|Return to: Previous Page|
|Morningstar.com's Interactive Classroom
The Process of Issuing BondsIntroduction
When corporations or government bodies need to raise money, they may sell bonds to the public. Because this is a highly technical and complicated process, the issuing organizations usually hire special parties to do this work for them.Investment Bankers Facilitate the Issuing of Bonds
If you needed to borrow money, you would probably go to your banker. Governments and businesses do the same thing. They look to the investment banker for their borrowing needs.
An investment banker serves as an intermediary between the organization issuing the securities and the investors.
When a corporation or government agency is considering issuing bonds--or stocks, for that matter--it usually contacts an investment banker for advice on the marketplace, the possible issuing price, and other factors. An investment banker is a firm that serves as an intermediary between the organization issuing the securities and the investors who purchase them. The bond issuer does not itself sell the bonds.
Investment bankers often begin assisting the corporation or government agency well before the bonds are actually issued. The organization's relationship with the investment banker may continue after the bonds have been issued, and the investment banker may sit on the corporation's board of directors.
Corporations and government units realize that investment banks possess knowledge and expertise they need to reach investors. Investment bankers generally have an excellent understanding of capital markets, relevant government regulations, and other factors affecting a bond issue.
Many investment bankers also offer broker-dealer services and related financial services.Underwriting Bond Issues
In acting as an intermediary between a bond issuer and a bond buyer, the investment banker serves as an underwriter for the bonds. When investment bankers underwrite the bonds, they assume the risk of buying the newly issued bonds from the corporation or government unit; they then resell the bonds to the public or to dealers who sell them to the public. The investment bank earns a profit, based on the difference between its purchase price and the selling price; this difference is sometimes called the underwriting spread.
When the investment banker works with a client corporation or government unit, it generally also prepares required documents for Securities and Exchange Commission (SEC) filing, helps set a price for the issue, and takes the lead in forming and managing an underwriting group--also known as a purchase group or syndicate. This syndicate spreads the risk of the new issue to a larger number of participating investment bankers and improves the likelihood of selling all of the newly issued bonds.
Sometimes the investment banker markets a new issue but does not underwrite it. The investment banker simply acts as a sales agent under a best efforts agreement, promising to do its utmost to market the bonds. The investment banker has the option to buy the bonds and usually purchases only enough bonds to meet buyer demand, receiving a commission on the bonds sold.
Investment Bankers Locate Bond Buyers
Investment bankers generally have a good understanding of where and how to market newly issued bonds. They may decide, for example, that they can successfully market a certain bond through advertisements in the financial press, including The Wall Street Journal and Barron's.
They usually have well-developed investment banking networks and may identify the brokers and sales forces most able to market a particular bond offering. Investment bankers sometimes have established networks with investors who may be interested in the offering; they may encourage the investors to contact brokerage houses, specifying what they want in a bond.
Investment bankers also may sell newly issued bonds through private placements to large, institutional investors like insurance companies or government unit retirement funds. If the bonds are purchased for investment and not for resale, they do not need to be registered with the Securities and Exchange Commission. A bond that is not registered and that may not be sold in the public marketplace is called a letter bond, or letter security, since the purchaser signs a letter stating that the bonds are for investment purposes and not for resale.Role of Investment Banker
Investment bankers play an integral role in the issuing of new bonds and other securities. Corporations and government units depend on their skills and expertise to plan the issues, price the issues, file required documentation, and sell the issues. Investors buying newly issued bonds also benefit from the specialized knowledge of investment bankers.
|1||How does an underwriter for newly issued bonds profit?|
|c.||An underwriting spread|
|2||When helping a corporation or government unit issue bonds, an investment banker may undertake all of the following except:|
|a.||Assisting in filing SEC documentation|
|b.||Guaranteeing bond sales to the public|
|c.||Assisting in setting a price for the bonds|
|3||An investment bank just sold a newly issued bond through private placement. Who most likely purchased the bond?|
|a.||A brokerage service|
|b.||An investment club|
|c.||An insurance company|
|4||The SEC requires bond issuers to register all:|
|b.||Newly issued bonds|
|c.||Bonds not sold through private placement|
|5||What is a primary role of investment bankers in helping a corporation?|
|a.||Issuing securities to the public|
|b.||Investing its capital wisely|
|c.||Selecting securities to invest in|
| To take the quiz and win credits toward Morningstar Rewards go to
the quiz page.
© Copyright 2006 Morningstar, Inc. All rights reserved.
|Return to: Previous Page|