BOND

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What Is a Bond?

A bond is a fixed income instrument that represents a loan made by an investor to a borrower (typically corporate or governmental). A bond could be thought of as an I.O.U. between the lender and borrower that includes the details of the loan and its payments. Bonds are used by companies, municipalities, states, and sovereign governments to finance projects and operations.

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KEY TAKEAWAYS

  • Bonds are units of corporate debt issued by companies and securitized as tradeable assets.
  • A bond is referred to as a fixed income instrument since bonds traditionally paid a fixed interest rate (coupon) to debtholders. Variable or floating interest rates are also now quite common.
  • Bond prices are inversely correlated with interest rates: when rates go up, bond prices fall and vice-versa.
  • Bonds have maturity dates at which point the principal amount must be paid back in full or risk default.

The Issuers of Bonds

Governments (at all levels) and corporations commonly use bonds in order to borrow money. Governments need to fund roads, schools, dams or other infrastructure. The sudden expense of war may also demand the need to raise funds.