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Foreign bonds are debt securities issued by companies or government entities in other countries in a currency prevalent in that respective country. For example, an Indian company issues foreign bonds to US investors in US dollars. Thus, one thing is clear- investors have a chance of investing in foreign entities in their own currency.
Read further to learn more about the risks and benefits associated with foreign bonds and their diverse types.
A Quick Snapshot of Foreign Bonds Benefits
The following are the advantages of investing in foreign bonds:
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Access to Foreign Markets
When an entity issues foreign bonds, it has a good scope to tap into the potential of foreign investment. In doing so, it can also acquire foreign currency, which may help take operations forward. Also, it results in an expanded investor base and reduced dependence on domestic markets, thus leading to financial flexibility.
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Beneficial for Foreign Investors
Foreign bonds prove beneficial both for borrowers or issuing entities and for investors. With foreign bonds, domestic investors get a chance to make foreign investments in their local currency.
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Diversification of Portfolio
Foreign bonds open up international markets for investors, allowing them to diversify their portfolios. Thus, this helps in spreading the risks across various markets, thus helping mitigate them strategically.
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Key Risks Associated with Foreign Bonds
Along with diverse benefits in relation to foreign bonds, there are a few risks, too:
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Inflation Risk
Due to inflation, a bond’s value might undergo a change, resulting in an overall reduction of returns on investment. For example, if a bond promises a 6% fixed interest rate and at that time, the inflation is 4%, an investor’s real payout amounts to only 2%. Thus, the higher the inflation, the lower the net real payout.
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Credit and Political Risk
Foreign bonds are always exposed to the default risk of the issuers, which leads to credit risk. Thus, during investments in foreign bonds, one must have a look at the issuer’s credit ratings. Also, if there is any political unrest in the country of origin of the bond, the returns may fall.
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Currency Risk
The currency risk is implied in all foreign bonds. For example, a US investor purchases Euro-denominated bonds, and the euro currency declines against US dollars. In such a scenario, the returns of the investor will be lower when they convert their euro-denominated returns into US dollars.
Discover the Popular Types of Foreign Bonds
The following are the different types of popular foreign bonds:
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Yankee Bonds
These are US-dollar-denominated foreign bonds that are issued by foreign governments or entities in the American bond market. Only issuers who follow American accounting practices are allowed to issue these bonds. Also, they are required to be highly rated by American credit rating agencies and not foreign ones.
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Bulldog Bonds
The Bulldog foreign bonds are pound-sterling-denominated and are issued by non-British corporations. These are underwritten by a syndicate of banks or a single bank. These are issued when the interest rates in the UK are low compared to foreign issuer’s domestic interest rates.
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Samurai Bonds
The Samurai foreign bonds are yen-denominated, issued by non-Japanese borrowers in the domestic Japanese markets. These can be either fixed or floating-rate bonds. Usually, these bonds are an attractive option for foreign issuers due to their lower borrowing costs compared to domestic debt issues. However, such bonds are subject to Japan’s Financial Instruments and Exchange Act, imposing strict filing and disclosure requirements.
Wrapping Up!
Foreign bonds are a great way for issuers to tap into the international markets to raise capital. They also allow investors to diversify their portfolios and spread out risk across international markets. However, detailed research on foreign bonds is a must before making any final investment decision. Other than the foreign bonds discussed above, there are also kangaroo bonds, matador and maple bonds, and more available in the international financial markets.
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FAQs About What are Foreign Bonds?
1. How to mitigate the risks in relation to foreign bonds?
Investors can mitigate risks in relation to foreign bonds by investing in a variety of foreign bonds of different countries. Investors can also explore bond funds of a specific region as they are usually professionally managed.
2. What factors must investors consider when buying foreign bonds?
Investors must research the creditworthiness of the bond issuer entity. They must also consider the strength of the currency and global economic stability when purchasing foreign bonds.
3. How to buy foreign bonds?
You can buy foreign bonds through brokerage firms that provide international bond trading. Alternatively, you can invest in international bond funds or exchange-traded funds(ETFs).
