International bonds are a finance tool that multinational corporations use to finance their operations. One reason that companies decide to use this tool is that often times foreign banks may offer a lower interest rate than local banks. Another reason to use international bonds is to utilize the currency risk exposure to the company’s benefit. Fluctuating exchange rates increases the risk of the bond, but also it increases the expected return.

International bonds, or sovereign bonds, have the same structure as a US local bond in the sense that both types of bonds pay interest in regular intervals and pay the principle at the bond’s maturity. With the major differences are that the bond is denominated in a foreign currency, and that there is exchange rate risk associated with international bonds. The Brady Bond is a bond denoted in US dollars and is used by developing countries to better manage their international debt. Because the US loans out this money, the developing countries are able to utilize the US treasury as collateral; thus further their advancement in the global economy. International companies also issue private bonds, which solely relies on the strength of the company.

The most common way to purchase international bonds is through mutual funds. Several mutual funds such as T. Rowe Price International Bond, Templeton global Income, and Aberdeen Global Income focus on international bonds and fixed-income securities. There are no real options to buy directly from a foreign government. If an occasion does occur, often times the party purchasing the bond will have to pay a large mark up.

The question that needs to be answered when dealing with international bonds is whether or not to hedge the bond. When a bond is hedged, the impact of the fluctuating exchange rates which removes the need to worry about the strength of the dollar. If the bond is not hedged, the risk is increased which increases the expected return on the bond. Risk adverse investors will sway towards the hedged bonds to remove as much risk as possible.

References:

Caplinger, Dan. (2007) Going Global with Bonds. Retrieved from http://www.fool.com/investing/international/2007/01/03/going-global-with-bonds.aspx

Ivanoff, Rob. (2007) Investing in International Bond Funds. Retrieved from http://seekingalpha.com/article/57603-investing-in-international-bond-funds