A financial bond is a promise of debt payment, with interest. Bond issuers ‘sell’ these securities to the public so that they can the pay the amount back at a later date, that is, when the bond matures. Only consol bonds (issued by the British government) have no maturity date although they do maintain a steady flow of interest throughout the bond’s perpetuity.
You may already have heard of war bonds, securities sold by a government to raise money for conflicts and control inflation while they last. Besides these there are several other types of investment bonds such as Fixed Rate Bonds, Revenue Bonds and Bearer Bonds.
Knowing some basic bond lingo will also help you work through investing in them. The party selling bonds will be their issuer (debtor) and if you invest in any, you’ll become the holder (creditor.)
The amount you pay for a bond – its face value (or principal) will have to be returned later when the bond expires (maturity). Any interest due to you is referred to as the coupon and it will be paid annually, bi-annually or quarterly. Most bond coupons cash out twice a year.
The longer the maturity period is, the higher the interest rate.
Although a bond is basically an I-O-U sealed with promise, there have been instances where issuers had to default on their payments due to financial trouble. The Bond Rating System lets you know which bonds are riskier to buy, by providing credit ratings. US government bonds are the most secure. In fact, they are zero-risk assets and are great to have. Next in line are blue-chip firms, which are very safe with high ratings.
Yield and Price
When it comes to bonds, the two are inversely related. (Principal is price, and Yield is the interest.) The yield-price relationship is one of the greater points of confusion in the bond market. Investopedia provides the following explanation:-
“If you buy a bond with a 10% coupon at its $1,000 par value, the yield is 10% ($100/$1,000). Pretty simple stuff. But if the price goes down to $800, then the yield goes up to 12.5%. This happens because you are getting the same guaranteed $100 on an asset that is worth $800 ($100/$800). Conversely, if the bond goes up in price to $1,200, the yield shrinks to 8.33% ($100/$1,200)."
If you buy a bond to save them till their Yield to Maturity (YTM), you’ll want to know how much the bond is worth in total. Your issuer should be able to do the advanced calculation for you and let you know what the YTM is. Ideally, you should look for bonds will higher yields, not price.
Since bond values fluctuate on a daily basis, these financial securities are also traded like stock. Bond value leans heavily on the existing interest rates in the economy. When interest rates rise, bond prices (principals) fall, which raises the yield of older bonds.
Stocks and Bonds
Investing in bonds is quite boring compared to dabbling in the stock market but this is a good thing! Since bonds are so reliable and safe, all good investors try including some bonds in their portfolio. Stocks are equity and purchasing them entitles you to a share in the company’s revenue as well as a say in how it runs. Bonds on the other hand, are a debt. If you buy a bond you become a creditor guaranteed repayment, interest and nothing else. The average return is lower with bond investments but the risk is infinitely lower.
Stocks are speculation, but bonds are fixed-income securities because their face value and coupon should let you know exactly how much money you will get back.
The other advantage bonds have over stock is that if an issuing company goes bankrupt, they will be obliged to repay their bondholders before compensating the shareholders.
You may already have heard of war bonds, securities sold by a government to raise money for conflicts and control inflation while they last. Besides these there are several other types of investment bonds such as Fixed Rate Bonds, Revenue Bonds and Bearer Bonds.
Knowing some basic bond lingo will also help you work through investing in them. The party selling bonds will be their issuer (debtor) and if you invest in any, you’ll become the holder (creditor.)
The amount you pay for a bond – its face value (or principal) will have to be returned later when the bond expires (maturity). Any interest due to you is referred to as the coupon and it will be paid annually, bi-annually or quarterly. Most bond coupons cash out twice a year.
The longer the maturity period is, the higher the interest rate.
Although a bond is basically an I-O-U sealed with promise, there have been instances where issuers had to default on their payments due to financial trouble. The Bond Rating System lets you know which bonds are riskier to buy, by providing credit ratings. US government bonds are the most secure. In fact, they are zero-risk assets and are great to have. Next in line are blue-chip firms, which are very safe with high ratings.
When it comes to bonds, the two are inversely related. (Principal is price, and Yield is the interest.) The yield-price relationship is one of the greater points of confusion in the bond market. Investopedia provides the following explanation:-
“If you buy a bond with a 10% coupon at its $1,000 par value, the yield is 10% ($100/$1,000). Pretty simple stuff. But if the price goes down to $800, then the yield goes up to 12.5%. This happens because you are getting the same guaranteed $100 on an asset that is worth $800 ($100/$800). Conversely, if the bond goes up in price to $1,200, the yield shrinks to 8.33% ($100/$1,200)."
If you buy a bond to save them till their Yield to Maturity (YTM), you’ll want to know how much the bond is worth in total. Your issuer should be able to do the advanced calculation for you and let you know what the YTM is. Ideally, you should look for bonds will higher yields, not price.
Since bond values fluctuate on a daily basis, these financial securities are also traded like stock. Bond value leans heavily on the existing interest rates in the economy. When interest rates rise, bond prices (principals) fall, which raises the yield of older bonds.
Stocks and Bonds
Investing in bonds is quite boring compared to dabbling in the stock market but this is a good thing! Since bonds are so reliable and safe, all good investors try including some bonds in their portfolio. Stocks are equity and purchasing them entitles you to a share in the company’s revenue as well as a say in how it runs. Bonds on the other hand, are a debt. If you buy a bond you become a creditor guaranteed repayment, interest and nothing else. The average return is lower with bond investments but the risk is infinitely lower.
Stocks are speculation, but bonds are fixed-income securities because their face value and coupon should let you know exactly how much money you will get back.
The other advantage bonds have over stock is that if an issuing company goes bankrupt, they will be obliged to repay their bondholders before compensating the shareholders.