- October 12, 2019
- Posted by: SMEST
- Category: Competitive Research, Fixed Income Investments
a. Components of corporate bonds
Companies issue the debt papers, which include bonds, debentures, commercial papers and structured obligations. Each of the components carries a unique risk profile and maturity date.
b. Price of the bond
Every bond has a price and it is never static. You can buy the same bond at different prices, based on the time you choose to buy. Check how it varies from par value – it will tell you about the market movement.
c. Par Value of the bond
This is the amount the company (bond issuer) gives you when the bond matures. Basically, it is the loan principal. In our country, a corporate bond’s par value is normally Rs. 1000.
d. Coupon (interest)
When you buy a bond, the company will pay you interest regularly until you exit the corporate bond. This interest is called coupon, which is a specific percentage of the par value.
e. Current Yield
The annual returns you make from the bond are called the current yield. For example, if the coupon rate of a bond with Rs. 1000 par value is 20%, then the firm must pay you Rs. 200 as interest per year.
f. Yield to Maturity (YTM)
This is the in-house rate of returns of all the cash-flows in the bond, the present bond price, the coupon payments till maturity and the principal. Greater the YTM, higher will be your returns and vice versa.
Risk factors & returns
There’s always the possibility of a bond issuer defaulting on its obligations. This default risk is higher for lower-rated securities and goes up exponentially with increasing maturities.
On the other hand, if you invest in a slightly low-rated bond, it can be rewarding. For instance, companies tend to give slightly higher coupon rates to attract more investors.
How do corporate bonds make returns?
Unlike Fixed Deposits (FDs), bonds are tradable. Just like shares are traded in the stock market!
Similarly, in the secondary debt market, you can trade various bonds. In this market, the prices of different bonds can rise or fall, just like they do on the stock markets. For instance, if you purchase a bond and its price subsequently rises. Then, it can make additional money over and above what it would have made out of the interest income alone. However, it could also go the other way round.
Things to remember before investing in Corporate Bonds
Generally, it is ideal to invest in corporate Bonds of short and medium-term tenure. So, look at it as a semi-long term investment vehicle.
Some market knowledge is essential here. If you are not a seasoned debt investor, it will be difficult for you to understand the potential risks of the market. Hence, it is imperative to get on a call with an expert to guide you with your corporate bond investment.