Philippine Bond Investment 101

Wednesday, March 03, 2010

A few months ago I wrote a couple of articles here about stock trading here in the Philippines.

Stock Market 101 (part 1)

Stock Market 101 (part 2)

Between that time and now, I tried to refine my stock trading skills and at the same time, while I also studied and entered into other investment instruments. One of the better investment instruments that you may be interested in is the bond, which is like the more mellow, less drug-addled brother of the stock.

(more after jump)

First things first. A bond differs from a stock in a sense that a stock is a unit of ownership of a company while a bond is a unit of ownership of a debt (i.e. somebody owes you, and not the other way around, because in that case, we'd all be bigtime bond holders already).

In terms of income, a stock, like a company, may give you earnings but it is not guaranteed the if and the when, becuase not all companies have a steady source of earnings. A bond, being debt, will give you yearly "repayment interest" based on the agreed upon interest rate or "coupon rate", which is guaranteed, to some extent anyway.

The biggest risk of a bond is when the debtor becomes no longer able to pay for the debt, or refuses to do so. We will discuss this scenario in a bit. There are two types of bonds - corporate issued and government issued. Corporate bonds are generally with more interest but at a bigger risk of not being repaid due to the company folding.

Government bonds hold the same risk, but come on, when was the last time a government went totally bankrupt? As in not threaten to go bankrupt but completely bankrupt, Mr-President-Will-Sleep-In-The-Streets-Tonight bankrupt. Another risk is the government totally disappearing due to civil revolt, a war, or a giant meteor crashing down on your country (tough luck). The new government that will replace the old has the option to no longer recognize debt from the previous government. The same way we no longer recognize non-electronic, non sports-related stuff we gave to our exs. But then again if those things ever happen, not getting your bonds back will be the least of your worries.

Long story short, as far as investments are concerned, government bonds are a hellot more secure. And although it's not nearly as high yielding as stocks, it certainly beats the shit out of time deposits anyday of the week.

The lowest dollar bond I can see right now is at a coupon rate of 6.35% per annum, whereas the best dollar time deposit wont even reach the lower limit of 0.5% per annum. See the difference?

Bonds are usually issued per series. Philippine Government bonds are coded ROP's, followed by a series number that identifies it from other bonds. This number has no apparent pattern, and I've long since given up trying to figure out how they come up with it. Counting the number of hair strands left on the Banko Sentral Governor's head sounds like a sound explanation.

Anyway, bonds are usually sold to banks first, who then sell their acquired bonds to their higher end customers. By higher end, I mean minimum unit investments are large. Whereas a time deposite requires 5k and stock trading requires 10k, bonds usually trade on the range of 100k pesos or 10k dollars for foreign denominations. I'm not too sure on this, but that's what I've learned so far. Lower end investors are allowed to join mutual funds that pool the money that they have to avail of the larger investment requirements. (hence the term mutual fund)

Bonds also come with a number of years before the bond is paid back in full. For example, a bond that matures 2016 at a coupon rate of 10% will have 6 years (as of this writing) that will pay the bond owner 10% of the original amount EVERY year. Then on 2016, the amount is returned to the lender, by then the capital would have grown by 60%. (ridiculous, but it happens). Each ROP series will have a different maturity year and a different coupon rate, since the time each series is issued is different.
As a rule of thumb, bonds issued during times of prosper have high interest rates, while bonds during recessions have very low interest rates. One reason for this is becuase during good years, it's easier to make your money grow on any other investment than bonds, so the government has to sweeten the deal just to get people to buy. And vice versa.

Now, sometimes Bonds have a maturity date of almost 30 years. (mine wont mature until 2036, for example). What if you need to lose it? Answer: Sell it to some other guy at a price he's willing to get it for. Hence the bonds market.

The bonds market is kind of like a stock market for bonds belonging to previous owners of bonds that were issued during the initial government issuance. Kinda like a buy and sell lot for government debt. If you want to sell a bond, the price is usually affected by #1 the potential of a bond and the willingness of a buyer to buy your bond at your set price. The potential is usually obeserved by how much higher the coupon rate is and the number of years left in a bond before maturity. The higher the rate and the longer the number of years, the more value a bond holds. (need to check on the effect of years though). The willingness of buyers can usually be affected by a lot of things, too many to mention here but the majority is as follows (i.e. these things will drive the demand up):

1. Stock market/economic instability
2. Banks lowering their interest rates to entice borrowers
3. Overall inflation increasing.

The opposite of course will drive the bond prices down instead.

1. Stock Market bull runs, economic recoveries
2. Banks gradually increasing interest rates
3. Inflation dropping or going neutral

Of course somestimes, the price is pushed down lower than its actual face value. A 100$ bond sometimes gets sold at 86$, which is already a solid bargain, because on top of the interest you get, you will get another 14$ if you sell on the date of maturity, or more if ever the demand pushes bond prices higher than 100$ and you decide to sell.

If you're interested in this sort of investment, the best person to talk about it is your bank manager (as long as youre not in a rural, blood, or sperm bank), who should be more than happy to assist you. Transactions through the bank are usually charged with a 2% comission for both sales and acquisitions.

Short of it? Bonds are a good investment to fight off cash depreciation. A good percentage of your dormant money can be stored here at very little risk and it's a good investment tool to compliment stock trading if you can't afford to stake it all in the high risk game of stocks.

Good hunting.


ben said...

i have a relative who is looking for a long term bond investment, can u tell me sir, your 26-year-bond,what is the name of that bond and what bank offers it


I got mine from BPI. Dollar bond ROP27


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