Financial Markets For The Rest Of Us
An Easy Guide To Money, Bonds, Futures, Stocks, Options, And Mutual Funds
Bonds are considered as safe or low risk investments relative to other types of securities, as bondholders are generally positioned at the top of the priority list with other creditors, to be paid off ahead of others (such as stockholders) should the bond issuer face bankruptcy. Therefore while the upside gain on bonds maybe limited or lower than other types of investment, the potential loss on bond investment is by the same token lower than that of others as well. Bonds are generally issued with maturity lengths of 1 to 40 years.
Bonds are usually sold to the public through trustees (e.g., banks or trust companies) appointed by the issuers. A trustee, representing the bondholders, oversees the fulfillment of the contract or agreement between the bond issuer and the bondholders. The contract or loan agreement under which the bonds are issued is known as the indenture. The indenture includes the rights of the issuer and the bondholders, principal repayment, rate of interest, collateral specifications, and default handling procedures, among other clauses.
The way the rate of return on bonds is quantified is by using their yield (also known as effective interest), which is proportional to the interest rates associated with them.We already covered the relationship between interest rate and yield, but for the sake of clarity we will engage in a short discussion of bond yields here. Bonds are usually sold in $1,000 units (some are offered in $5,000 units) with a stipulated interest rate determined by several factors such as demand, risk of default, rate of inflation, and interest rates on other bonds. Another factor in determining a bond's interest rate is its time to maturity. Bonds with longer maturity dates generally pay higher interest than those with shorter ones. (This doesn't always hold true. For example, sometimes the 10-year Treasury note's yield may end up higher than that of the 30- …
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