OAT (fungible Treasury bonds): The Benchmark Rate for Investors

The OAT: a financial security representing a loan

When France or another country needs to finance its operations by borrowing money (paying civil servants, investments...), it will propose to investors to lend it a certain sum for a certain period. In France, this type of loan is known under the acronym "OAT", Obligations Assimilables du Trésor. The issuance of these financial securities is carried out on the bond market, i.e. on the stock exchange. It is operated by the Agence France Trésor (AFT), whose mission is to manage the debt and treasury of the state. Under the authority of the Ministry of Economy and Finance, it regularly issues bonds adapted to a specific financing need.

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OAT: everyone can invest

The placement of OATs (French Government bonds) works on the basis of an auction system. At the time of issue, they are reserved for Specialist Treasury Securities (SVTs) institutions. The state announces to them in advance the amount it wishes to borrow and the duration until repayment of this debt. The SVTs then have to position themselves if they wish to buy, stating how many bonds they wish to acquire and at what price.

The bids are then sorted in descending order: the institution that offers the highest price is served first, then comes the next one, etc. The highest price is the most advantageous for the State, because the more the investor pays expensively, the lower the interest rate will be. This is followed by a bidding process: the State sells its bonds to the most bidding SVTs. It commits to have repaid this loan at the scheduled maturity and paid all the interests.

The OATs are negotiable debt securities: once acquired, each of these bonds can be resold on the market. It is then to its new owner that the State will pay the interest and repay the capital. The SVTs can thus resell the bonds on the secondary market. These can be acquired by investment funds, companies, individuals, or even other states. In turn, they can, if they wish, resell all or part of these financial securities.

The OATs are listed on Euronext Paris and each have their own ISIN code. Thus, their price can vary a lot until their maturity, depending on supply and demand. These are particularly driven by the level of market interest rates and bonds and their maturity. The evolution of their price does not affect the amount repaid by the borrower or the interest rate of the OAT itself.

OATs are reputed to be one of the least risky investments

The operation of an OAT investment is relatively simple: the investor buys the OAT at a price that depends on the market. The State undertakes to repay him the amount corresponding to the fraction of the loan (an amount that can therefore be lower or higher than the purchase price on the secondary market), at a given maturity, while paying him the anticipated interest rate.

These treasury bonds are widely recognized on financial markets and their price is often an indicator of France's economic health. For many years, France has been considered reliable in repaying its debts. The risks of default on repayment are considered extremely low. Therefore, their rate serves as a reference for many other investments, depending on their own degree of risk.

The OAT TEC 10 rate: a benchmark for other investments

There are primarily three types of OATs issued by the French State on the financial markets:

- Fixed-rate OATs are the most common. They are characterized by an interest rate determined in advance and paid annually until maturity. Their duration can extend up to 50 years.

- Variable rate OATs (OATi): their rate is adjusted based on inflation. Therefore, they have the advantage of protecting investors against monetary erosion. However, they are often less advantageous for public finances when inflation is high.

- Stripped OATs (or capitalization): these are fixed-rate OATs whose coupon is detachable and can be negotiated separately. The term constant maturity OAT is also often encountered. It is not a type of bond, but a reference rate obtained by calculation. This notion actually corresponds to the actuarial yield of a reconstituted OAT whose maturity would occur exactly in 10 years.

Calculated every day, it is this rate, known by the acronym "TEC 10", which serves as a reference in the investment world. The 10-year OAT is indeed used as a benchmark for other bonds, especially those issued by companies. More precisely, investors compare the yield of these bonds with that of the OAT to assess the associated risk premium. The higher this premium, the riskier the investment compared to an OAT. The OAT rate is often used to calculate the cost of capital in investment valuation models. Also note that the OAT influences the real estate and stock markets in France. Its performance provides an indication of the country's economic health and can affect investor confidence, thus influencing prices on these markets.

How is the OAT rate set

The rate of OATs is set by the Agence France Trésor (AFT). More precisely, it regularly issues calls for bids, to which investors can respond, thereby determining the OAT rate. Overall, this rate depends on the market price, investor demand, and the funding objectives for the French state's debt. One might also consider the OAT rate as an expression of the state's credit risk, which is generally considered to be very low, making OATs a safe investment. As such, setting the OAT rate has a significant influence on the real estate market, the stock exchange, and all financial markets.

The role of rating agencies

The role of rating agencies can sometimes seem a bit unclear. However, it's important to know that they play a part in the functioning of OATs.

Thus, rating agencies determine the ability of the French state to honor its financial commitments, that is to say to repay its debt. Consequently, a high rating signifies that the risk of default is low. This results in a lower OAT rate. The inverse is also true.

It is then understood that a variation in the rating can have a significant impact on the price of OATs in financial markets, as well as on the overall cost of the debt for the French state.

Rating agencies also influence investors' perception of the economic health of France in the stock and real estate market. As such, as an investor it is useful to rely on the evaluation of rating agencies to determine the risk associated with Treasury bonds.

In 2012, rating agencies had downgraded France's rating, which then fell from the highest possible (the triple "A", or "AAA") to the second step on the podium (rating "AA") which is still an excellent level of confidence. The then government feared that this downgrade would result in an increase in the rate of state borrowing.

This risk did not materialize in the long term: just a few years ago, France was borrowing... at a negative rate, meaning it was repaying less than it had borrowed. But a new downgrade could change the game.

With rising interest rates and increasing debt, new threats are weighing on France's rating. One of the two main agencies, Fitch, has already lowered its rating while the other, Standard & Poor's, has kept it at the "AA" level but with negative prospects. It is particularly to maintain a good rating, and therefore a low borrowing rate to finance public deficits, that successive governments implement various public spending reduction policies.