Features of Bonds

The key features of bonds are as follows.

• Issuer: Bond issuers borrow money from investors against bonds. Commonly found bond issuers are the government, government institutions, municipalities, and corporations.
• Face Value: The face or par value of the bond is the price of a bond repayable at maturity. This price may differ from the bond price prevailing in the secondary market.
• Coupon rate: The issuer of the bonds compensates the bondholders by paying them interest. The rate of interest or coupon payment varies depending upon the economic circumstances, the creditworthiness of the issuer, type of bond, maturity, etc.
• Maturity: Except for perpetuity bonds, all the bondholders get repaid at a specific date when the bonds get matured. The bonds are categorized as short-term or long-term bonds based on their maturity date.
• Credit rating: Each bond holds the rating, provided by credit rating agencies. A higher rating suggests a lower amount of risk and lower yields. If the rating is lower, the risk involved in the bond is higher along with higher returns.
• Yield: Yield means the return investor gets from the bond for a specific time. If the bond is held till maturity, the return is termed as yield to maturity. The yield can be calculated considering the face value, annual interest, maturity, and the market price of the bond.

Advantages of Bonds

Investment in bonds is advantageous to customers in extensive ways. Due to the dependability of interest and principal returns, bonds have proved to be a stable investment option for customers averse to excessive risk in the market.

The advantages thus include-

• Stability - Bonds are long-term investment tools that accrue assured returns in comparison to other investment options. They provide a low-risk avenue to investors apprehensive of the volatility of returns from equity. Even though dividend incomes from equities are traditionally higher than coupon returns, bonds are comparatively inelastic as compared to cyclical market fluctuations.

• Indentures - Bonds grant a legal guarantee that binds borrowers to return the principal amount to the creditors in due time. They serve as financial contracts which contain details such as the par value, coupon rates, tenure, and credit ratings.

  Companies that attract massive investments in their bonds are highly unlikely to default on interest payments due to their reputation in the securities market. Besides, bondholders precede shareholders in receiving debt repayment in the event of an entity’s bankruptcy.

• Portfolio Diversification – Investors massively rely on investment in fixed-income debt instruments such as bonds to diversify their investment portfolio as they offer superior risk-adjusted returns on investment. Consequently, portfolio diversification reduces the possibility of short-term losses due to increased allocation of investment funds to fixed-income resources instead of solely depending on equities.

Types of Bonds

The various types of bonds include:

• Fixed-rate bonds : Fixed-rate bonds pay consistent interest amounts until maturity. The bondholders earn predictable and guaranteed returns regardless of the prevailing market conditions. For example, An investor purchased a ten-year fixed-rate government bond of Rs. 1000, issued on 20th April 2023 which offers a coupon rate of 7.5%. The investor will get a fixed interest of Rs. 75, annually every April, till 20th April 2033.
• Floating-rate bonds : Floating-rate bonds do not pay fixed returns each period. Instead, the interest rates vary, depending on the set benchmark, during the tenure.  For example, an investor purchased an 8-year floating rate bond issued in 2015. The bond pays interest of 40 points higher than the prevailing National Savings Certificate interest rate. This means the NSC interest rate is the benchmark and any fluctuation in it directly affects the coupon payment of this bond.
• Zero-coupon bonds : As the name implies, these bonds do not pay periodic coupons during their tenure. Though, these bonds are issued at a discount and repayable at the par value. The difference is the yield for investors.   For example, an investor buys a 20-year zero-coupon bond, with a face value of Rs. 1000, at Rs. 700. At the end of 20 years, the issuer will pay Rs. 1000 to the bondholder.
• Perpetual bonds : Perpetual bonds are those debt securities which do not have a maturity. In this type of bond, the issuer does not repay the principal amount to the bondholders. Though, they keep paying steady coupon payments to the bondholders till perpetuity.
• Inflation-linked bonds : These types of bonds aim at minimizing the impact of inflation on the face value and coupon payments. The principal is adjusted according to the inflation and coupon payments are made based on the adjusted principal. For example, an investor purchases an Inflation-linked bond with a face value of Rs. 100. After a year, the inflation-adjusted principal amounts to Rs. 107. Therefore, the coupon will be paid considering Rs. 107 for that period.
• Convertible Bonds :The investors holding convertible bonds get the right to convert the bond to a predefined number of equity shares in the issuing company at a particular time from the tenure. Though, the investor can also opt to receive the principal repayment at the maturity, if they don’t want to exchange it with shares.
• Callable Bonds :Callable bonds are high coupon paying securities that give the issuer the right to call back the bonds at a pre-agreed price and date.
• Puttable Bonds : Puttable bonds give the bondholder the right to return the bond and ask for repayment of principal at a pre-agreed date before maturity. Since the benefit offered is for investors, these bonds pay lower returns.

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