment grade boundary (BBB-/Baa3)
16 · High yield
Rated BB+/Ba1 and lower; higher coupons as compensation for a higher probability of default.
Deliberate yield addition; partial equity substitute with a more defined payoff profile.
High running yield; shorter duration than IG.
Real defaults; high correlation to equities in a crash; illiquidity.
Booking the yield as certain; expected losses from defaults must be deducted.
123 · Investment grade boundary (BBB-/Baa3) · 153 · Credit risk parameters (PD, LGD, EAD)
17 · Pfandbriefe/covered bonds
Bank bonds with double protection; the issuer is liable AND a legally protected cover pool (mortgages, public sector loans). Pfandbriefe are the German covered bonds.
Conservative building block just above government bond yields; regulatorily privileged.
Very high safety (no Pfandbrief default in Germany in over 100 years); stable market.
Small spreads; full interest rate risk; cover pool quality varies internationally.
Treating covered bonds of all countries as equally safe; the legal frameworks differ.
18 · Bank bonds (senior preferred/non-preferred)
18 · Bank bonds (senior preferred/non-preferred)
Unsecured bank debt; senior non-preferred ranks below senior preferred in the liability cascade and is bail-in-able first in resolution.
Yield pickup in the financials sector; choose the cascade level to match the risk budget.
Spread pickup; wide selection.
Bail-in regime (BRRD); sector concentration; regulatory intervention.
Confusing SP and SNP; same issuer, markedly different loss risk in resolution.
19 · Subordinated bonds (Tier 2) · 20 · CoCos/AT1
19 · Subordinated bonds (Tier 2)
Subordinated bank capital, mostly with fixed maturity; in insolvency served only after all senior creditors.
Higher yield with a plannable maturity; for risk-tolerant fixed income allocations.
Substantial spread pickup.
Subordination; disproportionate price losses in banking stress; call uncertainty.
Looking at yield to maturity instead of yield to worst.
20 · CoCos/AT1 · 105 · Yield to maturity (YTM) / yield
20 · CoCos/AT1
Perpetual bank capital with call dates; coupons can be cancelled without make-up, and if capital ratios fall below thresholds, write-down or forced conversion looms (Credit Suisse 2023: full write-down).
Only for professionals with a clear understanding of the risk; a yield source with equity-like loss potential.
Very high coupons.
Coupon cancellation without back payment; trigger loss up to total loss; extension risk (the call is skipped).
Booking AT1 into the conservative fixed income budget.
19 · Subordinated bonds (Tier 2) · 18 · Bank bonds (senior preferred/non-preferred) · 153 · Credit risk parameters (PD, LGD, EAD)
21 · Convertible bonds (convertibles)
A bond with the right to convert into shares of the issuer; a combination of bond and equity call option.
Asymmetric profile; participate in equities on the upside, bond cushion on the downside ("convexity").
Upside participation with a safety net.
Complex valuation; the cushion erodes as credit quality deteriorates; low coupons.
Screening convertibles by yield; what matters are delta, conversion premium and bond floor.
61 · Options (call/put, basics) · 108 · Convexity
22 · Inflation-linked bonds (linkers)
Coupon and redemption linked to a consumer price index; quoted is the real yield.
Purchasing power protection; hedging against UNEXPECTEDLY high inflation; real-value logic in reporting.
Direct inflation protection; diversification versus nominal bonds.
Rising real rates depress prices; below breakeven inflation worse than a nominal bond; tax complexity.
Linkers protect only relative to the inflation expectation already priced in (breakeven), not "always".
80 · Inflation (CPI, HICP, PCE, core inflation) · 92 · Central bank policy (QE/QT, forward guidance)
23 · Floaters (floating rate)
Coupon = reference rate (3M Euribor, ESTR etc.) + fixed spread; reset mostly quarterly.
Nearly eliminate interest rate risk; cash substitute; positioning for rising rates.
Duration near zero; the coupon rises with the money market.
The coupon falls when rates are cut; credit spread risk remains in full.
Equating "no interest rate risk" with "no price risk"; spread widening depresses floaters too.
90 · Policy rates & rate decisions · 109 · Spread (G-spread, Z-spread, OAS)
24 · Zero coupon bonds (zeros)
No running coupons; bought at a discount, redeemed at 100; the entire return sits in the price difference.
Precise goal saving (amount X at date Y); maximum rate sensitivity per maturity for deliberate rates bets; liability matching.
No reinvestment risk on coupons; clear terminal value planning.
Highest duration of its maturity class; possibly ongoing taxation despite no payments.
Underestimating duration; a 30y zero has a duration of ~30.
107 · Duration & modified duration · 195 · Compound interest, present value & future value
25 · Short-dated bonds (<3 years)
Remaining maturity under three years; duration ~0.5-2.5.
Liquidity reserve with yield; parking position; protective allocation when a rate rise is expected; base of a bond ladder.
Low price fluctuation; fast reinvestment at new rates.
Reinvestment risk when rates fall; real return at times below inflation.
Permanently "parking at the front" on an inverted curve and ignoring the later reinvestment at lower rates.
91 · Yield curve (normal/flat/inverted) · 146 · Duration management & bond laddering
26 · Intermediate maturities (3-7 years)
Core segment of most bond portfolios; duration ~2.5-6.
Best ratio of yield to interest rate risk; roll-down effect on a normal curve (the bond "slides" down the curve and gains).
Balanced profile; the most liquid corporate segments.
Neither maximum protection nor maximum rates upside; a deliberate middle path.
Assuming roll-down also on a flat/inverted curve; the effect then disappears.
91 · Yield curve (normal/flat/inverted) · 107 · Duration & modified duration
27 · Long-dated bonds (>10 years)
Remaining maturity from ten years; duration ~8 to over 20.
Bet on falling rates (maximum price leverage); covering long-term liabilities (foundations, pension promises).
Large price gains when rates fall; long-term rate lock-in.
Massive price losses when rates rise; high inflation sensitivity; term premium not guaranteed.
Seeing long-dated bonds as a "safe" permanent position instead of an active duration decision.
107 · Duration & modified duration · 92 · Central bank policy (QE/QT, forward guidance)
28 · Perpetuals (perpetual bonds)
No final maturity; the issuer has calls at fixed dates, often with a coupon reset afterwards.
Yield pickup for maturity uncertainty; frequently in the subordinated/hybrid space (corporates, banks).
High running interest.
Extension risk (the call is skipped, the price falls); very high effective duration; often subordinated.
Planning the first call date as the effective maturity.
29 · MBS/ABS (securitizations)
Payments come from a loan pool (mortgages for MBS, consumer/leasing loans for ABS); tranching by risk.
Yield pickup and diversification; EU: mainly STS securitizations, USA: agency MBS as the liquid standard market.
Spread pickup; collateralized by real assets.
Prepayment risk (negative convexity in MBS); complexity; stress liquidity.
Transferring US agency logic to European securitizations without scrutiny.
30 · US municipals
Bonds of US states/municipalities; interest often tax-exempt for US taxpayers.
Primarily for US taxpayers; for German investors the tax advantage does not apply, mostly unattractive.
Solid credit quality of many issuers.
The tax logic does not apply to non-US investors; currency risk; distinct market conventions.
Comparing muni yields with taxable yields without the tax effect.
31 · EM bonds hard currency
Emerging market bonds in USD/EUR; yield = base rate + country risk spread.
Yield addition without direct currency risk; access to countries with weak local markets.
Attractive spread; broad universe (sovereigns + corporates).
Default/restructuring risk (e.g. Argentina); sensitivity to US rates and dollar strength.
"no foreign currency = little risk"; credit risk is the real driver.
32 · EM bonds local currency
Emerging market bonds in local currency; return = local rate + currency movement.
Participation in high local rates and possible appreciation; diversification of rate cycles.
High nominal yields; uncorrelated rate cycles.
Currency losses can erode the rate advantage; political risks; capital controls.
Equating nominal yield with expected return; in the short run FX risk almost always dominates.
33 · Green/social/sustainability bonds
Proceeds earmarked for environmental/social projects (use of proceeds, ICMA principles); the credit risk remains that of the issuer.
Implementing ESG requirements in the mandate; SFDR reporting capability.
Same credit quality as the issuer's conventional bonds; growing market.
"Greenium" (a somewhat lower yield); greenwashing debate.
Classifying green bonds as safer on the credit side; the liability base is identical.
128 · ESG ratings (MSCI, Sustainalytics, ISS)
33a · Catastrophe bonds (cat bonds / ILS)
Bonds through which insurers/reinsurers transfer natural catastrophe risks (hurricane, earthquake, flood) to the capital market; if the defined event occurs (trigger), investors lose coupon and/or principal partly or entirely; the capital then flows to the insurer.
A return source with very low correlation to equity and rates markets (natural events follow no business cycle); a diversification building block, in practice sensibly accessible only via specialist funds/ILS funds.
High coupons (money market + risk premium, mostly floater structure, hence little interest rate risk); genuine diversification; short maturities (3-5y).
Total loss risk in a major event; model risk (occurrence probabilities from catastrophe models); climate change can invalidate historical models; narrow secondary market.
Confusing "uncorrelated" with "low-risk"; the loss distribution is extremely skewed: many good years, then a very bad one; single-name exposure instead of a broad ILS portfolio.
160 · Tail risk, skewness & kurtosis · 117 · Correlation & diversification effect