TITLE: BOND MARKETS IN EUROPE

Brief History of the Callable Bonds market in Europe

The Euro-bond market has a long history with the first fixed bond issued in 1963 in the Auto

trade industry of an Italian motorway company. In 1969, the International Bond Dealers

Association was launched through which all the world-wide borrowers and investors have come

together to meet the funding needs of the countries. Several supranational organizations,

financial institutions and companies were also participating in the Eurobond market.. In 1969,

the Euro-money was launched and in 1970, the first floating rate note started. Further, in 1979,

first bought deal was GMAC, and in 1981, first swap was IBM/IBRD. Furthermore, first global

bond was that of World Bank and in 1992, Association of International Bond Dealers (AIBD)

changed name to International Securities Market Association (ISMA) and in 1994 first CDS was

introduced. In 1999 Eurozone was formed in 12 countries. In 2005, International Securities

Market Association (ISMA) and International Primary Market Association (IPMA) merge to

form International Capital Market Association (ICMA). In 2007, the global credit crises started

and in 2008, Lehman brothers were declared bankrupt and in 2010, European sovereign debt

crises (Sadorsky, P. (2003).

The European Bonds are worldwide famous for investment. They are like any other long term

debt bonds that return the investment at a pre-decided date along with the interest. The European

bonds are bought with a guaranteed profit for a time period. Through these bonds the

governments and companies borrow money from the market and use these borrowed money for

growing their enterprises.

There are a number of bonds that are available to the investors and they have a number of bond

investment opportunities, like, government bonds, corporate bonds, municipal bonds and callable

bonds. Government bonds are the bonds with safest investment as their returns are supported by

government and are issued by the nations in the national currency. These bonds are stable and

have a safe return. However the return of these bonds is very low and sometime it may also lead

to loss if calculated in terms of purchasing power. Corporate bonds returns depend on the success

of corporate firms. These bonds have higher return and shorter majority period as compared to

the bonds of government. However, it carries much more risk than the government bonds but

safer than individual equities. Municipal bonds are just the local name for the government bonds

and are issued by the local municipalities for funding the government projects. These bonds give

a wide range of tax incentives to the investors. It should also be noted that Europe is a most

attractive market for the investors and provide wide range of products for the investors. Callable

bonds are a special category of bonds that allow the issuer of the bond to recall the bond before

the pre-determined majority date. It helps the issuer to meet the short-term debt during the time

when the market is unfavorable (Goldsmith, R. E., & Newell, S. J. (1997).

Worldwide, the bond market accounts for upwards of $100 trillion in debt. Although precise

numbers are not calculable due to unregistered bonds, Europe is engaged in an estimated 30

percent of the global bond market. Today, a single bond can be worth more than a billion Euros

and maturation can run between 5-30 years.

The European Callable bonds have higher risk than American Callable bonds and have only one

call date when the issuer can call it before the majority date. The American callable bonds can be

called off at any time before the majority date. The European Callable bonds are also referred to

as redeemable bonds or Bermuda-style bonds. There are several call options on the callable
bonds. European call, American call Bermuda call and Make-Whole Call. The European Call is a

onetime call before the pre-decided date of majority. The American call is anytime call between

the issue date and the majority date. Bermuda call is a call on the date when interest is paid.

Make-whole call option is a call on the date before the final date and with full premium amount.

www. Euromarket.com

The above table shows an example of European Callable bond, which had a time period of 20

years but could be called at a call price of 1.00 between the year 1 to 5 and higher price during

years above 5 (Masih, R., Peters, S., & De Mello, L. (2011).

In brief, it can be concluded that Callable bonds of European market allows the issuers to control

the risk of the interest rate. This is said because; if interest rate decreases the issuer can redeem

the bond and enjoy a lower cost debt structure. Further, the issuer can demand a coupon premium

which gives the issuer the option to redeem bond. The corporate taxes on the corporate bonds
make it less preferable than the callable bond and when taxes are imposed by the corporate

sector, the investors goes for the callable bonds The investors can take the decision of refunding

the callable bonds based on the call efficiency of the market. The call efficiency of the market is

decided on the time taken for replacement and the cost of transaction. In callable bonds the

transaction coat is usually very less and almost negligible, this makes the callable bond more

attractive to the investors (West, K. D. (1988)

Callable bond in European secondary market is the most attractive bonds for the investors which

provide the relaxation of redeem and relaxation of majority dates. It allows the investors to take

the benefit of lower interest rates and redeem the bond and convert it into lower cost debts.

Callable bond are the most favorable bonds of the European bond market and give the investors

lots of leverages to invest and take the benefits of the investment. Hence European bond market

is a well known market for callable bonds and it is benefiting the investors since several decades

(Goldsmith, R. E., & Newell, S. J. (1997).

Pricing of bonds using real data ( derivate bonds and future bonds) 

Theoretical price vs Actual price

In a financial market the theoretical price is the price at which the company issues the bond or it

is also called as the opening price. On the other hand, actual price is the closing price at which

the trading takes place in the market for the stocks

Comparison of the two prices in the table and chart below

price
Symbol Date Expiry Theoritical Price Actul Price differece %of price difference
NIFTY 27.9.19 26-Dec-19 11680 11678.85 -1.15 -1E-04
NIFTY 30.9.19 26-Dec-19 11641.5 11630.45 -11.05 -9E-04
NIFTY 1.10.19 26-Dec-19 11676.1 11518.6 -157.5 -1E-02
NIFTY 3.10.19 26-Dec-19 11425.7 11458.55 32.85 3E-03
NIFTY 4.10.19 26-Dec-19 11500 11313 -187 -2E-02
NIFTY 7.10.19 26-Dec-19 11348.35 11251.55 -96.8 -9E-03
NIFTY 9.10.19 26-Dec-19 11247.7 11441.05 193.35 2E-02
NIFTY 10.10.19 26-Dec-19 11400 11347.9 -52.1 -5E-03
NIFTY 11.10.19 26-Dec-19 11382.65 11405.8 23.15 2E-03
NIFTY 14.10.19 26-Dec-19 11412 11427.55 15.55 1E-03
NIFTY 15.10.19 26-Dec-19 11448.1 11530 81.9 7E-03
NIFTY 16.10.19 26-Dec-19 11552.95 11562.75 9.8 8E-04
NIFTY 17.10.19 26-Dec-19 11552.55 11691.5 138.95 1E-02
NIFTY 18.10.19 26-Dec-19 11663.95 11761.75 97.8 8E-03
NIFTY 22.10.19 26-Dec-19 11743.95 11715.9 -28.05 -2E-03
NIFTY 23.10.19 26-Dec-19 11700 11718.05 18.05 2E-03
NIFTY 24.10.19 26-Dec-19 11760 11702.3 -57.7 -5E-03
NIFTY 25.10.19 26-Dec-19 11711.35 11698.2 -13.15 -1E-03
NIFTY 27.10.19 26-Dec-19 11728 11715.8 -12.2 -1E-03
NIFTY 29.10.19 26-Dec-19 11753.9 11887 133.1 1E-02
NIFTY 30.10.19 26-Dec-19 11910 11933.9 23.9 2E-03
NIFTY 31.10.19 26-Dec-19 11945 11946.9 1.9 2E-04
NIFTY 1.11.19 26-Dec-19 11975 11975.9 0.9 8E-05
NIFTY 4.11.19 26-Dec-19 12009.6 12025.75 16.15 1E-03
NIFTY 5.11.19 26-Dec-19 12049.35 12002.25 -47.1 -4E-03
NIFTY 6.11.19 26-Dec-19 11980.8 12050.85 70.05 6E-03
NIFTY 7.11.19 26-Dec-19 12074.45 12095.05 20.6 2E-03
NIFTY 8.11.19 26-Dec-19 12031 11991.25 -39.75 -3E-03
NIFTY 11.11.19 26-Dec-19 11970 11986.65 16.65 1E-03
NIFTY 13.11.19 26-Dec-19 11964.3 11906.2 -58.1 -5E-03
NIFTY 14.11.19 26-Dec-19 11904 11943.05 39.05 3E-03
NIFTY 15.11.19 26-Dec-19 11953.35 11984.7 31.35 3E-03
NIFTY 18.11.19 26-Dec-19 11980 11965.1 -14.9 -1E-03
NIFTY 19.11.19 26-Dec-19 11973.75 12018 44.25 4E-03
NIFTY 20.11.19 26-Dec-19 12031.4 12062.45 31.05 3E-03
NIFTY 21.11.19 26-Dec-19 12052.3 12018.55 -33.75 -3E-03
NIFTY 22.11.19 26-Dec-19 12014.25 11957.45 -56.8 -5E-03
NIFTY 25.11.19 26-Dec-19 11968.15 12141.6 173.45 1E-02
NIFTY 26.11.19 26-Dec-19 12149.9 12120.35 -29.55 -2E-03
NIFTY 27.11.19 26-Dec-19 12139.95 12151.9 11.95 1E-03
NIFTY 28.11.19 26-Dec-19 12164.35 12186.05 21.7 2E-03
NIFTY 29.11.19 26-Dec-19 12174.85 12099.85 -75 -6E-03
NIFTY 2.12.19 26-Dec-19 12133.85 12091.45 -42.4 -3E-03
NIFTY 3.12.19 26-Dec-19 12097 12046.45 -50.55 -4E-03
NIFTY 4.12.19 26-Dec-19 12009.9 12089.8 79.9 7E-03
 NIFTY 5.12.19 26-Dec-19 12082.4 12047.7 -34.7 -3E-03
NIFTY 6.12.19 26-Dec-19 12065.2 11955.7 -109.5 -9E-03
NIFTY 9.12.19 26-Dec-19 11855.3 11966.7 111.4 9E-03
NIFTY 10.12.19 26-Dec-19 11972.2 11898.2 -74 -6E-03
NIFTY 11.12.19 26-Dec-19 11907.95 11938.15 30.2 3E-03
NIFTY 12.12.19 26-Dec-19 11998.95 12028.65 29.7 2E-03
NIFTY 13.12.19 26-Dec-19 12060.35 12142.35 82 7E-03
NIFTY 16.12.19 26-Dec-19 12152.15 12082.55 -69.6 -6E-03
NIFTY 17.12.19 26-Dec-19 12099.7 12187.15 87.45 7E-03
NIFTY 18.12.19 26-Dec-19 12208 12243.15 35.15 3E-03
NIFTY 19.12.19 26-Dec-19 12228.4 12268.95 40.55 3E-03
NIFTY 20.12.19 26-Dec-19 12270.2 12290 19.8 2E-03
NIFTY 23.12.19 26-Dec-19 12265.35 12276.45 11.1 9E-04
NIFTY 24.12.19 26-Dec-19 12259.95 12238.45 -21.5 -2E-03
NIFTY 26.12.19 26-Dec-19 12120 12135.35 15.35 1E-03

Graph 1: The plot of theoretical price and actual price for months from September 2019 to January 2020

12400
12200
12000
11800
11600
11400 Theoritical Price
Actul Price
11200
11000
10800
10600
12.9.19 2.10.19 22.10.19 11.11.19 1.12.19 21.12.19 10.1.20

The above graph shows the movement of theoretical and actual price for Nifty taken from NSE

website. Both the price moves more or less in the same direction but the actual price is

comparatively more vulnerable than the theoretical price as it changes according to the market

demand for the product (Darrat, A. F., & Rahman, S. (1995).

Graph 2: Percentage of price difference is plotted between the theoretical price and actual price

2E-02
2E-02 %of price difference
1E-02
5E-03
0E+00
12.9.19 2.10.19 22.10.19 11.11.19 1.12.19 21.12.19 10.1.20 %of price difference
-5E-03
-1E-02
-2E-02
-2E-02

The above graph shows that the change in percentage of price difference is more or less stable

over the period but in short run it is vulnerable and highly volatile depending on the market

demand for the product. The movement of the price difference between the theoretical and actual

price shows that sometime it is negative and very low but sometime it is high and positive.

Hence the price difference is vulnerable in short run but in long run it may bring stability as the

data is stationary (Brennan, M. J., & Xia, Y. (2001).

Graph 3: Price difference is plotted between the theoretical price and actual price
 price differece
250
200
150
100
50 price differece
0
-50.19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19 .19
.9 10 10 10 10 10 10 10 11 11 11 11 11 11 12 12 12 12 12 12
27 3. 9. 14 . 17 . 23 . 27 . 31 . 5. 8. 14 . 19 . 22 . 27 . 2. 5. 10 . 13 . 18 . 23 .
-100
-150
-200
-250

The above graph shows the price difference between the theoretical price and actual price. The

price difference is more or less stable over the period but in short run it is vulnerable and highly

volatile depending on the market demand for the product. The movement of the price difference

between the theoretical and actual price shows that sometime it is negative and very low but

sometime it is high and positive. Hence the price difference is vulnerable in short run but in long

run it may bring stability as the data is stationary (Blattberg, R. C., Eppen, G. D., & Lieberman,

J. (1981).

Is the Investment in bonds profitable?

The investment is always a risky business but however when it comes to callable bonds the risk

may be reduced. The study of the movement of price difference always beneficial for the

investment decision and if the movement indicates stability then the investment is fruitful

otherwise it may bring losses. In the above example of the nifty bond, it is seen that the

movement of the price may be vulnerable in short run but if it is stationary in the long run then it

is beneficial for investment.

Reference
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Brennan, M. J., & Xia, Y. (2001). Stock price volatility and equity premium. Journal of

monetary Economics, 47(2), 249-283.

Darrat, A. F., & Rahman, S. (1995). Has futures trading activity caused stock price

volatility?. Journal of futures markets, 15(5), 537-557.

Goldsmith, R. E., & Newell, S. J. (1997). Innovativeness and price sensitivity: managerial,

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Masih, R., Peters, S., & De Mello, L. (2011). Oil price volatility and stock price fluctuations in

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