SECURITY ANALYSIS

INVESTMENT PLAN BONDS (2020)

ARSAL NAVEED BAJWA

(FA20-BSAF-0002)
AHMED ALI ANEES
(FA20-BSAF-0030)
A bond is loan from an investor to a borrower such as a company or government. The borrower

uses the money to fund its operations, and the investor receives interest on the investment. The market
value of a bond can change over time.

A bond is a fixed-income instrument, which is one of the three main asset classes, or groups of similar
investments, frequently used in investing.

ECONOMIC ANALYSIS OF BONDS

Introduction
The COVID-19 pandemic strongly impacted the outlook of global economic activity, financial market,
society’s sentiments, and consumer and business confidence indicators (Teresiene et al., 2021a). The
COVID-19 pandemic is different from other financial and economic crises (Yue et al., 2020a, Yue et al.,
2020b, Yue et al., 2021). This time, it substantially affected almost all sectors, and the biggest reason for
such consequences was a lockdown in all countries. But the lockdown was the only way to protect
society and the economy from much more significant adverse effects. The government bond market is
substantial in dire and difficult times because it is the primary source of government funding, and yield
volatility is related to the debt costs. The role of the government in critical moments is essential. The
support is needed not only for society but for business as well. Government bonds are the main part of
pension funds and central banks’ investment portfolios, directly connecting with the benefits to society
and the economy.

The International Monetary Fund (IMF) noted in its World Economic Outlook 2021 that “the ravage of
the new COVID-19 pandemic has made the prospects for the global economic recovery extraordinarily
uncertain.” The COVID pandemic affected the economy in all countries. Different authors focus on
separate issues related to the pandemic environment (Edrus et al. (2022).

In parallel with the COVID 19 pandemic, Environmental, Social, and Governance (ESG) is a newly
emerging investment for extensive companies to create economic value and balance financial earnings
and environmental, social sustainable development (Abhayawansa and Tyagi, 2021). Since the concept
of ESG was formally proposed by the United Nations in 2004, more and more investors have paid
attention to ESG and gradually integrated it into the business practice of corporate social responsibility
(Eccles and Viviers, 2011). The emergence of ESG connects corporate social responsibility with global
sustainable development issues and reveals the need for upgrading and business transformation of
responsible investment in the new era (Leins, 2020). ESG aims to meet the needs of the present without
jeopardizing future generations and human capital (Kotsantonis and Serafeim, 2020). ESG is perceived
as an emerging investment strategy with a clear, logical chain - corporate ESG performs well,
demonstrating corporate capabilities in environmental protection, social responsibility, governance
model, and risk control, thus achieving win-win economic, social, and ecological benefits (Chen
andYang, 2020, Orazbayеv et al., 2019).

Economic activities are increasingly affecting the environment comprehensively. Companies and their
relevant investors shoulder the responsibility to lead a sustainable agenda for their economic activities
(Christensen et al., 2022). Based on ESG evaluation and rating information, investors observe the ESG
performance of enterprises and evaluate their contribution to enterprises (investment objects) in
promoting sustainable economic development and fulfilling social responsibility (Avetisyan and
Hockerts, 2017; Amel-Zadeh and Serafeim, 2018; Xiong et al., 2020). ESG contributes to creating long-
term value and continuously sustainable development and boosts the confidence of society, investors,
and customers (Suttipun, 2021).

In the era of financial turbulence and economic uncertainty of COVID19, however, there are challenges
for both companies’ strategic decisions to maintain economic returns and ESG performance. Existing
research focuses on the company’s ESG performance (Halbritter and Dorfleitner, 2015; Hill, 2020), ESG
data (Kotsantonis and Serafeim, 2019), and disclosure (Lokuwaduge and Heenetigala, 2017), reporting
the positive ESG influences on corporate financial performance. Nevertheless, most research
overlooked ESG from the perspective of governments. First, the company’s capability to do ESG relies
on its financial sourcing from bank loans and the regional government fiscal measures. ESG is pertinent
to the effect on the cost of debt financing (Raimo et al., 2021). Second, Although the green bond market
has grown quickly in recent years, it is still a niche market that is priced differently from conventional
bonds (Hachenberg and Schiereck, 2018). Within this study, we focus on the perspective of government
bonds in the context of COVID 19 financial turbulences to inform ESG implications. Therefore, this
research aims to value the impact of the COVID-19 pandemic on different government bond curve
sectors in different regions. We choose the government bond as our research object.

The reasons are the circulating connections among companies, banks, and government banks. Banks
hold an average of 9% government bonds assets on regular times (Gennaioli et al., 2018), especially
when banks make fewer loans and operate in less financially developed countries. By comparison, banks
with the average exposure to government bonds exhibit a lower growth rate of loans than banks
without bonds during default years. This research is significant and adds value to the finance literature
analyzing government bond yield dynamics in critical moments and stressful scenarios. Governments
need to reconsider the maturity of new debt in critical moments. It is also significant for portfolio
managers and pertinent changes in fund management and accountability relative to ESG issues
(Holland, 2011), especially institutional ones, to manage huge government bond portfolios for pension
schemes or income generation for the government budget.

This article sheds light on bond yield volatility during critical moments using the case of the COVID- 19
pandemics. We create value to the literature by analyzing different regions and government bond
sectors according to their maturity. We have covered three different markets as most authors focused
on one market. We had an aim to compare the impact of the pandemic in separate regions.

We present a literature review where we analyze different views about the impact of the COVID-19
pandemic on financial markets. We point out that we add value to literature analysis by comparing
different regions and different maturities of government bonds. The latter focus is essential for
practitioners in portfolio management and diversification decisions. In Section 3 we describe the
methodology and finally present our results. For methodological issues, we analyzed the research of
Golmankhane et al. (2021) and Rashid et al. (2021), which gave us valuable insights. To value the impact
of the COVID-19 pandemic, we have chosen two government bond markets: Germany and the United
States. We used three different maturities for the analysis–10 years, 5 years, and 3 years - as we wanted
to compare the pandemic’s effect on long and mid-term government bond markets. Our results first
present the main tendencies of government bond yields from the pandemic’s start. After that, by
dividing the period into three stages, we tried to value the impact of the COVID-19 pandemic in
different periods. The dependent variables selected for the research are 10 years German government
bond yield; 5 years German government bond yield; 3 years German government bond yield; 10 years
United States government bond yield; 5 years United States government bond yield; 3 years United
States government bond yield.

Literature Review
The government bond market is essential for every country and economy related to public finance and
the governments’ ability to attract funds using financial markets. Since the COVID-19 pandemic spread
widely and affected all over the World, the financial markets also demonstrated a substantial response.
Financial markets first reacted to the news about the pandemic and started the process of “flight to
quality.” Loayza and Michael Pennings (2020), in their research, pointed out that in the periods of “flight
to quality”—when investors are choosing safe assets for their portfolios emerging, and developing
countries face difficulties to finance budget deficits because of higher debt costs. Only international
financial markets can help in such moments, and emerging countries have to use opportunities to
attract funds using Eurobonds or international bonds. A similar situation we had during the financial
crisis in the 2008–2009 period. Acharya et al. (2016) investigated the European sovereign debt crisis and
the role of central banks. They pointed out that it was hazardous for commercial banks because they
increased their risk by including risky domestic debt in investment portfolios, especially in peripheral
countries. The central bank’s impact on sovereign bond yields during a recession period was analyzed by
Altavilla et al. (2019), but these authors also analyzed other financial markets.

Different authors analyzed the government bond market, trying to identify the impact of monetary or
fiscal policy decisions during the COVID-19 pandemic period (Beirne et al., 2020; Beirne et al., 2020;
Bordo and Duca, 2020; Central Bank of Malaysia, 2020; Kothari, 2020; Macchiarelli, 2020; Zaghini, 2020;
Elfayoumi and Hengge, 2021; Fendel et al., 2021; Fratto et al., 2021; Rebucci et al., 2021). Other authors
focused more on the COVID-19 pandemic risks and paid more attention to sovereign credit default
spreads and credit risk (Cevik and Ozturkkal, 2020; Nelufule, 2020; Novick et al., 2020; OECD, 2020;
PwC, 2020). While some of them even tried to identify the opposite impact of low bond yields on
various business sectors during the pandemic period (EIOPA 2020).

Some authors focused more on the United States Treasuries, pointing to stress and illiquidity issues
using treasury inconvenience yields during the pandemic (He et al., 2020), while others analyzed
corporate or municipal bond markets COVID-19 pandemic effects (Lonski 2020). Beirne et al. (2020)
tried to value the impact of fiscal stimulus and quantitative easing of central banks and analyzed global
financial markets in different countries, identifying the COVID-19 pandemic effect. Still, those authors
focused more on capital flows and revealed that emerging markets had experienced a more substantial
impact of COVID-19 on the bond market than developed economies. We add value to this type of
research by analyzing different regions and different tenors of government bonds.

But the most common way of analyzing the government market was the 10 year government bond
tenor sector. Our article adds value to the literature and practical investment decisions framework
because we analyze the government bond market, consider different government bonds’ maturities,
and use that approach for other regions. Our results, in some cases, support Sène et al. (2021) findings
that confirmed cases of COVID-19 pandemic led to increased yields because additional information
calmed investor concerns about future trends in economics. The latter research focused on the
Eurobond market and revealed that announcements from international organizations: International
Monetary Fund, the World Bank, and other official institutions calmed down the markets. It means that
the negative effect of the COVID-19 pandemic was not so significant because of the support from official
organizations.

Orazio and Maximilian (2020) researched the COVID-19 pandemic effect on long-term E.U. bond yields.
Finlay et al. (2020) investigated the Australian government fixed income market in the pandemic period.
The authors’ most significant attention was paid to the bond market’s functioning and the central bank’s
role. Central banks all over the World helped to reduce high volatility in financial markets. Investors
focus on central banks’ future steps and easing monetary policy as a tool and support for economic
growth.

The effect of the COVID-19 pandemic on financial markets was analyzed by Zhang et al. (2020), who
found a substantial increase in global market price volatility. The authors focused more on stock market
volatility and pointed out that monetary and fiscal policy responses can encourage further uncertainties
in the global financial markets. Hu et al. (2021) analyzed stock market using the sample of film and
drama sector. Chen et al. (2021) analyzed whether investor sentiment has a higher possibility of
predicting energy assets volatility than VIX and other uncertainty indices. Hao et al. (2021) focused on
the combined effect of foreign direct investment spillovers and remittances inflow on the real effective
exchange rate. Teresiene et al. (2021b) and Pan and Yue (2021) analyzed the impact of the COVID-19
pandemic on economic and economic sentiment indicators, which influence financial markets.

Sovereign debt issues attract the attention of different scientists, especially in critical moments of the
economic cycle. Ferreira (2018) wrote about the Greek debt crisis and discussed the issues related to
public debt. The author made an investigation covering fifteen different European countries and applied
a time-varying analysis of the Hurst exponent. The results of the following research showed that there
was a long-range memory in sovereign bonds. The Hurst exponent method was also applied by Carbone
et al. (2004), but this research focused on the German market’s high-frequency data. Bariviera et al.
(2012) also analyzed the European bond market using the Hurst exponent, focusing on the corporate
and sovereign bonds market’s informational efficiency. The main findings showed that financial crises
had different impacts on corporate and sovereign bonds’ informational efficiency. An interesting fact
was that the financial crisis affected the informational efficiency of the corporate bond market.

Zunino et al. (2012) analyzed the efficiency of sovereign bond markets using bond indices from
developed and emerging countries. The authors used a sophisticated statistical tool–the complexity –
entropy causality plane, which helped rank separate bond markets and distinguished different market
dynamics. The authors revealed a correlation between permutation entropy, economic development,
and financial market size in the latter study.

Sanchez and Wilkinson (2020) analyzed the effect of the COVID-19 pandemic on the municipal bond
market and found that the pandemic affected the United States municipal bond market from different
sides as the Federal Reserve changed the direction of the yields. Firstly, the investors tried to refuse the
exposure in such positions because of possible credit risk increases. Still, lately, when the Federal
Reserve decided to take municipal bonds for collateral purposes for particular loans, the situation had
changed, and the yields decreased. So, we see that the direct effect of the COVID-19 pandemic can be
changed and managed by the financial system players. Wei et al. (2020) revealed that the Federal
Reserve emergency lending facilities’ impact on municipal bonds and state government bonds was
significant. The authors stressed the importance of liquidity backstops.

INDUSTRY ANALYSIS

Sales in every industry related to Unilever

As we will explain later, Unilever has 4 divisions which are Beauty & Personal Care, Foods &
Refreshment, Home Care and Water Purifier. These sectors are in constant growth because of
the constant population and demand. The only exception is the Water Purifier Industry which is
growing very fast because of the popularity of the home water purifiers.

Figure 2: Sales of the leading household/personal care companies worldwide in 2017 (in billion U.S. dollars).
Source: statista.com
As we can observe in the Figure 2, the multinationals Unilever and Procter & Gamble are leading
the Home Care and Personal care markets. It is important to mention that L’Oréal Group does
not participate in the Home Care industry so we must highlight that the french company has a
huge market share in the Beauty Industry.

Figure 3: Leading beverage companies worldwide in 2017, based on sales (in million U.S. dollars). Source:
Statista.com

The Beverage market is leaded by far by the world’s largest beer producer Anheuser-Busch
InBev. They are followed by the huge rivals The Coca-Cola Company and PepsiCo Inc. In this
market, Unilever has the potential to expand further on it because as we can see, Unilever is
ranked as the eleventh beverage producer in terms of sales.
 Figure 4: The World’s Top 100 Food and Beverage Companies of 2015. Source:
www.foodengineeringmag.com

In the Food industry, the swiss multinational Nestlé is leading with a huge market share. Unilever
is placed eleventh and as we said in the Beverage market has still potential to expand even
though this Industry is very tough and competitive.

The Global Water Purifier industry is currently valued at 10800 million US$ and is expected to
reach 15000 million US$ in 2025. This market is still very new so companies are positioning
themselves in the global market. Stand Out companies like Aquasana, Brita, PUR, Unilever Pureit
and Philips.

3.2 Main Competitors

The main competitors of Unilever are other Fast-Moving Consumer Goods (FMCG) companies
with a similar structure and size. For example, the American consumer goods multinational
Procter & Gamble, the largest food company in the world Nestlé, the British Reckitt Benckiser
Group which produces hygiene, health and home products, the global manufacturer Mars, the
New York company Colgate-Palmolive, Johnson & Johnson the consumer goods and
pharmaceutical American multinational, the Kraft Heinz Company which is a recent merger and
the german chemical and consumer goods Henkel. All of them work internationally but try to
understand consumers’ demands in every country they operate.

3.3 Global FMCG companies total sales ranking

Figure 5: Top 50 FMCG companies worldwide in 2017, based on net sales (in million U.S. dollars).
Source:statista.com

Nowadays, Unilever is the fourth FMCG company based on their net sales of 2017 by making
60531 millions of U.S. dollars. The only companies that surpass Unilever in the FMCG market are
Nestlé, Procter & Gamble and PepsiCo respectively. We must consider that this ranking made by
www.statista.com only contains the data of the companies that have published it. Companies like
Oetker or Mars are not included.

3.4 SWOT Analysis of the FMCG industry

Strengths
Economies of scale: Every FMCG company can take profit of economies of scale.
No Seasonality: The FMCG Industry has constant sales because they produce products every day
products.

Strong Brands: Presence of well known brands in this sector.

Weaknesses
Differentiation in the FMCG market is difficult because producers can only compete in
availability, range of products and prices. Their products can be easily substituted, specially in
emerging markets like Asia or Africa where they use traditional alternatives.

Dependance of retailers: FMCG companies don’t usually sell their own products, so they depend
on retailers.

Counterfeit consumer goods: Goods of inferior quality sold without the brand’s owner
authorization under another’s name.
High advertising costs: Increase in Advertising spending may affect margins.

Opportunities
Improving economic conditions: getting out of the recession leads to higher consume. Digital
strategy: Going digital will lead to more sales for FMCG companies because people is increasingly
buying online.

Innovation: Products can be improved or invented in the healthcare market.

International laws: The European Parliament and the European Commission are trying to protect
big food companies from some retail practices. The manager of Unilever Germany has publically
supported it.

Population Growth: Nowadays, population is constantly growing so the demand for FMCG
grows.

Threats
Highly competitive: Unilever competes with other huge companies like P&G and Nestlé and local
companies that try to dominate every market.
Retailer’s products: Increasing popularity in retailer’s own brands.
Political situation: Non stable political situation in some emerging countries.
INVESTMENT ANALYSIS- TECHNICAL APPROACH
 INVESTMENT ANALYSIS- FUNDAMENTAL
APPROACH
Fundamental analysis attempts to use the writings of professional analysts as well as economic intuition
to identify financial statement data that can augment the information on current earnings in an attempt
to infer future earnings from current performance. the equity market underreacts to information in
current financial statements about future earnings. Alternatively, they suggest that previously identified
measures of equity risk.

in this study we examine the value-relevance of fundamentals in the market for new bond issues. Unlike
stocks, bonds have a known maturity date and bondholders are entitled to contractually fixed claims
(periodic interest payments and the face value of the bond) rather than residual claims. Given the
entitlement to fixed (rather than residual) claims and the relative importance of the face value of the
bond (which is to be paid only on maturity), bondholders tend to focus on the creditworthiness (i.e., the
ability to pay interest and principal) of the issuer. Thus, credit analysis by bond underwriters,
institutional investors, and the bond rating agencies tends to focus almost exclusively on the default risk
— that is, the risk that the issuer will be unable to make timely interest and principal payments.
Moreover, because bond investors want to get paid more for taking on additional risk, bonds are priced
so that the yield to maturity (YTM) increases with perceived default risk — that is, the higher the
perceived default risk, the higher the YTM, and vice versa. From the perspective of bondholders, the
relevant attribute is the firm’s future cash flows. Still, the prior literature (e.g., Dechow 1994) recognizes
explicitly that accrual-based earnings (rather than cash flows) not only provide a more meaningful
measure of current performance but also represent a better indicator of future performance and the
firm’s ability to generate future cash flows, for these reasons, higher expected future earnings are
expected to provide greater credit protection and lower default risk.

Consistent with the economic intuition underlying the use of fundamentals as proxies for expected
future earnings, we hypothesize that underwriters and potential institutional investors (who dominate
the market for new bond issues) interpret higher values of the fundamental score to indicate higher
expected future earnings, which are associated with lower default risk and a lower YTM. Thus, a higher
value of the fundamental score (as a proxy for expected future earnings) is predicted to be associated
with a lower bond yield.

CONCLUSION AND RECCOMMENDATIONS

The COVID-19 pandemic has caused economic pressure. The COVID-19 pandemic substantially impacted
the financial markets, including the Government bond market. The fiscal and monetary policy
influenced the direct effect because governments and central banks made substantial efforts to lower
the pandemic shock’s negative impact. More government departments and social organizations will use
ESG information to make decisions and investments. Indeed, our research findings regarding the
government bond market during the COVID-19 pandemic inform corporate decision-making. Countries’
carbon neutrality and zero emissions targets have boosted the ESG demand and the need to raise funds
via government bonds. Moreover, governments have increased their ESG attention. A green
government-bond index could contribute to attracting foreign investment.

Our research showed different tendencies of government bond yields in two regions: the United States,
and Germany (as a proxy for the euro area); as a result, the impact of the spread of the COVID-19
pandemic government bond yields seemed to be different depending on the country and the
assessment period. We have chosen separate periods to value the actual effects and shocks of
pandemic levels and waves, which helped us identify some tendencies.

Firstly, the results revealed different effects of the COVID-19 pandemic depending on the period
investigated. In the first months of the pandemic, the yields of German government bonds
demonstrated a positive reaction (increase). In contrast, the yields of the United States government
bonds demonstrated a negative reaction (decrease) to the spread of the COVID-19 pandemic. The
response both to the country-level and the global situation was identified.

The first wave in Germany was quite interesting as we noticed that long-term yields were not affected
while the 3-year tenor sector increased. Long-term yields are usually impacted by inflation expectations
which could lower the effect. Germany is like a benchmark yield curve for the euro area and the minor
risky asset in this region. We think that 3-year maturity is not among those popular ones, so for this
reason, it was affected contrarily. The most liquid and most minor risky assets are up to 2 years
maturity. The COVID-19 pandemic situation during the first wave was not so bad in the United States
compared with other regions. Because of that and, of course, of the currency issues, government bonds
were very attractive for local investors and foreign investors. So, due to high demand, the yields
decreased in all maturity buckets.

The results are, to some extent, different for the second phase: Germany and the United States bonds
demonstrated a decrease in yield, we did not notice any differences compared to the United States’ first
stage. Tendencies of the second wave of the COVID-19 pandemic were very different in separate
regions. In the United States case, effects in Germany and the United States were influenced strongly by
other factors such as central bank interventions and substantial political risk volatility.

The analysis of impulse response functions revealed that yield response differs depending on the
maturity of the bonds. The markets also respond differently to a country-level and global pandemic
situation. Although the short-term initial yield responses vary in direction, strength, and duration, it
could be stated that the long-term response of German government bond yields appeared to be of a
more negative nature, while the reaction of the United States government bonds was more positive.

Summarizing our research results, we would like to stress that in stressful situations, for a short period,
yields of government securities usually decrease because investors need safe assets, but later, other
factors begin to influence stronger, and the negative effect of any crisis or pandemic decreases. As such,
our empirical findings based on contexts Germany and the United States had practical implications to
strengthen business investors’ capability to cope with fear of failure at stressful situations of turbulent
global financial markets (Dong, 2022).

Practitioners in asset management could use our research findings in the risk management and
investment management area. For example, portfolio managers in commercial banks, investment
companies, or central banking should pay attention to regional and term structure issues, risk
management decisions, and diversification. In addition, the results of stressful situations suggest that
financial players should pay significant attention to the investment horizon by investing in short-term
debt securities.

The limitations of this research are that we focus only on specific markets and specific tenors of
government bonds. The other limitation is that the COVID-19 pandemic environment must be valued if
the research is repeated in the future. For further research, we would like to recommend analyzing
different maturities of government bonds and focusing on only green and sustainable bonds. Also, it
would be interesting to add more countries to the analysis and compare the government bond sector
with the corporate bond sector in environmental investments