What Is a Yankee Bond and What Risks Does It Carry for U.S. Investors?
A Yankee bond is a bond issued by a foreign borrower in the United States and denominated in United States dollars. A description filed with the SEC in a fund's statement of additional information puts it this way: Yankee bonds are issued by foreign governments and their agencies and foreign corporations, but pay interest in U.S. dollars and are typically issued in the U.S. The word Yankee signals the American market. The borrower is foreign, the market is American, and the currency is the dollar.
The label matters because it describes a combination that changes the risks an American investor faces. A Yankee bond is sold in the same market as domestic bonds and is paid in the same currency, so it looks familiar. The borrower, however, lives under a foreign legal system, may report its finances under different standards, and may earn its income in another currency. This entry explains what a Yankee bond is, who issues one, how one reaches American investors, what the dollar denomination does and does not change, which risks remain, and how trade reporting applies to foreign sovereign debt.
The Three Features
Three features together define a Yankee bond. The first is the issuer. The borrower is foreign. It may be a foreign government, an agency of a government, or a foreign company. The SEC's overview of foreign private issuers states that a company incorporated in the United States can never qualify as one, so a bond from such a company is an ordinary domestic bond.
The second is the market. The bond is sold in the United States. A bond that a foreign borrower sells entirely outside the United States is not a Yankee bond, even if it is denominated in dollars. The SEC's overview for foreign issuers treats offers and sales occurring outside the United States, which fall under Regulation S, separately from offerings made in the United States.
The third is the currency. The bond is denominated in United States dollars, and the fund description quoted above states that Yankee bonds pay interest in dollars. For a United States investor, this means that the amounts the bond promises to pay are stated in the investor's own currency.
Who Issues Yankee Bonds
The fund description lists three kinds of issuers: foreign governments, their agencies, and foreign corporations.
FINRA's rules give another view of the government side of the market. FINRA Rule 6710 defines a foreign sovereign debt security as a debt security issued or guaranteed by the government of a foreign country, any political subdivision of a foreign country, or a supranational entity. A supranational entity is a body formed by more than one country.
The issuers differ greatly from one another. A national government, a regional government, a development institution and a private company are different kinds of borrowers with different sources of repayment. The label Yankee describes where and how the bond was sold. It says nothing about the strength of the borrower.
How Yankee Bonds Reach American Investors
A foreign borrower that wants to sell bonds in the United States must follow the federal securities laws, and there are two broad routes.
The first is registration. The SEC explains that foreign issuers access the United States markets through registered public offerings using specific forms. The SEC lists Form F-1, Form F-3 and Form F-4 as the forms foreign private issuers use for these registered offerings. A foreign government or a political subdivision of a foreign government uses a different document. The Securities Act of 1933 sets out the information required in a registration statement in schedules, and Schedule B applies to foreign governments and their political subdivisions. It begins by requiring the name of the borrowing government or subdivision. Foreign governments have filed registration statements under Schedule B to register debt securities on a delayed or continuous basis.
The second route is an exempt offering. The SEC identifies Rule 144A as one of the exemptions that allow unregistered capital raising. It permits resales to qualified institutional buyers without registration. A Yankee bond placed this way is generally directed to institutions that qualify and not to the general public.
The route matters to an investor because it determines what disclosure exists. A registered offering comes with a registration statement and a prospectus. An offering made under Rule 144A is not registered, and the information available is determined by the terms of the exemption and by what the issuer provides.
What Foreign Issuers Report After the Sale
A foreign private issuer that has registered securities also has ongoing reporting obligations, but they are not the same as those of a domestic issuer. The SEC explains that foreign private issuers file annual reports on Form 20-F within four months of the end of the fiscal year and current reports on Form 6-K promptly. The SEC states that quarterly reports are not required.
The SEC's overview also explains how a foreign company qualifies as a foreign private issuer. Under the shareholder test, a company qualifies if fifty percent or less of its outstanding voting securities are held by United States residents. If more than fifty percent are held by United States residents, a business contacts test applies instead.
For an investor, the practical result is a difference in the rhythm of information. A domestic issuer files quarterly reports on Form 10-Q. A foreign private issuer is not required to. Readers of a Yankee bond prospectus and later filings should look for the specific reports the issuer actually files and should not assume the same cadence as for a domestic corporate bond.
A Hypothetical Yankee Bond
A hypothetical shows how the features fit together. Suppose a foreign company, whose revenues are earned mainly in its home currency, sells a bond in the United States. The bond has a face value of one thousand dollars per bond and pays interest of fifty dollars a year, and both amounts are stated in United States dollars. An American investor who buys one bond expects fifty dollars of interest a year and one thousand dollars at maturity, in dollars, if the borrower performs. This illustration does not describe any actual issuer.
From the investor's side, the payments look like those of a domestic bond. From the issuer's side, the situation is different. The issuer earns home currency and owes dollars, so each interest payment requires it to convert home currency into dollars. The investor's payments are in the investor's own currency, but the ability of the issuer to make them depends in part on the exchange rate between the issuer's currency and the dollar.
The Currency Question
FINRA explains currency risk as the risk that a change in the exchange rate between the currency in which a bond is issued and the United States dollar can increase or decrease an investor's return. A bond issued in euros, for example, exposes an American investor to this risk, because the investor's return in dollars depends on the exchange rate.
A Yankee bond is issued in dollars, so this particular exposure is removed for the investor's receipts. The investor is paid in dollars and does not convert anything. The currency question does not disappear, however. It moves to the issuer. The same fund description states that Yankeedollar and Eurodollar obligations may be subject to currency risk due to the issuer's overall exposure to foreign currency. The point is that a dollar-denominated obligation of a foreign issuer can still carry currency exposure through the issuer.
A hypothetical illustrates the effect. Suppose the issuer in the earlier example owes fifty dollars of interest a year, and its home currency is worth one half of a dollar, so the interest costs one hundred units of home currency. If the home currency weakens until it is worth one third of a dollar, the same fifty dollars costs one hundred and fifty units. The issuer's revenue, which is in home currency, has not changed, so a larger share of it goes to the same interest payment. The bond's terms in dollars are unchanged, but the issuer's capacity to pay has been squeezed. This illustration does not describe any actual issuer or currency.
The dollar denomination therefore protects the investor from converting payments, and it does not protect the investor from the effect of exchange rates on the borrower.
Interest Rate Risk
A Yankee bond is a fixed-income security, and as with other bonds, its market price generally moves in the opposite direction from market interest rates. A hypothetical shows the effect. Suppose an investor owns a Yankee bond with a face value of one thousand dollars that pays fifty dollars of interest a year. If comparable newly issued bonds begin paying sixty dollars a year for each thousand dollars, the older bond's fifty dollar payments look less attractive, and its price in the market would generally fall below one thousand dollars. An investor who holds the bond to maturity receives the face value if the borrower performs, while an investor who sells before maturity may receive less than the face value. This illustration does not describe any actual bond.
Risks That Remain
Several risks that attach to foreign borrowers apply to Yankee bonds whatever the currency.
The first is information. FINRA explains that, because information about international and emerging market bonds is often less reliable and more difficult to obtain, an investor risks making decisions on incomplete or inaccurate information. The SEC's investor material on international investing makes a similar point, noting that foreign companies may not provide investors with the same type of information as United States public companies. The fund description adds that foreign companies are not subject to uniform accounting, auditing and financial reporting standards.
The second is sovereign risk. FINRA explains that a country's unique set of risks is known collectively as sovereign risk, and that a nation's unique political, cultural, environmental and economic characteristics are all facets of it. FINRA states that default risk is real in emerging markets, where sovereign risk such as political instability could result in the country defaulting on its debt. The fund description lists the possibility of expropriation, confiscatory taxation, currency blockage, and political or social instability as risks that could affect investments in foreign securities.
The third is legal recourse. The SEC's investor material explains that an investor with a problem may not be able to sue the company in the United States and may have to rely on whatever legal remedies are available in the company's home country. The practical meaning of this for a particular bond depends on its terms and on the issuer, and an investor should read the offering documents for the governing law and the way disputes are handled.
The fourth is tax. The SEC's investor material notes that in some countries there may be unexpected taxes, such as withholding taxes on dividends. The fund description states that interest on foreign securities may be subject to foreign withholding taxes. An investor should check whether withholding applies to a particular bond and consult a tax professional.
The fifth is cost. FINRA explains that buying and selling international and emerging market bonds generally involves higher costs and requires the help of an investor's firm or investment professional. The statement is about international bonds as a group, and an investor should ask a firm what a particular trade costs.
Credit Risk and Ratings
A Yankee bond carries credit risk, as any bond does, because the borrower may not pay. The label tells an investor nothing about the issuer's credit quality. A bond issued by a foreign government, a development institution or a company must be assessed on the strength of that borrower. An investor can look at the issuer's credit rating, among other information, and should remember that a rating is one input and not a guarantee.
Trade Reporting for Foreign Sovereign Debt
FINRA has extended its trade reporting system to the government side of this market. In an order dated August 10, 2022, the SEC approved a FINRA proposal to expand TRACE, the Trade Reporting and Compliance Engine, to require reporting of transactions in United States dollar-denominated foreign sovereign debt securities. FINRA stated that it would not disseminate information on transactions in foreign sovereign debt securities.
The order concerns foreign sovereign debt as FINRA Rule 6710 defines it. Bonds issued by foreign companies do not fall within that definition.
Yankee Bonds Compared With Other Bonds
Comparing Yankee bonds with other bonds clarifies what the label does and does not mean.
A domestic corporate bond is issued by a United States company, sold in the United States and denominated in dollars. A Yankee bond differs in one respect, which is the issuer. The market and the currency are the same. The differences that follow from the issuer's location are the ones described above: different home-country law, possibly different accounting standards, different reporting obligations, and income that may be in another currency.
A bond denominated in a foreign currency differs on the currency feature. FINRA's currency risk description applies directly to such a bond, because an American investor's return depends on the exchange rate.
A Eurobond is a separate category with its own entry in the dictionary. It is not interchangeable with a Yankee bond, and a reader should not use the two names as synonyms.
A United States Treasury security is issued by the federal government and backed by its full faith and credit. A bond issued by a foreign government rests on that government's own promise to pay and not on the United States government, and it carries the foreign-issuer risks described above.
What an Investor Should Look For
An investor considering a Yankee bond should look for several things in the offering documents. The first is the identity and legal form of the issuer, including whether it is a government, an agency or a company. The second is the route by which the bond was offered, registered or exempt, because it determines what disclosure exists. The third is the governing law and the way disputes are handled. The fourth is the issuer's reporting, including the annual report on Form 20-F and the reports on Form 6-K that a foreign private issuer files. The fifth is any withholding tax. The sixth is the issuer's sources of income and the currency in which it earns them, because a mismatch with dollar obligations creates the exposure described above.
Common Misunderstandings
One misunderstanding is that a Yankee bond is issued by an American company. It is issued by a foreign borrower and sold in the United States.
A second misunderstanding is that a dollar-denominated bond has no currency risk. The investor's receipts are in dollars, but the issuer's exposure to foreign currency can affect its ability to pay.
A third misunderstanding is that every Yankee bond is registered with the SEC. Foreign borrowers can offer bonds through registration or through an exemption such as Rule 144A.
A fourth misunderstanding is that a foreign private issuer files the same reports as a domestic issuer. Foreign private issuers file annual reports on Form 20-F and current reports on Form 6-K, and quarterly reports are not required.
A fifth misunderstanding is that the label says something about credit quality. The label describes where and how the bond was sold. The creditworthiness of the borrower must be assessed separately.
A sixth misunderstanding is that Yankee bonds and Eurobonds are the same thing. They are different categories, and the Eurobond has its own entry.
Key Points
A Yankee bond is a bond issued by a foreign borrower in the United States and denominated in United States dollars. A fund description filed with the SEC describes Yankee bonds as issued by foreign governments and their agencies and foreign corporations, paying interest in dollars and typically issued in the United States.
Foreign borrowers reach American investors through registered offerings, with foreign governments using Schedule B of the Securities Act, or through exempt offerings such as Rule 144A. Foreign private issuers file annual reports on Form 20-F and current reports on Form 6-K, and quarterly reports are not required.
The dollar denomination removes the exchange-rate risk on the investor's receipts, but the issuer's exposure to foreign currency can still affect its ability to pay. Other risks that remain include less reliable information, sovereign risk, limited legal recourse, foreign withholding taxes and higher trading costs.
FINRA's TRACE system was expanded to cover reporting of United States dollar-denominated foreign sovereign debt securities.
