Investing in Corporate Bonds: A Guide

Understanding Corporate Bonds: A Comprehensive Guide

When investors purchase a bond, they are essentially lending money to the issuing entity. This bond acts as an IOU, promising to repay the borrowed amount along with a specified interest rate within a predetermined time frame.

Key Takeaways

• Corporate bonds are issued by companies seeking additional capital.
• Investors can acquire corporate bonds through brokerage firms, banks, bond traders, or brokers.
• Understanding the basics of corporate bonds includes knowledge of pricing, associated risks, and interest rates.

What Is a Corporate Bond?

Corporate bonds serve as a method for companies to raise funds without issuing additional stock or securing traditional loans. These bonds can be publicly traded or private. The capital raised from bond sales can be used for various purposes such as acquisitions, R&D, or refinancing.

Similar to an IOU, a corporate bond obligates the company to repay the principal amount along with interest to the investor by a specified date.

An alternative to investing in individual corporate bonds is through managed bond funds or index-pegged funds, providing diversification and professional management.

Buying and Selling Bonds

Purchasing bonds can be done through brokerage firms, banks, and bond traders who facilitate transactions in the primary market. Bond prices are quoted as a percentage of the face value. Investors can also access over-the-counter bonds for liquidity.

Key Characteristics of Bonds

Corporate bonds offer a steady income stream but require an understanding of important factors such as ratings, risks, and interest rates.

Ratings and Risk

Bond ratings, provided by agencies like Standard & Poor’s and Moody’s, assess the issuer’s ability to repay debt. Investment-grade bonds are safer, while below-grade bonds offer higher yields but come with higher default risks.

When a company goes bankrupt, bondholders have a claim against its assets.

Bond Prices and Interest Payments

Bond prices fluctuate based on market conditions. Higher bond prices correspond to lower effective yields. Callable bonds can be redeemed by the issuer before maturity, impacting investor payouts.

Interest on bonds is typically paid semi-annually. Bonds with higher risks offer higher returns and are a source of income, though they are less reliable.

The Bottom Line

Diversifying portfolios with highly-rated bonds of various maturities can provide a steady income stream despite market changes. However, all investments carry inherent risks.

For personalized investment advice tailored to your financial circumstances, consult a qualified financial professional.

Investopedia does not offer financial services or advice and urges investors to consider the risks associated with investments, including potential loss of principal.