Government Bond
Also known as: Treasury, Bund, Gilt, Sovereign
A loan to a state, and the reference price of money itself — the yardstick every other asset is measured against.
1 · SnapshotThe one idea to remember
2 · BeginnerWhat is it, really?
A government bond is an IOU from a country: lend the state money today, and it promises fixed interest payments (coupons) every period and your money back (the principal or face value) at maturity.
Because rich-country governments can tax — and, in their own currency, print — their bonds are treated as the closest thing markets have to a risk-free asset. That makes their yields the baseline price of money: mortgages, corporate loans and stock valuations all key off them.
One rule to internalise: prices and yields move in opposite directions. If new bonds pay 4% and yours pays 2%, nobody buys yours at full price — it must get cheaper until its effective return matches. Rates up, bond prices down; rates down, prices up.
Point at a line to read what it is doing.
How do I read this chart?
Yield runs across, price up. The line falls, which is the whole of the relationship between the two — and it is curved rather than straight, which is convexity and the reason a bond gains more when yields fall than it loses when they rise by the same amount.
Where this is explained properly:
The axes carry no scale on purpose. Every line here is a stylised shape drawn to show a mechanism, so there is no number to read off one — and any figure taken from it would be invented.
a paymentnot a payment
Three arrows, and the whole of the corporate, municipal, green and high-yield markets share this shape. What differs between them is who the issuer is and how likely arrow three is.
At issue, once
- The investor → The issuer You lend. The amount is the price, which is only the face value if the bond was priced at par.
Every six months or year
- The issuer → The investor Contractual, not discretionary: unlike a dividend, missing it is a default. The rate is fixed at issue and does not change when market rates do — which is why the price does instead.
At maturity
- The issuer → The investor One payment, no matter what the bond traded at in between. Everything a bondholder worries about is whether this arrow arrives.
If you sell early
- The investor → The issuer The issuer is indifferent to your sale and pays whoever holds the bond at each date. The price you get is the market's, plus the interest accrued since the last coupon.
- Asset class
- Fixed income
- Instrument type
- Sovereign coupon bond
- Traded
- OTC dealer market, huge and liquid
- Typical users
- Central banks, pensions, banks, everyone
Which risks decide the outcome
Not how risky this is, and not a rating — there is deliberately no total. It says which of five failure modes drives what happens here, in the same order on all 129 products so they can be compared. This publication's own reading; see the notice below.
- Marketdecides it
- Creditmatters
- Liquiditymatters
- Fundingbarely applies
- Operationalbarely applies
What decides it here. In its own currency, a sovereign is not usually the risk — the level of rates is. A bond bought at par and held to maturity returns par whatever happens in between, which is the part people forget when the price falls.
3 · IntermediateHow it works in practice
Reading a bond quote
- Coupon: annual interest as % of face (paid semi-annually for Treasuries, annually for Bunds).
- Yield to maturity (YTM): the single discount rate equating price to promised cash flows — the "internal rate of return" if held to maturity.
- Clean vs. dirty price: quotes exclude accrued interest; you pay clean + accrued ("dirty").
The yield curve
Plot yields against maturities and you get the yield curve — normally upward-sloping (long lending pays more), inverting when markets expect rate cuts, which is why inversion is a famous recession signal. The curve embodies expected policy rates plus a term premium.
Duration: the risk number
Duration measures price sensitivity: a bond with duration 7 loses ≈ 7% of its price per 1 percentage point rise in yield. Longer maturity and lower coupons → higher duration. This is the single number bond portfolios are managed around.
4 · AdvancedPricing & valuation
Pricing off the curve
The price is the sum of discounted cash flows; the honest version discounts each flow at its own maturity's rate (the zero/spot curve \(z_t\)):
What the symbols mean
- Pa price, or a present value
- ta point in time
- Tmaturity, in years
- cthe coupon rate
- Cthe price of a call option
- Fthe forward or futures price
YTM \(y\) is the flat-rate shortcut. Zero curves are bootstrapped from bond prices; forward rates \(f(t_1,t_2)\) follow from no-arbitrage between zeros.
Duration and convexity, precisely
What the symbols mean
- Dduration: how far a bond's cash flows sit in the future
- Pa price, or a present value
- ythe yield to maturity
- Cthe price of a call option
- Deltahow much a derivative moves when the underlying moves
Convexity is why the price–yield curve bows: losses decelerate and gains accelerate — valuable, hence low-coupon long bonds (high convexity) trade at slightly lower yields, other things equal.
Beyond one factor
Curve risk is multi-dimensional; desks hedge key-rate durations (sensitivity to each maturity bucket) and trade level/slope/curvature factors, which explain ~99% of curve variance in PCA. Term-structure models (Vasicek, Hull–White, HJM) impose no-arbitrage dynamics for pricing derivatives on these curves.
The plumbing premia
Even sovereigns have basis effects: on-the-run vs. off-the-run liquidity, repo specialness, and the futures delivery cycle all create yield wedges unrelated to credit — the raw material of relative-value trading.
The formulas above are standard textbook formulations, simplified for teaching. They explain the mechanism — they are not a valuation tool, and they will not reproduce a dealer’s price.
5 · Desk notesHow practitioners think about it
Now say it back
Close the page and give Government Bond in four sentences. It takes a minute and it is the only way to find out whether reading it was enough.
- Who wants what — two parties wanted opposite things badly enough to write it down.
- What the contract obliges, and when — not the payoff; the obligation.
- Where the money comes from — name the source, or you have described a hope.
- What makes it lose — the ordinary way, not the dramatic one.
Put Government Bond beside any other instrument →
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