Bonds are loans made to large organisations and these include corporations, cities, and national governments. Bonds are made by these organisations to raise money. Buying bonds mean giving the issuer a loan. The issuer agrees to pay back the face value on a specific date and pay periodically the interest payment along the way.
The difference between bonds and stocks are, bonds issued by companies do not give any ownership rights, so the bond holder won’t get any benefits from the company’s growth. Having bonds also will not impact the holders much whenever the company is not doing well. Bonds have two benefits, firstly it provides a stream of income and offset some volatility from owning stocks (if you have any).
Bonds have specific terms. These terms will help to determine on deciding of buying bonds and hold it to maturity or buying and selling on the secondary market. Face value is the amount of bond money will worth as its maturity or the amount the bond is worth when it’s issued. It is also the reference amount for the bond issuer uses for calculating the interest. Coupon refers to the interest rate paid by the bond and normally it won’t change after the bond is issued. Coupon’s rate interest usually expressed as the percentage. The coupon also has dates, which bond issuer make the interest payment. Issued price refers to the price bond issuer originally sells the bonds, whereas price is the amount of bond would currently cost on the secondary market. Yield is a measure of interest that takes into account the bond’s fluctuating changes in value. Many different ways to measure yield. The simplest one is the coupon of the bond divided by the current price.
Choosing bonds must be taken considerably. The first factor that needs to examine is maturity and duration. The maturity of bond simply means the length of time until receiving the bond’s value back. Bond with longer maturities will have more effect on the overall interest rates, similar to mortgage. Bonds with longer maturities hold a greater level of risk due to the changes in interest rate. Also, the longer the maturities, it usually yields higher thus it attracts potential buyers. Bond duration measures in years. The duration is the outcome of a complex calculation which involves bond’s present value, yield, coupon and much more.
Second consideration is quality. In term of bonds, there are organisations that rate the quality of the bonds by using a credit rating. The 2 best-known agencies that rate bonds are Standard & Poor’s and Moody’s Investors Service. Their rating systems are based on the issuer’s current financial and credit history. By this, the bond holder will know likely that they will get expected payments. If the rating is high, the holder can be relatively certain receiving the promised payment, whereas of the rating low the bond may have a high yield but it will have a risk more.
So, what is the choice, holding or trading the bonds? Holding a bond means simply collect the interest payment while waiting for the bond to reach its maturity or until the due date of the bond issuer agreed to pay back the bond’s face value. Bonds can also play in the secondary market through buying and selling. After the bonds are initially issued, the worth will fluctuate, just like the nature of the stock. If you hold it until its maturity, it won’t change interest payment and face value. Once it enters the secondary market, through buy and selling, the price is no longer face value of the bond.