What it means
The defining feature is the mismatch between the borrower and the market. The issuer is a foreigner, but the bond is sold locally, in local currency, to local investors and under local regulation.
These bonds often have nicknames based on the market. A foreign bond sold in the US in dollars is called a Yankee bond, one sold in Japan in yen is a Samurai bond, one in the UK in sterling is a Bulldog bond, and one in Australia is a Kangaroo or Matilda bond.
Companies, governments and development banks use them to diversify their funding. A borrower in a small economy may find that a larger market offers lower interest rates, longer maturities and far more buyers than its home market can provide.
Because the bond is in the local currency of the market, the borrower takes on currency risk if its own revenue is in another currency. A firm earning in euros but owing dollars needs those euros to buy more dollars each time an interest payment falls due, so a weaker euro raises the real cost of borrowing.
Investors buy foreign bonds to gain exposure to a different issuer without taking on currency risk, since the payments arrive in their own currency. They still take on credit risk, which is the chance that the foreign borrower cannot pay, and they rely on ratings and disclosure standards they may know less well.
A common source of confusion is the difference between a foreign bond and a Eurobond. A foreign bond is regulated by the country of the currency, while a Eurobond is sold outside the country of its currency and is generally subject to lighter regulation.
In practice
Real-world examples.
Example
A Brazilian utility needs $200,000,000 to build a power line. It issues a Yankee bond in the US, registers it under US rules and sells it to American pension funds, because the US market offers a longer maturity than Brazilian investors will buy. The utility accepts the cost of US legal and rating work in return for a 20-year funding line.
Example
A US pension fund wants to hold bonds issued by an overseas supermarket chain without worrying about exchange rates. It buys a dollar-denominated foreign bond from that chain, so every coupon (interest payment) arrives in dollars. The fund still assesses the chain's credit quality, because a weak balance sheet could mean missed payments whatever the currency.
Example
A European development bank issues a sterling bond in London to finance projects in several countries. The finance team accepts the extra paperwork because the interest rate is lower than it would pay in its home market. Doing so also introduces the bank to a new group of investors who may buy its future issues.
Case study
Seen in the real world.
Northgate Mining is an illustrative, fictional company that earns most of its revenue in Canadian dollars. It decided to raise $150,000,000 by selling a foreign bond in the US, attracted by a lower coupon than any bank in Canada had quoted.
The treasurer then noticed that every interest payment and the final repayment would be in US dollars, while sales stayed in Canadian dollars. She asked a bank for a currency swap to fix the exchange rate on the payments, and the extra cost of that hedge narrowed the apparent saving.
In this illustrative case the bond was still worthwhile, but only after the hedge was priced in. The lesson is to compare funding choices on a currency-adjusted basis, not on the headline interest rate alone. Northgate's board now asks for an all-in comparison, including hedging and legal costs, before approving any overseas borrowing.
Watch out
Common mistakes.
- Comparing the headline coupon of a foreign bond with domestic loan rates without adding the cost of covering currency risk.
- Confusing foreign bonds with Eurobonds, when the difference is which country's rules and currency apply.
- Assuming a foreign bond is the same as a bond issued by a company in a foreign country, when the key point is where the bond is sold and in which currency.
Questions
People also ask.
Is a Yankee bond a type of foreign bond?
Yes, it is the name for a foreign bond issued in the US market in US dollars by a non-US borrower.
Who regulates a foreign bond?
The securities regulator in the country where the bond is sold, so a Yankee bond follows US rules even though the issuer is foreign. The issuer therefore has to meet local disclosure, rating and listing standards.
Why would an investor choose one?
To diversify across issuers and countries while receiving payments in their own currency, which keeps exchange rate swings out of the return. It is a way of buying international credit exposure with a familiar settlement process.
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