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I understand how a rollover works with personal loans. An easy example would be a car. Someone wants to buy a new car, but they still have an outstanding balance on their current vehicle. So the dealer rolls over that loan by adding the old loan balance into the new car loan.

Bonds are different to loans. So how does a rollover work with bonds?

Let’s say a government issues a bond. This bond has a $1000 principal, a 5% coupon, and it matures in 5 years. What would the government do financially to rollover that bond? Does the government not pay the principal and just roll it over into a new bond? If yes, can they do this without asking the bondholder?

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  • "Bonds are different to loans." Eh? Bonds are loans.
    – RonJohn
    May 24, 2023 at 19:54
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    Bonds are like mortgages: you can't roll one mortgage into another; you must pay off (known as "calling" in the bond market) the first mortgage early and then refinance into a new mortgage.
    – RonJohn
    May 24, 2023 at 19:58
  • @RonJohn Does pari-passu apply to all loans? May 24, 2023 at 20:20
  • @RodrigodeAzevedo that’s certainly location-dependent. For example in the US, a first mortgage has priority over a second mortgage. But that’s not a roll-over; that’s actually having two separate loans.
    – RonJohn
    May 24, 2023 at 21:35

3 Answers 3

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It depends on how the system is set up. For example with treasury direct you can tell the system to automatically buy a new bond when the current one matures.

What happens when you want to do this for $5,000 in 4 week t-bills is as follows:

  • The first t-bill is purchased for $4,980 because the t bill will earn $20 in interest. When requesting the bill you tell it to roll it over one or more times, lets say you specify to do this 2 times.
  • 4 weeks later the interest rate has changed and the next bond will earn $22.00. Instead of sending you $5,000 and charging you $4,978 the system will send you $22.
  • 4 weeks later rates have dropped and the new t-bill will only earn $15.00. So instead of sending you $5,000 and charging you $4,985, they send you $15.
  • 4 weeks later they send your $5,000 back,

A couple of notes:

  • They can send money to your bank, and pull money from your bank. You can also keep all the funds in the treasury direct system, except the small amounts won't be earning interest.
  • You can modify the number of rollovers anytime except the last few days before it matures.

Other bond systems might have a similar system.

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  • So only one 5000 has ever been used in the rollover process?? What would it be called if the gov was issuing new bonds to pay olders bonds that are maturing?? Is that considered a rollover May 24, 2023 at 13:37
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    That is exactly what has been described.
    – keshlam
    May 24, 2023 at 13:49
  • In the third bullet, shouldn't $4,815 be $4,985?
    – blm
    May 30, 2023 at 19:58
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    @blm fixed it. Thanks May 30, 2023 at 21:10
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To "rollover" a bond, the government in your example doesn't augment or affect the outstanding bond, it issues a new one. The $1000 principal 5% 5Y would constitute what's called a series. A series, is a the collection of bonds that make up one distinct issuance.

On a regular schedule, the government performs the "rollover" by issuing a new bond that will constitute the next series. The $1000 principal 5% 5Y would be Series A, and the "rollover" issue, say a $2000 principal 5.5% 5Y, would constitute series B, so on and so forth. Today 5/24/23, the US government will be selling $42B 17-week T-bills. There are already T-bills outstanding. Those T-bills outstanding constitute one series, and the new T-bills sold today will constitute the next series.

Treasury Auction Calendar

The mechanism you have described whereby the bond issuer would "pay the principal and roll over into a new bond" is called a call option and it would have to be written into the covenants of the original bond at issuance. That mechanism has value, and isn't just something the bond issuer can do at will. A call option has value to the bond writer. Bonds trade at a certain price just like equities, so you have to consider that if the bond writer just paid principal to call the series, they would be doing so at par (100). If the bond had appreciated in value such that it's market value was above par (say, 102), that becomes a financially advantageous move for the bond writer

...pay 100 for a bond worth 102? That action has value.

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The issuer of a bond usually cannot forcibly pay off the bondholder to "cancel" the bond. The exception is bonds that are "callable", typically at par or some amount above par. Callable bonds are cheaper to buy (more expensive to issue) because of the risk of getting "called", so they are less common that non-callable bonds.

Also the most common reasons that consumers "rollover" loans is because they want a different collateral or to refinance and get a better interest rate. Government bonds are unsecured, and they can just issue new bonds at lower rates, so there is no need to roll over bonds for either of those reasons.

So there is no concept of "rollover" in the case of US government bonds (and most government bonds in other countries as well).

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  • Callable bonds are cheaper because of the risk of getting "called", Wouldn't risk makes them more expensive (meaning a higher interest rate)?
    – RonJohn
    May 24, 2023 at 19:55
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    I meant cheaper to buy in terms of actual price - yes they would have a higher coupon if issued near par. I added a clarification.
    – D Stanley
    May 24, 2023 at 20:12

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