Other Financial Instruments
Bonds are fixed income instruments that companies, municipalities, states, and sovereign governments use to finance projects and operations. They are a form of IOU between the issuer and the buyer where the issuer promises to pay the buyer interest payments in arranged intervals and the face value of the bond once it matures. Bond details include the end date where the principal will be paid down and the interest payments. Bonds can be traded publicly, over the counter or privately between the borrower and the lender. While the initial value of the bond is the face value, the actual value is determined by many factors including the risk and credit quality of the issuer, the length of the bond, and the coupon rate compared to the interest rate. You can buy government bonds directly through government sponsored websites and invest in other types of bonds through bond funds (a special type of ETFs).
The components of the bond are:
Face value: This is how much the bond will be worth once it reaches maturity, i.e. when the bond contract is up.
Coupon rate: This is the equivalent to the interest rate.
Coupon dates: These are the dates in which the bond issuer will make interest payments. They can be monthly, quarterly, yearly, or any other interval.
Maturity date: This is the date when the bond issuer pays the buyer the face value of the bond.
Issue price: This is the price of the bond that the issuer sets originally.
Types of Bonds
There are different types of bonds which depend on their issuer. What follows is a brief overview of how they are often classified:
Varieties of Bonds
Bonds also differ on their payment and interest structure. Some bonds have specific guidelines, which we outline below:
Zero-coupon bonds: Bonds that do not make interest payments and where buyers buy the bond at issue price and receive the face value at the date of maturity
Convertible bonds: Bonds that have an option to turn them into stocks/equity at some point under certain conditions.
Callable bonds: Bonds that can be called back or paid before maturity by the issuer.
Puttable bonds: Allows bondholders to sell the bond back to the issuer before it expires.