Bond Investing Guide 1: What are Bonds?
October 21, 2009
You have already learned the basics of stock trading and investing in our Stocks Tutorial and Guide. This time, let’s learn another financial instrument: Bonds.
What are BONDS?
In very simple terms, a bond is an obligation by the borrower (bond issuer) to pay the lender (bondholder) a specific amount of money at specified times in the future.
Like stocks, bonds are issued as a way of raising funds. If a company, for example, needs money to expand the business or to pay out loans, they can choose to use stocks or bonds to raise capital.
Stocks vs. Bonds?
A major difference between a stock and a bond is that stocks do not guarantee any future payment (dividend) while bonds have a known and specific payment in the future (coupon interest).
This means if you invest in stocks, you are not sure if you can earn by receiving dividends. Companies, even if they are profitable, are not obligated to pay dividends to their shareholders.
Bond issuers, on the other hand, are required to announce a specified coupon interest rate prior to the issue. This guarantees that bondholders will know how much they can earn in the future. If the bond issuer suddenly becomes unable to pay its interest obligations, it is said to be in default.
Bond Terms: FACE VALUE, MATURITY DATE, COUPON RATE
The face value of the bond is the amount of money the bond issuer borrowed and must be repaid at the end of the loan period. The face value is also called par value or principal.
The end of the loan period is called the maturity date. At the maturity date, the bond issuer is required to pay the total amount of the loan borrowed from bondholders.
The amount of money earned from a bond is determined by the coupon rate or interest rate of that bond. This is always announced prior to the issue. Most bonds pay semiannual (every 6 months) coupon interest, although there are some that pay quarterly or annually.
How exactly an investor earns from bond investing will be discussed in Part 2 of our series on How to Invest in Bonds.
Next: Bond Investing Guide 2: How to earn from Bonds
October 21st, 2009 at %I:%M %p
great tutorial once more! pmt is the best financial information resource ever!
Philippine Stock Exchange´s latest blog ..Investing in the Philippine Stock Exchange
October 22nd, 2009 at %I:%M %p
Bonds are generally one of the safest type of investments. But don’t expect a high yield either. The higher the risk, the higher the return but since bonds are one of the safest investments, they also provide low returns.
Millionaire Acts´s latest blog ..Buying a Business
October 22nd, 2009 at %I:%M %p
Pardon the ignorance, I just want to ask if the principal is secured meaning the investors are sure it will be returned to them at the time of maturity?
Jay Castillo´s latest blog ..Car got flooded? Why not consider looking at these bank repossessed cars for sale?
October 22nd, 2009 at %I:%M %p
@javi, long time no hear! musta naman jan?
@Millionaire Acts, correct. Bonds really are an alternative if investors don’t want huge amount of risks. But, of course, as you said, the returns are also not that high.
@Jay, of course, there is no 100% assurance that companies (or governments) will return the money owed to bond investors. But as bond issuers, they are obligated to pay. One way to look at the risk associated with bonds is to look at the credit rating of that bond. Those with high credit ratings are supposedly “safe” investments while those with lower ratings are “risky” investments. However, as what we’ve seen during the subprime mortgage mess, even those companies with high credit rating can default on their loans. Generally, however, bonds are still relatively safer compared to stocks.
October 22nd, 2009 at %I:%M %p
hi sir! hehehe. ok naman. online, di na ako bumababa sa $1 per day. salamat sa pmt tutorials at keyword hijacking. hehehe. tapos offline, natuloy po ang dealership ko ng mister donut. i am learning a lot there. hehehe. at the same time, im managing/marketing our new galenicals distribution business. hehehe. ikaw sir? kumusta na man? musta ang car?
javi´s latest blog ..Blog Makeover Service
October 24th, 2009 at %I:%M %p
I’m from the province and new to mutual bonds, where do i start if i want to invest in bonds? can i purchase it online?
October 25th, 2009 at %I:%M %p
@javi, wow very successful ka na. Pa-burger ka naman! O kaya donut! Hehe…
@john adrian, that will be part of our later articles on bond investing. But in gist, one way for you to invest in bonds is to visit a bank and ask them about the bond offerings. They should know those things. If they don’t, you need to contact directly the Trust Division of your bank, they’re normally located in the headquarters.
January 11th, 2010 at %I:%M %p
hi are you familiar with the AFPSLAI, PSSLAI of the police and military, is it safe to invest on these associations? they are giving 16-18 persent per annum interest to your investment. where did they invest the money of the depositors to earn that amount of interest? thank u.