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What are Fixed Income Products?
In quantitative finance, fixed income products refer to financial instruments that provide investors with a fixed stream of income over a specified period. These products are typically debt securities issued by governments, corporations, or other entities to raise capital. They are called "fixed income" because they offer a predetermined interest or coupon payment to the investor. Common examples of fixed income products include:
Bonds: Bonds are debt securities where the issuer (government or corporation) borrows money from investors for a fixed period at a specified interest rate. The interest, known as the coupon, is paid to the bondholder periodically (e.g., annually or semi-annually) until maturity when the principal is repaid.
Treasury Securities: These are bonds issued by governments, such as U.S. Treasury bonds, notes, and bills. They are considered low-risk investments and serve as benchmarks for other fixed income products.
Corporate Bonds: These are bonds issued by corporations to raise capital. Corporate bonds typically offer higher yields compared to government bonds to compensate for the additional credit risk associated with the issuer.
Municipal Bonds: Municipal bonds, or munis, are issued by state or local governments to fund public infrastructure projects. The interest earned on municipal bonds is often tax-exempt at the federal level and sometimes at the state and local levels.
Mortgage-Backed Securities (MBS): MBS represent a pool of underlying residential or commercial mortgages. These securities are created by bundling individual mortgages and selling them to investors. The cash flows from the mortgage payments form the basis for the interest and principal payments to the MBS holders.
Asset-Backed Securities (ABS): ABS are securities backed by pools of various types of assets, such as auto loans, credit card receivables, or student loans. These securities offer investors exposure to the cash flows generated by the underlying assets.
Collateralized Debt Obligations (CDOs): CDOs are structured financial products that pool together various fixed income assets, including bonds, ABS, or MBS. They are divided into tranches with different levels of credit risk and return profiles.
In quantitative finance, various models and techniques are used to analyze and value fixed income products, including yield curve analysis, duration and convexity measures, pricing models like the Black-Scholes model for options on fixed income securities, and risk management tools such as Value at Risk (VaR) calculations.
Fixed income products are covered in more detail in module 6 of the CQF program.