Basic characteristics of corporate and municipal bonds – South Florida FINRA Arbitration and Litigation Attorney – As an investor, you may be able to recover losses associated with your investment in corporate bonds.
Corporate bonds make up one of the largest components of the U.S. bond market, which is considered the largest securities market in the world. Other components include U.S. treasury bonds, other U.S. government bonds, and municipal bonds. Companies use the proceeds from bond sales for a wide variety of purposes, including buying new equipment, investing in research and development, buying back their own stock, paying shareholder dividends, refinancing debt, and financing mergers and acquisitions.
Bonds can be classified according to their maturity, which is the date when the company has to pay back the principal to investors. Maturities can be short term (less than three years), medium term (four to 10 years), or long term (more than 10 years). Longer-term bonds usually offer higher interest rates, but may entail additional risks.
Bonds and the companies that issue them are also classified according to their credit quality. Credit rating agencies assign credit ratings based on their evaluation of the risk that the company may default on its bonds. Credit rating agencies periodically review their bond ratings and may revise them if conditions or expectations change. Based on their credit ratings, bonds can be either investment grade or non-investment grade. Investment-grade bonds are considered more likely than non-investment grade bonds to be paid on time. Non-investment grade bonds, which are also called high-yield or speculative bonds, generally offer higher interest rates to compensate investors for greater risk.
Bonds also differ according to the type of interest payments they offer. Many bonds pay a fixed rate of interest throughout their term. Interest payments are called coupon payments, and the interest rate is called the coupon rate. With a fixed coupon rate, the coupon payments stay the same regardless of changes in market interest rates. Other bonds offer floating rates that are reset periodically, such as every six months. These bonds adjust their interest payments to changes in market interest rates. Floating rates are based on a bond index or other bench-mark. For example, the floating rate may equal the interest rate on a certain type of treasury bond plus 1%. One type of bond makes no interest payments until the bond matures. These are called zero-coupon bonds, because they make no coupon payments. Instead, the bond makes a single payment at maturity that is higher than the initial purchase price. For example, an investor may pay $800 to purchase a five-year, zero-coupon bond with a face value of $1,000. The company pays no interest on the bond for the next five years, and then, at maturity, pays $1,000-equal to the purchase price of $800 plus interest, or original issue discount, of $200. Investors in zero-coupon bonds generally must pay taxes each year on a prorated share of the interest before the interest is actually paid at maturity.
Please keep in mind that this information is being provided for educational purposes only. It is not designed to be complete in all material respects. Thus, it should not be relied upon as legal or investment advice. If the reader has any questions concerning its contents, you should consult with a qualified professional.
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