It’s rightly said one of the basic principles of investing is that risk and opportunity go hand in hand. Investments that carry high potential of profit carries the corresponding level of risk too. Heard about bonds? Confused? Want to know more!? Yeahhh!! I can understand your curiosity over this. No worries I will try to answer all of your questions related to bonds. Make sure to subscribe to my newsletter so that you get notified whenever I publish a new post.
So let’s start from the very beginning.
What are bonds?
Bond is basically a fixed income instrument which an investor grants to the borrower. Borrower in this case may be a company or government. Otherwise bonds are used by companies, municipalities, states and sovereign governments to finance projects. Payment to bond investor is made periodically on the interest rate at which it was sold. There are a variety of options available to you if you want to invest in bonds. Some of them are fixed rate bond, perpetual bond, bearer bond, war bond etc. Don’t worry you need not rush, be patient we’ll discuss everything here in detail.
You need to know!
Bond Market is much more wider than stock market but unfortunately has not gained much vital importance or popularity in the Financial Market. According to some sources trading in global bond market is much more than stock market volume. An average figure of about $650 billion in bonds is traded on daily basis.
In general Stocks are much more riskier than bonds. Reason behind that is you can expect no guarantee returns with stocks which is merely opposite in case of bond. You will receive fixed payment of returns from the company in case of bond. Keep in mind, if in any case company goes bankrupt you will stop receiving your interest payments. Also the risk lies with the principal amount too. That’s the only risk with bond.
Merely Bond is just a kind of loan from you to company or government in return for fixed amount of interest.
Another important thing you need to know is that bonds do have yield curves. Let’s go into more detail. Yield Curve is basically a line that shows interest rate changes and economical activity. Yield here is interest on bonds. You can expect 3 kinds of shapes in this representation. These are normal (upward sloping curve), downward sloping curve which is inverted and the last one is flat .
Kinds of Bonds
As we discusses earlier bonds are of different kinds. Let me give you a brief tour.
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- Bonds in which the interest rates remain same despite of price fluctuations are known as fixed rate bond.
- Those in which interest rate changes as per market references is known as Fluctuating Bond.
- Bonds with no maturity dates is called as perpetual bond. Holders of perpetual bond enjoy interest throughout.
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- Subordinate Bonds are those which are given less priority than others. Like in the case of liquidation other bonds will be paid first rather than subordinate.
- Zero coupon bond also known as accrual bond is issued at discount to par value and it is purchased at a discounted price and is redeemed at full par value. Also please note that it does carry interests.
- Corporate Bond is issued by companies, just like companies issue stocks in the same manner they issue bonds . Since companies have a high chance of defaulting than government therefore it is important to analyze company credit quality.
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- Municipal Bond is a bond which is issued by cities, states to finance projects and expenditures like construction of highways, bridges etc.
- Another interesting one is sovereign gold bond. This is slightly different from others. The only difference is that it is issued against the grams of gold. Gold prices are usually less fluctuating which acts as a secure investment for individuals. Gold bonds are for fixed tenure. One of the major advantage of gold bond is that it appreciates that prices of gold tend to increase. So there are high chances of price increase at maturity.
- Foreign bond is another kind. This is issued in Indian market by foreign companies against currency. There main aim is to raise capital for their business.
Stocks vs Bonds
A major difference between Stocks and Bond is the kind and amount of profit they generate. Bond gives you a fixed amount of interest while return on stocks vary.
Also stocks need to be sold off in stock market whenever it appreciates in value.
Buying stock means buying a small tiny share of company. On the other hand investing in bond means a loan from you to company or government.
As I highlighted earlier different kinds of bond are: Corporate bond, Municipal bond, Perpetual bond, fixed bond etc. There are a variety of stocks too. These are Equity shares, Preference shares, common stock, Corporate shares.
Stocks are much more riskier than bonds. This is because you get a fixed amount of interest in case of bonds. This makes you secure as an individual. Stocks on the other hand are so unpredictable about the change in price. Imagine how one could lose all money overnight invested on short term stocks. That’s what the risk is!!
Some of the prominent stock exchanges in U.S are, American stock exchange, New York stock exchange, Nasdaq.
According to some sources there is an inverse relation between stocks and bond price. Whenever price of stock increases, the price of bond decreases and vice-versa.
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Checkout our previous posts here:
https://thecoffeefolks.in/index.php/2020/10/16/15-productive-things-to-do-in-quarantine/
https://thecoffeefolks.in/index.php/2020/09/07/sunday-brunch-outfit-ideas-ultimate-guide/