Debt Capital Markets 101: What ‘is’ Debt Capital Markets?

Please excuse the grammatically-incorrect headline (the problem with an industry that doesn’t know if it is a singular or a plural).

This post is the second in my series that introduces you to the world of debt capital markets.  If you haven’t read my introduction (and I suggest you do), you can read it here.

In this post, I’ll be covering the following questions:

• What are the debt capital markets?
• What is the aim of a debt capital market department (and how do they make money)?
• What do people mean by the term ‘fixed income’?

So, without further ado, let’s dive in.

What are the debt capital markets?

The debt capital markets are a component of the international financial markets.

Strictly speaking, the term is a one that refers to all the international markets in which debt is traded (whatever form of debt that might be: bonds, loans, treasury bills, commercial paper etc).

Within the majority of investment banks and for the purpose of this site, the term ‘debt capital markets’ refers to the primary bond market. It is commonly shortened to ‘DCM’.

The bond markets, like the equity markets (i.e. stocks or shares), can be divided into:

• The primary market – where an issuer launches a new bond issue, in order to raise funds directly from investors;

• The secondary market – where existing bonds are traded amongst the various market participants (e.g. investment managers, pension funds, hedge funds, market makers)

Within an investment bank, the debt capital markets department is generally responsible for working with its issuer clients to bring new bond issues to the primary market. This is known as origination.

The term used to describe the role of those investment bankers that work directly with issuer clients to bring new bond issues to market is ‘originator’.

Hence, someone working in this field might be known variously as:

• a debt capital markets originator (or DCM originator);

• a bond originator; or simply

• an originator

In addition to originators, debt capital markets departments also contain bankers fulfilling other roles, such as structuring and ‘syndicate’.

I’ll cover what each of these functions do in a later post.

What is the aim of a debt capital markets department?

Ultimately, the aim of a debt capital markets department, like the majority of other departments within an investment bank, is to make money. This is done primarily by charging the client a fee for each transaction executed (new issue launched, tender offer completed, etc).

In the case of new issue business, the fee is generally structured as a percentage of the amount raised under the bond issue.

In addition, the bank makes money by selling products and services associated with the underlying new issue e.g. pre-hedging, cross currency swaps or treasury investment products.

Sometimes a bank will execute a transaction for little or no fees. This is known as a ‘league table trade’, since the value for the bank comes in the form of a contribution to its league table standings, as well as its credentials in that industry sector or currency market.

Information providers (e.g. Bloomberg, Dealogic) and industry magazines (e.g. Euroweek, IFR) publish league tables on a weekly, quarterly, year-to-date and annual basis. These tables rank the banks based on the volume of new issue business that they have executed for their DCM clients. It is important for the winning of new (and hopefully more remunerative business) that banks rank as highly as possible for their target industry sectors, product types and currency markets.

Okay, so that is DCM. Why do I keep hearing the term ‘fixed income’?

‘Fixed income’ is another relatively broad term, used to describe financial instruments, bank departments and division, and job titles. The term itself stems from the fact that debt instruments provide a ‘fixed income’ (although in many cases these days, they don’t). It is generally used to refer to all debt instruments (or similar) that trade (or could theoretically trade) in the secondary market.

‘Fixed income’ is sometimes used to refer to the all the functions within an investment bank that deal with the primary and secondary bond markets, thus encompassing DCM origination, trading desks and sales teams, as well as related derivatives and structuring teams.

Wrap up

That’s probably enough for now. If you have any questions on the information covered in this post then please leave a comment below. You can also let me know if there is a topic you would like covering in a future post.

All the best,

Monty