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What is a Sovereign Bond?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 15 April 2019
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A sovereign bond is a type of national government bond that is issued in a specific foreign currency. Bonds of this nature typically offer higher returns than other government-issued bonds, but also carry a greater degree of risk. For this reason, it is not unusual for the bonds to be offered at a discount, providing investors with an incentive to purchase the more volatile issues.

One of the strategies associated with the issue of a sovereign bond is to create an influx of cash that can aid in stabilizing the economy of the issuing country. This is often accomplished by denominating the bond in a currency associated with a nation that is currently considered financially stable, rather than the domestic currency. Since a bond is essentially a debt instrument, the funds that are collected through the bond issue are usually referred to as sovereign debt or government debt.

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The terms and conditions related to a sovereign bond will vary somewhat, in terms of the rate of interest and the issuance of periodic disbursements to investors. Some bonds are structured so that they are sold at less than the face value, but are ultimately honored at that face value when the bond reaches maturity. Some will utilize a fixed rate as the means of calculating the interest paid to investors, while others utilize a variable rate, often relying on the average rate that prevails in the nation associated with the currency type selected for the bond. Interest payments may occur on a regular basis throughout the life of the bond, or be disbursed to investors in lump sums at the end of the bond’s life, along with repayment of the principal invested in the bond at the time of purchase.

While there is a greater degree of risk associated with a sovereign bond, the potential for earning a higher rate of return is often sufficient to attract the attention of potential investors. As with evaluating any corporate bond issue, investors should look closely at the current economic situation as it relates to the bond issuer, assess the potential for those conditions improving during the life of the bond, then determine if the risk involved is worth the possible returns. Investors should also consider the possibility that in the event the country is unable to honor the terms of the sovereign bond, there is a good chance that some type of alternative compensation may be offered as a means of offsetting the loss to investors.

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allenJo
Post 3

@nony - If I were buying up investment bonds I would only buy bonds sold at a discount of face value, regardless of how slight the discount.

That way I would be assured (in theory at least) of some return on the investment that is above par. I’d buy a few sovereign bonds in nations like England. I might even buy Chinese bonds. That seems to make sense, since they’re buying up our debt too. They’re economy is booming but it’s not without its risks. No investment is risk free.

nony
Post 2

@Mammmood - Yeah, I had never considered buying investment bonds in other markets. I wonder how much higher the returns would be, however. Bonds in general are conservative investments so we’re not talking about very high yields.

There is always the possibility of default too. We’ve seen that happen with nations like Greece, where they had to declare they would not be able to meet their foreign debt obligations. Of course they got an international aid package. I am guessing that package included buying up their bonds.

As an individual investor I would stay away from countries like Greece, choosing to stick with more stable countries like Switzerland.

Mammmood
Post 1

If you think about it, our bonds are sovereign bonds to other nations like China. They are buying up a whole lot of our debt, and frankly, it’s the Chinese who continue to subsidize our deficit spending.

If they were ever to call our debt, we’d be in a lot of trouble. I think we’re in a lot of trouble already personally. But at least for now, the United States continues to be a good credit risk.

Yes, we have our boom and bust cycles, but we always manage to rebound even from the worst of conditions, and American ingenuity shows no sign of letting up. I think companies will continue to prosper in the United States, driving our economy and making foreign investments here worthwhile.

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