Common coupon bonds represent certificates of indebtedness and can help both to preserve and generate income. Not only do they partially offset the risk that is attached to equity banking, but they can also help in achieving multifaceted investment objectives. A coupon bond pays interest rates annually or biannually to the holder. The holder receives the interest from the issuer, depending on the coupon received. There are a few types of coupon bonds in which you can consider investing.

Zero Coupon Bond

The zero coupon bond, also known as an accrual bond or STRIPS, was introduced in 1982. As the name suggests, it does not pay any interest or coupon to the holder. Such bonds are bought at a discount of the face value. At the date of maturity, the investor receives the face value amount of the bond. The amount is the interest collected over the period along with the principal. The advantage of zero coupon bonds is that they are devoid of the risk of reinvestment. The disadvantage is that the investor does not benefit from positive impacts on the market's interest rate. Another disadvantage is that an investor may have to pay taxes annually on interest that she does not currently hold but will receive at the time of the bond's maturity.

Fixed Coupon Bonds

Fixed coupon bonds, also referred to as straight or plain vanilla coupon bonds, are bonds in which the rate of interest remains fixed from the time of issuance until the date of maturity. Cautious investors buy such bonds because they know what the rate of return will be in advance. Also, it makes it easy for them to decide what to do with the return once they receive it. Investing in such a coupon bond also means that if there is an increase in the market rate, the bond’s price will decline. Similarly, if there is a decline in the market rate, the price of the bond increases. Sometimes the issuer selects such a bond because it is easier to assess the amount of interest to be paid to the investor until the bond matures. These bonds are commonly used for municipalities.

Floating Coupon Bonds

Floating coupon bonds, also known as adjustable or variable coupon bonds, have inconsistent coupons, which depend upon the reference rate of the market. The issuer establishes a new interest rate after every interest period. This interest is dependent upon definite standards. The floating coupon bond may be above, below or at the same rate of the standard. It usually follows standards such as LIBOR or the US T-bill. The rates keep fluctuating according to the rate of the market. These rates, however, have limits defined. These bonds are mostly used in loan markets related to housing where the rates keep changing after a year or so. Sometimes in developed markets, the interest rates on these bonds move in a conflicting direction from the standard rates. These bonds are then referred to as inverse floating bonds.

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