Even though Bond Market is a common jargon, in reality there is no singular place or exchange where bonds are traded. In-fact, the bond market is a huge OTC ( Over the Counter ) market, consisting of independent dealers, organised by types of securities. Buyers of bonds are primarily large institutions. This market can also be referred as a wholesale market with almost unreal amount of transactions taking place. U.S. government bonds are traded in block of $1 million, smaller block of $100,000 are traded in municipal market. Bond securities are traded in two stages
Initial offering of the Bond is traded in primary market, via underwriters. Underwriters are investment banks responsible for setting initial price for the security and overseeing its sale to the investors. In return of their services underwriters avail hefty fee which could be as high as 6-8% of the offering.
Secondary market is where most of the trading activity takes place. The reason that this market is primarily OTC due to diversity of the offerings, comprising quality, maturity and yield. Pricing of the bonds in this market can vary from dealer to dealer. Dealers can markup their bonds individually based upon their own cost, the size of offer, and how to much profit they intend to make. Commission ( Spread ) costs are hidden to buyer, obfuscating the cost to deal and markup. Commissions depend upon following reasons.
- Cost to deal and his markup
- Type of bond being sold.
- Bond’s maturity.
- Bond’s credit quality.
- Demand for a specific bond
- Direction of interest rates.
Commission ranges for different types of offerings are as follows.
- Treasury bonds: 1/2 – 1%.
- Municipal bonds ( 3 – 7 years ): 3/4 – 2%.
- Municipal bonds ( 30 years ): 3 – 4%.