Learning about bonds is an important step that you should take before investing in the market. Having a general understanding of bonds and how they work will make you a much more successful investor. Here are a few important things to know about bonds.
1 - Coupon Rate
When you invest in bonds, you are going to hear the term "coupon rate" used frequently. The coupon rate is simply the interest rate that is paid by the bond. When you invest in a bond, you are going to give the company a certain amount of money and then they are going to pay you interest on that money regularly. The higher the coupon rate, the better the bond looks to investors.
2 - Affected by Interest Rates
You should also understand that bonds are affected by interest rates in the market. Bonds have an inverse relationship to market interest rates. If interest rates in the market increase, bond values are going to decrease. If interest rates in the market decrease, the value of bonds will go up.
3 - Creditor
When you invest in a bond, you are going to be considered a creditor to the company that issued it. This is not the same as if you invest in stocks. If you invest in stocks, you are a part owner in the company. The good thing about this is that if the company goes out of business, there is a good chance that you will be able to get your money back. Since you are a creditor, you are at the front of the line to get some of their available assets.
4 - Bond Broker
In order to purchase bonds, you are going to have to work with a bond broker in most cases. Bond brokers are individuals that work in the bond market and they will help you facilitate the purchase of a bond. In order to open an account with a bond broker, you are going to need to make an initial investment of $5,000 in most cases. You are also going to pay the bond broker a commission every time that you buy or sell a bond.
5 - Face Value
When you invest in the bond market, you should also have an understanding of what the face value of a bond is. When you invest in a bond, you are going to provide the company with a certain amount of money. With regular bonds, you will give them the face value of the bond and then they will give you interest payments over the life of the bond. At the end of the term, you are going to be able to redeem the bond and receive the face value back.
6 - Premium and Discount
You will also hear about bonds that are bought or sold at a premium. This means that someone might be willing to pay more than the face value of a bond. This happens when interest rate fluctuations affect the actual value of the bond. When interest rates increase, bonds will sell at a discount.