Corporate bonds are debt securities that enterprises issue to raise capital for various needs. They are issued by private companies or public corporations. By purchasing a corporate bond, the buyer lends money to the issuing company. In return, the company promises to repay this loan, the ‘principal’, on a specific maturity date and pay the buyer a stated rate of interest until maturity. Purchasing a corporate bond does not give the buyer a stake or an ownership in the company, unlike when one purchases equity stock in a company. Key Features:
These are debt instruments that can be converted into a predetermined number of common stock or equity shares of the issuing company. The market price of convertible bonds takes the expected stock price at conversion into account. Also, due to this choice of conversion, these bonds offer investors with slightly lower interest rates.
These are unsecured bonds that cannot be converted to company equity. Therefore, they offer a higher interest rate as compared to convertible bonds.
Fixed rate bond
These bonds pay a fixed coupon to the investors at regular intervals. These can be either short term or long term, and have a fixed tenor. It is ideal for those who want to earn an assured stream of income over a specified term.
Floating rate bond
The interest rate
fluctuates based on the benchmark on which the bond is drawn. The
coupon rate is reset periodically. Interest rate risk is largely
mitigated as these bonds will pay higher return when prevailing rates
Such bonds pay no interest during the life of the bond. Investors buy the zero-coupon bond at a discount to the face value. At maturity, the investor receives the face value of the bond. The difference between the discounted price and the face value is, thus, the return on this investment.
This is a fixed income security with no maturity date. The bond is not redeemable, but it pays a regular stream of interest to the holder in perpetuity. In India, banks issue perpetual bonds to meet their long term capital requirements. In banks, these bonds come under the Additional Tier I bonds. This means that in the case of liquation, the banks pay the perpetual bondholders last but before equity investors. The issuer has the option to ‘call back’ the bond. They usually do it if they can refinance the issue at a cheaper rate, especially when interest rates are declining.
Tax-free bonds are issued by public sector companies with an aim to raise funds for specific projects. Therefore, they are safer and carry low default risk. The interest income earned from these bonds is not taxed. They carry a fixed rate of interest for a fixed term. On maturity, the principal is returned to the investor.
Why invest in corporate bonds?
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