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What is a Bond?
A bond is a form of long-term debt issued by corporations and governments. It is a way to raise money through financial markets (investors) and is very similar to a typical loan in many ways.
Characteristics of a Bond
- Loan from investors to corporations or governments.
- Pay periodic interest payments calledcoupon payments.
- Issued at the market value based on the present value of coupon payments and face value.
Types of Bonds
- Debenture: Bond that is unsecured by collateral.
- Secured Bonds: Bond that is secured by assets belonging to the issuer
- Callable Bonds: Bond that the issuer may redeem, or call back, before it reaches the stated maturity date. A callable bond allows the issuing company to pay off their debt early.
- Convertible Bonds: A bond that the holder can convert into a specified number of shares of common stock in the issuing company or cash of equal value.
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Coupon Payments
Coupon payments are the annual interest payments paid by bond issuers (borrowers) to the bond holders (lenders). Coupon payments can be paid annually or periodically depending on the terms of the bond.
The Coupon Rate
- The percentage of the face value paid each year in the form of interest payments to the lender.
- Payments stop when the bond reaches maturity or if it is redeemed early.
- Expressed on an annual basis but payments can be divided into periodic payments:
- Annual (common)
- Semi-annual (most common)
- Quarterly, monthly (rare)
Practice: Fundamentals of Bonds
Choose the correct answer
A bond has a face value of $20,000 and a coupon rate of 6% paid semi-annually. How much is the coupon payment paid each period?