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What are Bonds? All you need to know about it

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Updated: Monday, July 23, 2012, 13:56 [IST]

All you need to know about bonds

Bonds are referred to debt securities in which an investor purchases a bond from a corporation or a government. During the tenure, the issuer of the bond will pay the interest earned by the bond.

Bonds are debt instruments issued to raise money from the public. As investing in bonds are considered less risky, people tend to invest with the objective of earning some interest on their deposits or for tax saving purposes.

However, bond prices are inversely related to interest rates i.e., when interest rates go up, bond prices go down and vice-versa.

Below are few different types of bonds

Public Sector Undertaking Bonds: These are medium or long-term bonds issued by public sector companies that have a government share hold. They are in the form of promissory notes with minimum maturity of 5 to 7 years.

Corporate Bonds: It is bond issued by a corporation. The bond holder will receive interest from the corporation periodically for a fixed tenure and gets back the principal along with the interest due at the end of the maturity period.

Financial Institutions and Banks: Bonds issued by financial institutions and banks are regulated well and come with good bond ratings. Large-scale investors are the most important investors in this category.

Tax savings bonds: These bonds are ideal for individual tax payers, mainly investors, who want to generate savings in the log run as well as want to enjoy tax benefits.

Zero-Coupon Bonds: This is a type of bond that makes no coupon payments but instead is issued at a considerable discount to par value.

Convertible Bonds: As the name indicates convertible bonds are the bonds which can be converted into equity shares as per the discretion of the holder.

International Bonds: These bonds are issued overseas, in the currency of a foreign country which represents a large potential market of investors for the bonds.

Characteristics of bond

Face Value: Face value is the amount of money paid to the bond holder by the issuer when the bond matures. A newly issued bond usually sells at the face value. When a bond trades at a price above the face value, it is said to be selling at a premium and when a bond sells below face value, it is said to be selling at a discount. If a bond trades at the face value, it is said to be trading at par.

Maturity Date: The date on which the investor's principal will be repaid.

Term to maturity: This concept is relevant for bonds that are already issued. At any point of time, the term 'maturity of a bond' is the amount of time left for the bond to mature. Thus, the term maturity changes every day from the date of issue of the bond till its maturity.

Coupon amount: Coupon amount is the sum of money that the bond holder receives as interest payments at pre-defined regular intervals (typically semi-annual). When the coupon amount is expressed as a percentage of face value it is called coupon rate.Thus, 

Annual coupon amount= Face value x Coupon rate.

It may be noted that the coupon rates are fixed at the time of issuance of the bond. While coupon rates are expressed in annualized terms, coupon amounts depend on the coupon payment frequency.

Topics: bonds, psu
Story first published:  Saturday, July 21, 2012, 12:11 [IST]
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