What are Eurobonds?

There are various ways in which a company, organisation or government can raise capital. One of the ways is through Eurobonds. In other words, Eurobonds is a debt instrument used by entities that wish to raise capital. Now even though the word “Eurobond” has the word “Euro”, Eurobonds aren’t necessarily issued in Europe or euro currency. Eurobonds refer to bonds that are issued in a currency that is different from the currency of the country where the bond is issued. 

Eurobonds are essential to global finance as they help organisations acquire capital at favourable terms, tap into the international market and gain access to a larger pool of investors. 

Key Highlights

• Eurobonds are financial tools that allow entities like a corporation or a company or government for that matter, to meet their capital requirements by raising funds from international markets. 

• After choosing a currency, with the help of a financial institution, the issuer sells the bonds to global investors. In return, the investors receive periodic interest payments and the full principal amount on the maturity date of the bond. 

• For issuers, Eurobonds offer access to global markets and lower interest rates. For investors, they provide a higher rate of returns and a chance at portfolio diversification. However,  there are various risks associated with Eurobonds such as currency risk and political and economic instability. 

• While Eurobonds are issued in currency that is different from the currency of the country they are issued in, foreign bonds are issued in currency that is similar to the currency of the country they are issued in.

Understanding Eurobonds

A Eurobond is essentially a loan taken by a corporation or government from a group of investors for a particular period in exchange for regular interest payments. The Eurobond is issued in a currency that is different from the country’s domestic currency. For eg. An Indian company issues a bond in U.S. dollars and sells it outside the U.S.

Eurobonds offer flexibility to both the issuer and the investor. The issuer can choose which currency to opt for and which country to sell their bonds in. This offers the investors a chance to diversify their portfolio by owning bonds issued in different currencies and markets. 

Eurobonds are highly liquid and therefore can be easily bought and sold in the secondary markets. However,  since they are not backed by physical assets, Eurobonds come under the “unsecured bonds” category. 

How Do Eurobonds Work?

When a multinational corporation, a company or a government wants to meet its capital requirements via a loan that gives favourable terms, they issue a Eurobond in the international market. This is how Eurobonds work: 

• Deciding the Currency

Let us assume that an Indian company wants to set up its office in the U.S. So to collect the capital required to set up an office in the U.S., the Indian company will choose to issue bonds in the U.S. currency i.e., dollars. 

• Issuing to International Investors

The entity will then issue bonds to investors around the world, except in the country whose currency the bond is denominated in. Let us see what this means using the example we took earlier. The Indian company will then sell their bonds outside the U.S. in the international market. 

• Investing via International Markets 

Investors can now buy these Eurobonds on the International Market. For their investments, they will receive periodic interest payments, mostly semi-annually or annually. At the bond’s maturity date, the issuer repays the principal amount to the bondholders. 

In regards to our above example, investors can now invest in these Eurobonds via the international market. 

How are Eurobonds Issued?

To raise capital across borders, an entity (a multinational corporation, a company or a government) issues Eurobonds while following the below-mentioned process. 

• Choosing the Financial Institution

After deciding which currency to issue the bonds in, the entity chooses an international syndicate of banks or a financial institute to manage the entire process. 

• Finalising the Terms and Conditions

The issuer works with the institute to set the terms of the bond such as currency, interest rate, maturity and the total amount to be raised and then both parties proceed to underwrite the bond details.

• Marketing and Issuance

The Eurobond is then marketed and distributed to various investors through the institute’s vast network. Soon, the bonds are also listed on the international market(major stock markets). 

These bonds offer fixed interest rates as they are fixed-income securities. For their investments, the bondholder relies on the ability of the issuer to make periodic interest payments and repay the principal amount on the bond’s maturity date. 

Benefits to Issuers

Raising capital by issuing Eurobonds provides various advantages to the issuers. They are as follows.

• Access to International Investors

With Eurobonds, governments and corporations can tap into a larger pool of global investors. This can help the issuers secure more capital than they might in their home markets.  

• Lower Interest Rates

When reaching a global market, issuers generally choose a currency that helps them secure a loan at a lower interest rate as compared to the rates offered in their domestic market. 

• Flexibility in the Currency

To reduce the risk involved, the issuer tends to choose bonds in currencies that are stable or in demand. 

Benefits to Investors

Like various investments, Eurobonds offer a win-win situation for both the issuers and the investors. The benefits that an investor gets are as follows.

• Diversification

Investors get a chance to minimise the risk in their portfolio and gain exposure to international markets and different currencies. 

• Stable or Higher Returns

Typically, Eurobonds offer predictable interest rates since they are fixed-income securities. However, in emerging markets, Eurobonds may offer higher returns as compared to bonds in the domestic market of the investor. 

• Liquidity

Since Eurobonds are traded on the international market, they provide investors a chance to easily buy and sell the bonds before maturity. 

At the end of the bond’s maturity, on top of receiving periodic interest payments, the investor receives his principal amount in full. For eg. an investor in China may buy a Eurobond issued by an Australian company to gain exposure to the Australian market and potentially earn higher returns than they would on a Chinese Bond.

Disadvantages of Eurobonds

Every coin has two sides. Even though Eurobonds have various benefits, they have their share of risks and downsides. The disadvantages of Eurobonds are mentioned below.

• Currency Risk

When exchange rates of the currency fluctuate, they affect the bond’s value and returns. Due to this, investors and issuers may face losses as the Eurobond is issued in foreign currency. For eg. If a Japanese company issues bonds in U.S. dollars and the yen strengthens, it may become expensive for the company to repay the bond. 

• Lack of Regulations

Regular bonds are subjected to domestic regulations while Eurobonds aren’t. This increases the risk for investors. 

• Political and Economic Risk

Political and economic stability in both the issuer’s and the investor’s country affect the exchange rate of the currency and thus exposes both parties to various risks associated with issuing the bonds in the international market. 

Eurobond vs Foreign Bond

While both types of bonds involve borrowing capital in foreign currency, there are two major differences between Eurobonds and Foreign Bonds. They are as follows:

• Currency

In Eurobonds, the currency in which the bond is issued is different from the issuer’s home currency. In Foreign bonds, the currency in which the bond is sold and the currency in which the bond is issued is the same. 

• Market

Eurobonds can be bought and sold by investors in the international market. Foreign bonds can only be traded in the domestic market of the country in which the currency of the bonds is issued. 

For eg. an Indian company issues a Eurobond in U.S. dollars for Australian Investors. And the same Indian company would issue a foreign bond in U.S. dollars for American Investors. 

Conclusion

Eurobonds are debt instruments that allow companies and governments to raise funds from international investors. They offer various benefits such as lower interest rates, currency flexibility, and access to global economies to issuers. To investors, they offer a chance to diversify their investments and receive stable returns. 

However, like every other investment, Eurobonds have their fair share of risks such as exchange rate fluctuations, regulation risks and political and economic risks. Thus it is important to take the benefits and disadvantages into account before investing in Eurobonds.

FAQs on Eurobonds