What Does BPS Mean In Bond Trading?

What Does BPS Mean In Bond Trading?

Bond markets are some of the most influential in the world. Interest rates upheld by national banks around the world determine not only the investment returns of treasury and corporate bonds, but also the viability of other financial instruments, such as stocks and funds. 

Due to the inherent sensitivity of bonds towards interest rate changes, bond investors are often on high alert when such changes are hinted at or announced. 

Changes in interest rates are measured in BPS, or basis points, which represent a 0.01% adjustment in interest rates and consequently - bond coupons. 

Central banks, such as the Federal Reserve of the United States, are especially careful when making adjustments to their interest rates, as drastic changes can send the entire financial system into shock and destabilize the economy. 

While BPS represents a tiny change in interest rates, the premise behind basis points and the degree of changes can greatly affect the health of the economy. 

If you would like to know more about what BPS is and how it is used, this Investfox article is for you. 

BPS Uses In Bonds

In bond trading, BPS is an important part of determining the viability of individual bonds as investments, as any BPS change affects the yields and interest rates on the market.

Here are some ways in which BPS are used in the context of bonds:

  • Yield changes - BPS are used to describe changes in bond yields. For instance, if a bond's yield increases from 3.50% to 3.75%, it is said to have increased by 25 basis points
  • Spread analysis - When comparing the yields or interest rates of different bonds, analysts often discuss the yield spread in basis points. For example, the yield spread between a corporate bond and a government bond might be described as 150 basis points if the corporate bond yields 1.50% more than the government bond
  • Interest rate movements - In discussions about central bank policy or interest rate movements, you might hear references to changes in policy rates in terms of basis points
  • Coupon rate - The difference between a bond's coupon rate and its current yield can also be expressed in basis points. If a bond with a 5% coupon has a current yield of 4.75%, the difference can be described as 25 basis points
  • Credit spreads - BPS are used to quantify the credit risk premium on bonds. For example, if a high-yield bond yields 500 basis points above the risk-free rate, it means the bond is offering a yield 5.00% higher than a similar-maturity government bond

BPS And The Effects Of Interest Rate Changes

BPS is not a concept solely tied to the bond market and affects the entire financial system. Interest rates are important tools for central banks to ensure the stability of the economy. 

Interest rate changes affect all aspects of the economy and central banks have to be very cautious when adjusting interest rates, as it can either greatly increase bond yields and reduce stock performance, or vice versa. 

For example, an interest rate increase of 25 BPS, or 0.25%, is not enough to cause a recession within an economy and can serve to slightly cool down inflation. On the other hand, a single increase of 3%, or 300 BPS, will most certainly cause the economy to spiral into a recession, tank the economy, and lead to social unrest. For this reason, BPS is a concept that is not only applicable to bond markets, but the broader economy as a whole. 

Key Takeaways From What Does BPS Mean In Bond Trading?

  • BPS, or basis points, is a concept used in fixed-income markets that represents a value of 0.01%, applicable to interest rates, bond yields, coupon rates, etc
  • A 0.25% increase in interest rates represents a 25 BPS increase 
  • Depending on the bass point change in interest rates, a central bank may either manage inflation, or lead the economy into a recession 

FAQs On What Does BPS Mean In Bond Trading

What is BPS in bonds?

In bond markets, BPS is used to show the changes in interest rates, which affects the yields of bonds. BPS is also used as a comparative measure to visualize the difference between the yields of corporate and treasury bonds and other fixed-income securities. 

Is BPS the same as interest rate?

BPS represents 0.01% in interest rate terms. For example, an interest rate hike of 0.25% can also be phrased as a hike of 25 BPS, or basis points. However, BPS is not a term that is solely used to describe interest rates and may also be used in fixed-income securities markets. 

What percentage is BPS?

BPS, or basis point, is equal to 0.01% and is used when measuring interest rates, bond coupons, yields, etc. 

For example, an interest rate cut of 0.50% represents a decrease of 50 BPS.