BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies WELCOME!! BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART I - Bonds & Yields PART II.
Download ReportTranscript BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies WELCOME!! BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART I - Bonds & Yields PART II.
BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies WELCOME!! BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART I - Bonds & Yields PART II - Credit Worthiness PART III - Issuing Bonds PART IV - Getting Best Rates BONDS FOR BEGINNERS Think of an object that helps you describe your impression of the housing bond business. BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART I Bonds & Yields What you will learn What is a bond? How a bond differs from a note? Why are securities heavily regulated? Why tax-exempt bonds are attractive to investors? What is the difference between interest and yield? How to measure interest & yield. Bonds are debt instruments like Notes Compare a bond with a note and identify the key components. Principal or Face Value (1) Interest Rate or Coupon Rate (2) Term or Maturity Date (3) Payment Schedule (4) Prepayment Clause or Redemption (‘Call’) Provision (5) Legal Authentication (6) Similarities between Bonds & Notes Both notes & bonds are debt instruments Both have face values, coupon rates, maturity dates, payment schedules & ‘call’ dates. Differences between Bonds & Notes Bond issues can have multiple interest rates & maturity dates. Interest on notes are taxable, but interest on bonds may be tax-exempt. Bonds & Notes are also Regulated Securities A “security” evidencing a debt Securities can be bought or sold and are therefore “negotiable”. Negotiable Securities stocks bonds notes checks currency Who Regulates Securities? 1929 Market Crash Congress regulates securities to insure the integrity & efficiency of commerce. [Commerce Clause] The issuance, trade, evaluation and tax treatment of bonds are regulated by the SEC, Fed & IRS. A Balance of Public Interests ‘Safety & Soundness’ Rules 80% LTV Limitation Total lending limited by deposits Monitoring loan loss risk Promote the ‘American Dream’ Democracy in America FHA (1934) Fannie Mae (1938), GNMA (1968), Freddie Mac (1970) Why are bonds attractive to investors? Safety Risk of financial loss is low Predictable revenue stream Interest is paid semi-annually Tailored bond mix Different types of maturities & interest rates to meet bond purchasers needs Yield Interest earned can be tax-exempt Taxable vs. Tax-exempt Yields EFFECTOFFEDERALINCOMETAXESONYIELDS OFTAX-EXEMPTANDTAXABLEINSTRUMENTS 5%Tax-exempt 7.5%Taxable Cashinvestment Interest Federal IncomeTax inthe 36%marginal taxbracket Net return Yieldoninvestment after taxes Bond Investment $30,000 $30,000 $1,500 $2,250 0 $1,500 $810 $1,440 5.00% 4.80% Measuring Interest & Yield by Basis Point The basis point is one hundredth of one percent. 100 basis points = 1% = .01 75 basis points = .75% = .0075 50 basis points = .50% = .0050 25 basis points = .25% = .0025 15 basis points = .15% = .0015 What we have learned What is a bond? How a bond differs from a note? Why are securities heavily regulated? Why tax-exempt bonds are attractive to investors? What is the difference between interest and yield? How to measure interest & yield. BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART II Credit Worthiness What you will learn What is credit worthiness & underwriting? How to use the 5 C’s of credit worthiness analysis for a mortgage loan and for issuing bonds. What are the key tools to enhance credit worthiness? Credit Worthiness Issuing bonds is taking out a loan for a public purpose. Ever wonder how lenders decide on approval or denial of a loan? Evaluating Credit Worthiness for a Loan Character Loan Application Capacity Income Ratios Credit Credit Reports Collateral Appraisal Cash Downpayment & Closing Costs Evaluating Credit Worthiness for a Bond Character Reputation of Issuer Capacity market history, management, issuer & bond counsel opinions Cash Flows worst cast tests on origination, prepayments Evaluating Credit Worthiness for a Bond (continued) Credit Bond Rating Collateral Pledge of revenues Cash Moody’s/ Standard & Poors mortgages & MBS Cost of Issuance Underwriting & marketing fees Enhancement of Credit Worthiness Purpose is to get a lower coupon (interest) rate Credit Enhancement tools mortgage-backed bond security insurance bank letter of credit guarantee What you have learned What is underwriting? What are the 5 C’s of credit worthiness? How do underwriters make sure the bond issue is credit worthy? What are the key tools to enhance credit worthiness? BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART III Issuing Bonds What you will learn What is the difference between a GO bond and a revenue bond? What is the private activity volume cap? How does a public agency issue & sell bonds? Who are the key professionals used to issue bonds? What is the basic Flow of Funds? Key types of Tax-Exempt Bonds GO Bonds & Revenue bonds Bondholders of ‘general obligation’ bonds are paid back by the full faith & credit of the agency of government. Bondholders of ‘revenue’ bonds are paid back from a particular revenue stream. The revenue stream is the monthly note payments from the mortgage. Who can issue tax-exempt bonds? Agencies of government, but only for a public purpose Issuance of tax-exempt bonds is limited by Congress through the private activity volume cap Limited annually to the greater of $95 per capita or $278 million ‘Private activity’ means 10% private use, ownership or security Cooking with Bonds Due Diligence Testing the Ingredients Legal Actions Shaking & Baking Professionals Associate Chefs Market Bonds Adding Seasoning How to issue & sell bonds Identify public purpose Hire quality bond counsel & financial advisor Hire quality underwriters Review & test bond structure Conduct public hearings Acquire volume cap allocation Acquire lender participation Authorize issuance & sale of bonds How to issue & sell bonds (continued) Hire Trustee, bond insurer & GIC Acquire credit enhancement Acquire bond rating Execute Bond Closing Documents Monitor the origination of loan and repayment of principal & interest to bondholders Perform continuing SEC disclosure, IRS rebate calculations, and cash flow analysis Basic Flow of Funds Single Family (8) Pay Interest & Principal on Bonds thru DTC BONDOWNERS (7) Pass thru Loan Payments TRUSTEE (6) Pay Interest & Principal on Mortgage Loans SERVICER BORROWERS (4) Fund Loans (1) Pay for Bonds Indenture & Assignment Bond Purchase UNDERWRITER Agreement (2) Bond Funds ISSUER (5) Additional Security (3) Make Loans CREDIT ENHANCER LENDER Basic Flow of Funds Multi-family BONDOWNERS (1) Pay for Bonds UNDERWRITER TRUSTEE (4) Trustee Buys Loan Indenture* & Assignment Bond Purchaser Agreement LENDER/ SERVICER (2) Gives Bond Funds to Trustee ISSUER DEVELOPER/OWNER (3) Lender Makes Loan (5) Exchange MBS for Mortgage CREDIT ENHANCER What you have learned What is the difference between a GO bond and a revenue bonds Who can issue tax-exempt bonds? What is the private activity volume cap? What are key steps to issue & sell bonds? Who are the key professionals used to issue bonds? What is the basic Flow of Funds? BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies PART IV Selling Safety & Quality Adding Seasonings What you will learn How to get a better rate by reducing perceived risk. How to reduce common risk factors Why the Official Statement is so important. What are the key due diligence requirements. Needed credit enhancements What do bond purchasers want? Bond purchasers want a secure & quality yield. The lower the perceived risk, the lower the expected return (interest). What are the common fears of perceived risk? Tax risk Are the bonds really tax-exempt? Prepayment risk Am I really going to get my yield to maturity? Credit risk Is there really a safe & sufficient revenue stream? What must be proven to ease fears of risk? Interest on bonds is tax-exempt; The revenue stream is sufficient & timely to pay debt service; There is sufficient security in place in the event that the revenue stream is interrupted. How does the Agency prove bond quality to the bond purchaser? Credit Enhancement Due Diligence Disclosure Credit Enhancements Gives investors more comfort Four important credit enhancements are: bond insurance mortgage-backed securities letters of credit guarantee Mortgage-backed security Mortgages are pooled by master servicer; Pool of mortgages are exchanged for pass-through certificates; The certificates are backed by the full faith & credit of Fannie Mae, Freddie Mac and/or Ginnie Mae. The certificates act as additional security for the bondholders. Due Diligence Tests the safety & quality of the bond structure Most common due diligence are: Cash flow analysis Legal structure & integrity analysis Management capacity analysis Duty to Disclose The SEC places the responsibility & liability on the Agency for accurate & complete disclosure. The primary instrument of disclosure is the Official Statement. The Official Statement Gives all the information that investors would reasonably need in evaluating the merits, as well as the risks, of buying the Agency’s bonds. Prepared by the underwriter. Underwriter’s counsel issues SEC 10b-5 opinion. SEC wants approval by issuer. What’s in the Official Statement ? States yields & offering prices Identifies payment terms Reveals redemption provisions States method of bond registration Describes the Agency & its management Explains the flow of funds How fund balances will be invested Summarizes the trust indenture What you have learned What are the common perceived fears of the bond purchasers? How are the common fears reduced? Name the key credit enhancements. What are the key due diligence requirements. Why the Official Statement is so important. BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies THANK YOU VERY MUCH!! BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies THANK YOU VERY MUCH!! BONDS FOR BEGINNERS National Association of Local Housing Finance Agencies THANK YOU VERY MUCH!! BONDS FOR BEGINNERS The Finance Authority of New Orleans Mtumishi St. Julien Executive Director The Finance Authority of New Orleans Created by the City Council in 1978 Provide low interest financing for home purchase & renovation Provide down-payment assistance Issued more than $500 million in mortgage revenue bonds Helped more than 7000 home purchasers BONDS FOR BEGINNERS The Finance Authority of New Orleans PART I Bonds & Yields BONDS FOR BEGINNERS The Finance Authority of New Orleans PART II Credit Worthiness Credit Worthiness Ever wonder how lenders decide on approval or denial of a loan? Evaluating Credit Worthiness for a Loan Character Loan Application Capacity Income Ratios Credit Credit Reports Collateral Appraisal Cash Downpayment & Closing Costs Evaluating Credit Worthiness for a Bond Character Reputation of Issuer Capacity market history, management, issuer & bond counsel opinions Cash Flows origination, prepayment & worst case tests Evaluating Credit Worthiness for a Bond (continued) Credit Bond Rating Collateral Pledge of revenues Cash Moody’s/ Standard & Poors mortgages & MBS Cost of Issuance Underwriting & marketing fees Enhancement of Credit Worthiness Purpose is to get a lower coupon (interest) rate Credit Enhancement tools bank letter of credit mortgage-backed security bond insurance guarantee BONDS FOR BEGINNERS The Finance Authority of New Orleans PART III Issuing Bonds BONDS FOR BEGINNERS The Finance Authority of New Orleans PART IV Selling Safety & Quality Adding Seasonings BONDS FOR BEGINNERS The Finance Authority of New Orleans Thank You