Bonds

Otherwise known as debt securities, They are traded on stock exchanges around the world by interested investors. However, unlike stocks, which are equity securities, they are known as debt securities - as such, they have certain specific qualities.

In effect, what this means is that the issuer, which can be government entities, corporation or finance companies (among others), agrees to owe the holder, a debt payable on the repayment date or maturity date. Thus, unlike stocks, they are issued for a fixed period of time (usually 5, 7, 10 or 15 years).

However, as with stocks, they have what is known as a ‘face value’, which fluctuates depending on investor confidence in the ability of the issuer to repay the bond on the repayment date.

The final aspect of that is worth noting is that they normally accrue interest, much the same as a savings account does, which is payable either quarterly, half yearly, or annually.

Types of Bonds

Although they share the same basic structure, there are a large number of different ways that they can be issued by an issuer. Some of the more common types that you may see include: -

  • Fixed rate: This type offers a fixed rate of interest.

  • Floating rate or notes: which offers a variable rate of interest.

  • High yield: which are more commonly known as ‘junk bonds’ because the credit rating agencies rate them as risky investments; thus they usually offer higher rates of interest to entice investors to buy them.

  • Zero coupon/rate: which don't pay any interest at all - but where repayment of the principal is almost certainly guaranteed. Government normally issues zero coupon/rate which is linked to the inflation index.

  • Convertible: which, upon certain events can be converted into equity stocks of the issuer, rather than being repaid in money.

  • Subordinated: This means that in the event of the bankruptcy of the issuer, this has a lower repayment priority than other debts of the issuer.

They are usually issued onto the primary market by an underwriter who acts for the issuer. Once they have been issued, they can then be traded on the stock exchange as a secondary market.

However, unlike the case of stocks, they rarely trade above their face value, unless the interest rate offered is high, as the maximum return the investor is likely to get is the face value of the bond on the maturity date. Thus, in most cases, they will trade at a value below face value, with the value increasing the closer it get to the repayment date.

The popularity of trading these type of security is popular among investors as they are generally seen as being a more reliable investment than stocks. In other words, once you invest in it you know when and how much you will be repaid, and in the meantime you will be paid interest for having agreed to invest in the issue.

One exception to this can be if a credit rating agency gives the issue a ‘junk’ status, in which case investing in it may be unwise. Consequently, as with all other types of investments, if you are planning to invest, you need to make sure you research the issuer’s creditability very carefully.

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