Fixed Interest Investments Home | Bond
Basics | Sovereign
Bonds | Corporate
Bonds | Euro Bonds Should you decide to dive into the offshore bond
market, you will be able to make more informed choices if you have
a grasp of the following bond-related vocabulary, which is listed
in logical - rather than alphabetical - order.
Coupon
What your financial advisor refers to as a bond's
coupon is the annual interest rate you will be paid - generally
on the anniversary of the day you bought the bond.
Fixed Rate Coupon
This type of coupon tells you exactly what you will
get in interest that will be paid out at set intervals. These are
generally considered to be a good choice for those of us who don't
especially like surprises.
Floating Rate Coupon
These are bonds with adjustable interest rates.
Generally, a floating rate coupon should state, in no uncertain
terms, at which intervals your interest rate adjustments will be
made.
Zero Coupon
This is the bargain basement as these bonds are
sold at discounted prices and then paid out - to you - in a lump
sum at maturity.
Maturity
This can range from one day to one hundred years
- depending on the particular bond you are investing in.
Early Redemption
There are two types of early redemption. One is
called "call" and the other is called "put". Basically the former
has a higher interest rate and is "called" by the issuer when market
interest rates dip lower than the bond's interest rates. In the
latter case, we're dealing with a bond that has a lower interest
rate and is "put back" to the issuer by investors when interest
rates rise, thus making it more attractive to invest elsewhere.
Price
The general rule to remember when discussing bond
prices is that if interest rates go down, bond prices go up, and
if interest rates go up, bond prices go down.
Premium
This is when a bond that is traded for a price that
is higher than its face value.
Discount
This is the term used to refer to a bond that is
traded for less than its face value.
Yield
This is the most important factor to think about
when comparing bonds.
Current Yield
This is the annual return on the bond and is based
on its coupon rate and market price. You can calculate this by dividing
the cupoun by the market price. Quite simple.
Yield to Maturity
This is not so simple to calculate, but with the
help of your financial advisor, its calculation will give you the
total return you can expect should you hang in there until the bond
reaches security.
Credit Risk
this is the risk that the entity issuing the bond
will default - i.e. leave you holding the bag either in terms of
punctual interest or principle payments, or both. This is regularly
rated by internationally renowned rating agencies and also by the
research departments of larger financial companies.
Investment Grade Bonds
this is a common credit rating that indicates low
risk, highly rated bonds.
High Yield Bonds
This credit rating category generally involves more
risk, but also offer higher potential rewards as compensation.
Non-rated Bonds
Bonds in this credit rating category are generally
seen as the riskiest, although established financial institutions
do research them in search of diamonds in the rough.
Two types of risk associated with bonds:
Interest Rate Risk
The general rule of thumb is that long term bonds
get hit hardest by climbing interest rates, but they also gain most
from falling interest rates.
Event Risk
This type of risk comes from the issuer in the form
of company restructuring, mergers and other such activity. There
is always the risk that these types of changes could reduce a bond's
value.
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