Bond

In essence, a bond is a loan that is requested/issued by a “business or government agency” from investors. It is also a kind of security that has loan-like characteristics, a debt instrument that enables issuers to finance capital needs, a fixed-income instrument for debtholders, and "a documented commitment to repay borrowed funds at maturity date and to pay interest meanwhile."

The “lender, investor, creditor, debtholder or obligee” is the one who purchases the bond. The “borrower, issuer, debtor or obligor” is the one who sells the bond.

An investor lends money to a “firm, government, municipality, federal agency, or other organization” when he buys a bond.

Debt securities are financial contracts with explicit agreements between “a lender and a borrower.” They are often referred to as fixed income securities. One popular kind of debt security is a bond.

Bonds can give you a steady source of relatively high income that you can utilize to “pay other aspects of your investment strategy,” to produce capital gains, or to cover living needs.

The bond’s issuer guarantees that the investor will receive a certain “interest rate” throughout the duration of the bond and that the principal, or face value of the bond, will be repaid when the bond “matures,” or becomes due.

In order to raise money for “proper cash flow, debt financing, and capital investments in projects like schools, hospitals, and highways,” “businesses, governments, and municipalities” issue bonds.

Bonds have important tax benefits. Specifically, interest on the majority of bonds issued by “federal, state” governments and their agency, is exempted from both “federal and state” income taxes.

The loan terms stipulate that the issuer can use the bond funds for the designated projects in addition to operating restrictions. Bondholders have priority over stockholders in claim to the issuer’s assets in the event of bankruptcy.

You are lending money to the U.S. government when you purchase a “U.S. savings bond.” The government reimburses you for the bond’s purchase price plus interest when you redeem it. There is no secondary market for savings bonds.

Bonds are a means of advancing future earnings from an existing source; they do not constitute “new” money. The majority of entities that “purchase and trade” bonds are hedge funds, insurance firms, pension funds, sovereign wealth funds, and banks.

The market’s shifting interest rates cause fluctuations in bond prices.

The bond certificate is not given to you in a book-entry type bond. Bond ownership typically takes the shape of a “book entry,” in which the issuer does not distribute certificates but instead maintains a record of the names of investors. For example, the U.S. Treasury bonds can only be issued electronically or in book-entry form by “banks and brokers.”

The secondary market, which functions much like a stock exchange, is where individual and institutional investors can freely buy and sell bonds after they “are issued in the primary market.”

Bond Types -

The four main categories of bonds are savings bonds, municipal bonds, corporate bonds, and Treasury bonds.

Corporate bonds: Debt instruments/securities issued by “public as well as private” businesses are called corporate bonds. Bonds with fixed income that pay interest can be converted into a fixed number of shares of ordinary “stock or equity,” which are corporate convertible bonds. With a better credit rating, investment-grade corporate bonds are considered to be less risky. Junk bonds, often known as high-yield bonds, have a worse credit rating and “offer higher interest rates in exchange for taking on more risk.”

Municipal bonds: States, counties, cities, and other governmental bodies issue municipal bonds, sometimes known as “munis.” While state-issued general obligation bonds are backed by the full faith, credit, and “taxing power” of the issuer, local government-issued bonds are frequently repaid solely from property taxes. To tax a resident in order to pay bondholders is to have “taxing power.” A general obligation bond indicates that all available funds, excluding special circumstances, will be used to satisfy the bonds’ obligations.

Revenue from a particular project or source, such as “water treatment plants, stadiums, lease fees, bridges, or highway tolls,” is used to fund/pay “revenue bonds” (a type of municipal bonds). Some revenue bonds are “non-recourse,” if there’s a default or a shortfall in payments, the lender’s recourse is limited to the specified “collateral or revenue” streams, and they typically can’t go after the.

Conduit bonds, a type of Municipal bonds, are occasionally issued by governments on behalf of “private companies, or third parties, including nonprofit hospitals or colleges.” The “conduit bond” issuer, who covers the bonds’ principal and interest, usually receives repayments from these “conduit” borrowers.

Treasury bonds: The sale of “various securities” (bills, notes, bonds, etc.) is one way the federal government raises money to fund its operations. There is an unwavering assurance that you will receive your money back because all of them are supported by the “full faith and credit” of the federal government. Treasury bonds have a fixed interest rate and are paid almost every six months, and are issued for a period longer than ten years. U.S. savings bonds and Treasury bonds are not the same.

With five term options — 4, 8, 13, 17, 26, and 52 weeks — Treasury Bills are short-term securities. There are “ten, seven, five, three, and two years” maturities available for Treasury Notes. On Notes, interest is paid every six months.

Changes in the “Consumer Price Index” also cause change in the principal of “Treasury Inflation-Protected Securities,” or TIPS. The amount of interest paid fluctuates as well because it is based on the volatile principal.

Through the “Separate Trading of Registered Interest and Principal of Securities” (STRIPS) program, investors are able to keep and trade the individual principal and interest, of qualified “Notes, Bonds, and TIPS,” separately. By design, each interest payment and the principle are considered as different securities under STRIPS. Only “dealers, brokers, or financial institutions” are used to hold and sell them.

Treasury bonds, like other types of bonds, can be “bought and sold” in the secondary market.

Saving Bonds: Series “EE bonds and I bonds” are the two types of U.S. savings bonds. In line with inflation, interest rates on Series I bonds are modified every 6 months. For the whole duration till maturity, Series EE bonds bear interest at a fixed rate. Because the U.S. government backs them with its “full faith and credit,” U.S. savings bonds are among the safest investments.

Bond Risk -

You can diversify your risk by investing in bonds. For instance, even though stock values fall during a recession, bonds of “exceptional category” may increase in value. Further, bonds can also lose value/money.

The possibility that the bond issuer may run into financial difficulties, that make it “challenging or impractical” for them to pay interest and principal in full, is known as Credit risk. Many bonds have available credit ratings; nevertheless, a high rating does not necessarily indicate that the bond has “no possibility of failing”.

A danger for investors with fixed rate of return is inflation, which lowers purchasing power. Bonds that are already in the market may be “worth less” during inflation because investors want higher interest rates in order to lend money.

The market price of the bond may be greater or less than the “face value” since the market value of the bond will “increase when interest rates decrease” and decrease when interest rates rise. Holders of “low fixed-rate” bonds who attempt to sell them before they mature risk losing money due to the bond’s decreased market value, if interest rates are high.

Terms used in Bond -

The main terminology used in bond paperwork are Face value, Coupon rate, Maturity, Current yield, Yield-to-maturity, and Bond rating.

Principal/ “Face value”/ “par value”: Bondholders receive this lump sum payment from the issuer when their bond matures.

Coupon rate/ “Coupon yield”: As a percentage of the bond’s face value, this represents the percentage rate at which “annual interest payment” (up until the bond’s maturity date) is made to the investor. It may be variable or fixed. Is expressed in percentage form.

Maturity: On the maturity date, the issuer is required to repay the “principal amount.” Bonds are issued with different dates of maturity.

Current yield: The result obtained when interest payment made annually is divided by the bond’s “current market price.” This may vary from the face value in both directions. Is expressed in percentage form.

Yield to maturity (YTM): If “a bond is held until its maturity date, capital redemption on schedule, all coupon payments are made on schedule, and the coupon payments is then reinvested at the same interest rate,” the rate of total return expected on the bond is YTM. Is expressed in percentage form.

Bond rating/ “Credit rating”: The creditworthiness of “government or corporate” bonds is indicated by the bond credit rating. Investment experts utilize the ratings, which are released by credit rating organizations, to evaluate a bond issuer’s ability to pay “interest and principal” back on schedule.

That’s all friends.