Bund: What it is, How it Works, Examples

What Is a Bund?

A bund is a sovereign debt instrument issued by Germany's federal government to finance outgoing expenditures. Bund in German is short for Bundesanleihe ("federal bond"); bunds are widely viewed as the German equivalent of U.S. Treasury bonds (T-bonds).

Understanding German Bunds

A bund is issued by Germany's federal government to finance outgoing expenditures, much like the U.S. does when it issues T-bonds. Essentially, they represent loans to the German federal government that are auctioned off in the primary market and traded in the secondary market.

Bunds typically pay interest and principal once a year and represent an important source of financing for the German government. They can also be stripped, where their coupon payments are separated from their principal repayments and traded individually.

Up until the second quarter of 2020, bunds were auctioned only with original maturities of 10 and 30 years, with the majority of them falling into the latter group. That all changed in May 2020, when seven- and 15-year bunds were issued for the first time.

Bund Characteristics

Bunds are nominal bonds with fixed maturities and fixed interest rates. Like all German government debt instruments, they are issued by making a claim in the government debt register, as opposed to producing paper certificates.

A typical bund issue will state its issuance volume, maturity date, coupon rate, payable terms, and interest calculation standard used. The smallest denomination of a bund is €0.01, and its redemption by the German government can be made at par value.

Significance of Bunds

Bunds are highly liquid debt securities that are eligible to be used as insurance reserves for trusts. Accepted by the European Central Bank (ECB) as collateral for credit operations, bunds are auctioned in the primary market at volumes in excess of €1 billion.

The German government typically follows up new issues with higher volumes by producing several increases, up to about €15 billion. This helps to maintain a high level of trading volume.

Bunds account for about 50% of the German government's outstanding debt, underscoring their importance in government funding. By issuing bunds and other long-term securities, German authorities obtain a more stable source of financing, thereby reducing the need to frequently roll over debt.

Bund Stripping

Additional investment options became available with the introduction of bund stripping in 1997. This resulted in principle and interest coupons being separated and traded on a standalone basis, with the minimum amount of €50,000 and a minimum denomination of €0.01.

Stripping can be done by a credit institution or the German Finance Agency—if they carry the custody of the bund account. Coupon strips are typically combined based on their maturity profiles and are traded under single security identification numbers. Strips originating from different types of bunds cannot be bundled.