Question

On February 8, Outlandia issued a new seven-year bond and raised $3.72 billion at a yield of 3.5 percent. The issuance proved to be oversubscribed. Monday's drop in yields was supported by Fitch's rating upgrade to "B" from "B-" on the basis that there is lower political risk, the country is hitting higher-than-expected fiscal targets and a has seen a steady rise in its GDP (gross domestic product) growth. The yield on the five-year Outlandian sovereign bond dipped by 5 basis points Monday following the upgrade, with Fitch citing improved economic conditions in the southern European country. The country's 10-year bond yield had also dropped more than 14 points basis last Friday, showing that investors are turning more confident on the embattled economy.

Analyze the above passage.

Answer 1

A Seven Year Bond issued by Outlandia issued on February 8, raised $3.72 Billion at a yield of 3.5%.

If the issuance is over subscribed, that means that the rate of the bond is higher than the yield. Or if it is a zero bond, the bond is trading at price lower than the expected.

If a stock/bond proves less risky, the yield generally drops because of the general understanding of the rule "Lower Risk and Lower Return and Higher Risk and Higher Return" The Return is Expected return or Yield.

If there is an upgrade of the bond or the securites issued by Outlandia by Fitch, that means the bond/ security is less risky and there is higher assurance of repayment. As investors want to have less risky investments, they want to purchase the bond even at a lower return in order to beat the other investors to it. Hence yield drops.

The yield is different for different periods and also moves at a different rates to current market factors. For instance, if a country is suffering from economic crisis due to cyclical factors, its 6-month and 1-year yields grow heavily whereas it's 10 - year yield is effected but not by much as the the crisis is cyclical.

So, due to stable economic conditions, the yield dropped by 5 basis points for the 5-year bond.

As the economy is currently embattled, the stable economic conditions influenced the 10 -year yield to drop by 14 basis points showing increased investor confidence in the economy.