Debt Securities

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Debt securitieslisted on the Stock Exchange include bonds and notes which represent loans to an entity (such as a government or corporation) in which the entity promises to repay the bondholders or note-holders the total amount borrowed. That repayment in most cases is made on maturity although some loans are repayable in installments. Unlike shareholders, holders of bonds and notes are not owners of an entity but its creditors. In return for the loan, the entity will usually compensate the bondholders or note-holders with interest payments during the life of the bond or note.

What kinds of debt securities can be listed on the Stock Exchange?

The types of debt securities which can be listed on the Exchange are:

Debt securities listed under Chapter 22 to Chapter 36 of the Listing Rules – this kind of debt securities can be invested by public investors.

Debt securities listed under Chapter 37 of the Listing Rules – this kind of debt securities are offered to professional investors only and not offered to public investors in Hong Kong.

Debt securities listed on the Stock Exchange can also be categorized as follows:

Corporate Bonds - Corporate bonds are debt securities issued by private and public corporations, eg listed companies or their subsidiaries may issue corporate bonds. When buying a corporate bond, investors are lending money to the corporation that issued it. The issuing corporation promises to return the principal on a specified maturity date to the bondholders. Until that time, the issuing corporation may pay the bondholders a stated rate of interest periodically, eg semi-annually.

Convertible Bonds - Convertible bonds have investment characteristics of both debt and equity securities. A convertible bond gives its holder the right to convert the bond into shares of the issuing corporation according to predetermined terms during a conversion period or at conversion dates.

Convertible bonds have the characteristics of debt securities, such as interest payments and a definite date upon which the principal must be repaid. They also offer possible capital appreciation through the right to convert the bonds into shares at the holder’s option according to stipulated terms over certain periods.

Due to their conversion feature, convertible bonds usually offer a slightly interest payments than corporate bonds. As the price of the issuer’s shares increases, a convertible bond’s price also increases because the option to convert becomes more valuable.

Exchange Fund Notes (EFN) - EFN are Hong Kong dollar fixed income bonds issued by the Hong Kong Monetary Authority (HKMA) on behalf of the Hong Kong Special Administrative Region Government for the account of Hong Kong’s Exchange Fund under the Exchange Fund Ordinance. Whenever the HKMA arranges the listing of an EFN on the Stock Exchange, investors may participate in the tendering for the new issue. Investors should contact their brokers for details.

EFN trading is similar to stock trading and investors may trade EFN through their usual stock accounts. Like all debt securities traded on the Exchange, EFN are quoted in units of $100 of their nominal value. The buyer of an EFN has to pay to the seller the accrued interest calculated from the last interest payment date to the settlement date.

For more information on EFN, please refer to Exchange Fund Notes Information for Investors on the Hong Kong Monetary Authority website.

Government/Supranational bonds (GSB) - GSB are debt securities issued by a government or supranational organisation such as the People’s Republic of China or China Development Bank.

What are the returns on investments in debt securities?

In addition to receiving the principal on expiry, holders of a debt security, in general, can receive an interest income at a rate higher than a general deposit rate. The coupon rate of a debt security is the stated annual rate of interest that the issuer pays on the principal to the holder of the debt security. Coupon rates can be divided into three main categories:

Fixed rate: a fixed rate of interest over the life of the debt security.
Floating rate: the interest rate is adjusted periodically according to a predetermined benchmark.
Zero-coupon: there are no periodic interest payments, but the debt security is usually issued at a discount to its par value. On maturity, investors receive a payment comprising principal and interest.

What are callable bonds/notes?

A debt security may be callable meaning that the issuer may redeem the debt security before it matures.

What will affect the return on bonds?

Generally speaking, investors have to consider the following factors when investing in bonds:

Credit Rating

Failure to pay interest to bond holders on time will constitute a default on the part of the issuer. Generally, investors can assess the risk of the bonds by referring to the credit ratings given by international credit rating agencies to the bond issuers. A guide to credit ratings by two rating agencies – Moody's and Standard & Poor's – is set out below.

Moody’s	Standard & Poor’s
Investment Grade		Explanation
Aaa	AAA	Highest quality
Aa1	AA+	High quality
Aa2	AA	High quality
Aa3	AA-	High quality
A1	A+	Upper medium grade
A2	A	Upper medium grade
A3	A-	Upper medium grade
Baa1	BBB+	Medium grade
Baa2	BBB	Medium grade
Baa3	BBB-	Medium grade
Non Investment Grade		Explanation
Ba	BB	Somewhat speculative
B	B	Speculative
Caa	CCC	Highly speculative
Ca	CC	Most speculative
C	D	Imminent default

Other factors remaining equal, bonds with a higher credit rating generally offer a lower interest rate.

Relationship between interest rates and maturity

The risk associated with a bond increases with the length of maturity. To compensate for this increased risk, investors generally demand a higher rate of interest for bonds that take a long time to mature. Generally, other factors being equal, the longer the period to maturity of a bond, the higher the interest rate.
Relationship between the price and yield of bonds

The price of fixed rate bonds fluctuates according to changes in market interest rates. Prices for fixed rate bonds move inversely with changes in interest rates. In general, market interest rate movements have a larger impact on the price of bonds with a longer remaining period to maturity.
Liquidity of bonds

Liquidity of some bonds in the secondary market may be low. Investors may find it hard to buy or sell such bonds and need to hold them to maturity.
Terms of bond issues

It is important that investors pay attention to the terms of issue. For example, they should find out if the bonds may be redeemed before maturity.
Overall market conditions

As with all investments (including bank deposits), returns on bonds are influenced by external factors such as interest rate movements, inflation, exchange rates and political changes.

What is accrued interest?

Most debt securities, including Exchange Fund Notes and Government/Supranational bonds, pay interest semi-annually. The interest earned by the seller from holding the debt securities from the last interest payment date (or the issue date) until the disposal date is called accrued interest.

Are the trade prices of debt securities traded on the Exchange inclusive of accrued interest?

All debt securities traded on the Exchange are bought and sold at a clean price, meaning that the trade price is exclusive of accrued interest. As such, there will NOT be any price adjustment for debt securities after coupon payment.

Where can I find the accrued interest information of the debt securities listed on the Exchange?

It depends on whether the debt securities are eligible for settlement in CCASS.

The accrued interests for all CCASS settled debt securities are disseminated to clients of the Exchange such as information vendors through the Exchange’s market data platform. Investors may contact their brokers or subscribe for the information through information vendors which provide such information. Some listed debt securities, especially those only available for trading by professional investors, are not admitted into CCASS. Investors who want to trade in these debt securities should check with their brokers on settlement arrangements, including accrued interests, before they trade.

If I buy or sell debt securities on the Exchange, how will the trade be settled?

It depends on whether the debt securities have been admitted into CCASS for settlement.

If the trade is settled in CCASS, CCASS will automatically add the accrued interest onto the trade value to come up with the final settlement amount, where the buyer of the debt securities will pay to the seller the purchase price plus an amount equal to the interest accrued from the last interest payment date (or the issue date) to the settlement date stipulated by CCASS. If the trade is settled outside CCASS, the buyer and seller will separately work with their brokers and agree on the settlement arrangements and settlement amount with reference to the settlement date.

How can I know whether a debt security will be settled through CCASS?

Debt securities listed on the Exchange can be found from the Full List of Securities which is available at the “Equities” under “Products” section of the HKEX website. All debt securities which are admitted into CCASS have the “Y” indicator shown under the Admitted to CCASS column in the list.

What are the main features of debt securities listed under Chapter 37 of the Listing Rules to professional investors only?

i.	Debt issues to professional investors only does not preclude subsequent trading on the Exchange, but these securities are offered to professional investors only, typically institutions, in the expectation that they will trade the relevant securities off the Exchange with similar investors.Liquidity for secondary market trading on the Exchange may be limited, and special caution must be exercised by Exchange Participants when handling client order instructions to ensure the suitability of their clients to trade in these securities.
ii.	Listing documents for debt issues to professional investors only are not distributed beyond the initial investors.However, these issuers have a continuing obligation to disclose any price sensitive information by way of announcements on the HKEXnews website.

Debt issues to professional investors only does not preclude subsequent trading on the Exchange, but these securities are offered to professional investors only, typically institutions, in the expectation that they will trade the relevant securities off the Exchange with similar investors.Liquidity for secondary market trading on the Exchange may be limited, and special caution must be exercised by Exchange Participants when handling client order instructions to ensure the suitability of their clients to trade in these securities.

ii.

Listing documents for debt issues to professional investors only are not distributed beyond the initial investors.However, these issuers have a continuing obligation to disclose any price sensitive information by way of announcements on the HKEXnews website.

What other factors should an investor take note of when considering to invest in a debt security?

Some of the debt securities may not be admitted into the Central Clearing and Settlement System (CCASS) for clearing and settlement purpose. Trades executed on the Exchange if any will be settled outside CCASS through other means according to the issuer’s listing documents, and therefore appropriate payment and settlement arrangements should be put in place before any transactions on the securities are conducted by EPs.

What is the trading currency for bonds that are denominated in Renminbi (RMB) but the interest and principal payments are settled in other currency such as US dollars?

Where the settlement currency is different from the denomination of the bonds, the currency for the purpose of trading on the Exchange will be the same as the settlement currency. In this case, the trading currency on the Exchange will be US dollars. The trading denomination for trading on the Exchange will also be expressed in US dollars by converting the RMB denomination into equivalent US dollars by applying the exchange rate between RMB and US dollars stated in the offering circular.