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Do You Know What A Bond Is?

Nov 27, 2007
It's a loan where you lend money to the US government, municipality, a state, or a big company like GM or Microsoft. They then use this money to run their company, pay off debt, build a road etc. This bond has to be repaid to the bond-holder at an interest rate, and time that was agreed on, which is called maturity.

The interest rate the bond will gain is made by the stability of the company. When choosing a company that is more stable then the other, remember this rule, the higher the interest rate, the riskier the bond and less stable the company. Of course the more you risk on a company the more potential capital you can make.

What is the difference between a bond and a stock? With a stock there are no promises about your returns. When you get a bond from a company it guarantees to pay back your principle plus interest.

When you purchase a bond the price you buy it at is known as its face value. Once you purchase a bond the bond holder has to hold it to the maturity date, you know exactly how much you are going to get back with a few exceptions. For example, if you purchase a bond a $3,000 face value, at a 10% interest rate, and a 10 year maturity, you would then collect interest totaling $300 in each of those ten years.

When your maturity was up you would then get back your $3000 investment and the company hold no further debt to you. That is why bonds are often referred to as fixed income investments.
Bonds have another advantage, in some cases they are tax exempt.

According to Joshua Kennon, from Your Guide to Investing for Beginners, he says When a government or Municipality issues various types of bonds to raise money to build bridges, roads, etc. the interest that is earned is tax exempted. This can be especially advantageous with those whom are retired or want to minimize their total tax liability.

I will now explain some corporate bonds. One factor of corporate bonds is called, a call provision. This allows the company to pay back the face value to the bond holders before maturity and pays no further interest.

Another aspect of a corporate bond is called convertibles. They have the ability to convert into shares of stock. The most of corporate bonds are called fixed rate bonds. This is where the interest rate paid till maturity and will never change.

Other corporate bonds use floating rates which means the interest rate paid changes depending on money markets, treasury bills, etc. These types of rates typically yields lower than those of a fixed rate at the same maturity. Some corporate bonds are called zero coupons.

They make no regular interest payments at all. A zero coupon bond sales at a discount to face value and then is redeemed at the end of maturity for full face value. But regardless of the interest payments and the way that they are structured you invest into the company on one factor only that the bonds are a good investment and you must have faith that the company will repay you.
About the Author
Court is an author and expert on private student loans and unsecured personal loans.
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