Bonds allow big groups like companies or governments to borrow money from people. These groups promise to pay back the money after some time with some extra. So, when you buy a bond, you are lending your money to these groups. They use this money to run businesses or build roads and schools. Then, after a while, they give your money back with some extra for your help.
A (bond meaning) bond is a kind of loan, but instead of you borrowing from a bank, big groups like companies or governments borrow from you. When you buy a bond, you lend money to these groups, and they promise to give your money back with some extra after a particular time.
Characteristics of Bonds
Bonds have certain features. One is the ‘face value’ or the amount of money you’ll get back when the bond matures or finishes. Another is the ‘coupon rate’, or the interest you’ll earn. The ‘maturity date’ tells you when you’ll get your money back.
Face Value
The face value is the price of a bond. It’s like a promise that the company that made the bond must give back to the person who bought it after some time.
For example, if you buy a bond for Rs. 6,500, the company must give you back Rs. 6,500 plus some extra money called interest when the time is up. The face value is not the same as the market value, which can change based on how people buy and sell bonds.
Interest or Coupon Rate
The interest or coupon rate is the extra money you earn on a bond. It can be a fixed or changing amount that you get regularly.
The amount of interest you get can depend on things like how long you’re lending your money for and how trustworthy the company is.
Tenure of Bonds
The tenure of bonds is the time you must wait until you get your money back. When that time ends, the company no longer owes you anything.
Bonds can be short-term (less than 5 years), intermediate-term (5-12 years), or long-term (more than 12 years). Longer tenures often mean that the company plans to be in business for a long time.
Credit Quality
The credit quality of a bond shows how much trust investors have in a company’s bonds. Credit rating agencies give grades to bonds based on how likely the company is to pay back its debt.
Investment-grade bonds are safer but give lower returns. Non-investment grade bonds can give higher returns but are riskier.
Tradable Bonds
You can buy and sell bonds from other investors. Sometimes, people sell their bonds when they can get more than the face value for them. They might then buy other bonds that give higher returns or have better credit ratings
Kinds of Bonds
There are different types of bonds. ‘Government bonds’ are issued by governments. They’re safer but give lower returns. ‘Corporate bonds’ come from companies. They may offer higher returns but with more risk. Other than the 2 general types, here are the other few:
| Types of Bonds | Simple Explanation |
| Fixed-Interest Bonds | Fixed-interest bonds are like loans where you earn the same extra money, called interest, over time. It doesn’t change even if things in the market change. This way, you know how much extra money you will get. |
| Floating Rate Bonds | These bonds can earn different amounts of interest over time. The extra money you earn can change because of stuff like the economy or what other people think about the company’s bonds. |
| Inflation-Linked Bonds (ILBs) | These bonds are special because they change with inflation. Inflation is when prices go up. ILBs make sure that you don’t lose money because of inflation. They adjust the interest you earn to keep up with how prices are rising. But, the interest rates are usually a bit lower than fixed-interest bonds. |
| Perpetual Bonds | Perpetual bonds never end, and the company doesn’t have to give back the original money you used to buy the bond. You keep getting the same interest forever. Sometimes people call them ‘consol bonds’ or just ‘perp’. |
Advantages of Bonds
Bonds are safe and predictable. You know exactly how much money you’ll get and when you’ll get it. They’re good for people who want a steady income without taking on much risk.
Limitations of Bonds
- Bonds are safe, but they also give lower returns compared to other investments like stocks. Also, if you want to take your money out before the bond matures, you might lose some of it.
- Bonds can be risky if inflation or the rise in prices is higher than the interest you earn from them. Bonds that earn a fixed amount of interest can lose value because of inflation.
- Bonds are usually for long term and can be hard to take your money out from. If you try to take your money out, you might have to pay fees or lose some money. This makes bonds less easy to buy or sell than shares.
- The interest you earn from bonds is usually less than what you could get from stocks. You get a regular amount of money as interest from bonds, and it’s usually a safer investment. But, the money you get is often less than what you could get from other investments
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Things to Consider Before Investing in Bonds
Think about your goals. Do you want safety or high returns? Check the bond’s rating. Higher-rated bonds are safer. Also, see how long the bond lasts. Can you wait that long to get your money back? That has to be a question you must have before investing in bonds.
Return expectations: Consider the expected returns based on nominal value, coupon rates, and bond tenure.
Stability: Bonds provide stability to investment portfolios.
Tenure: Choose bonds based on their duration, considering long-term for steady interest income and short-term for better liquidity.
Risk analysis: Assess the credit rating of the company issuing the bonds and align with risk tolerance.
Call risk: Evaluate the possibility of companies redeeming bonds before maturity, based on market trends.
Financial security and corpus growth: Bonds offer periodic interest payments and return of principal, making them suitable for long-term financial security and growth.
Suitability of Investments in Bonds
Bonds are suitable for people who want a steady income and can wait a while to get their money back. They’re not so good for people who want high returns quickly.
FAQs
When you buy a bond, you lend money to a company or government. They promise to give your money back with some extra after a certain time.
You can buy bonds through a broker, a bank, or directly from the Reserve Bank of India.
You can buy bonds when they are first issued or later from other investors.
Bonds are generally safe, but there's still some risk. Make sure to check the bond's rating.
An example of a bond is a 10-year government bond with a face value of Rs 1000 and a coupon rate of 7%.
It depends on your goals. If you want safety, go for government bonds. If you want higher returns, try corporate bonds.
Generally, bonds with more risk give higher returns. This often means corporate bonds.
You can buy a 1-year bond from a broker, a bank, or directly from the issuer. Make sure it fits with your investment goals. How bonds work?
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