Bonds have emerged as the preferred asset class because they ensure relatively stable and recurring returns in the long-run. Most people tend to be intimidated at first before entering into the world of Bonds. However, once they come to know more about the Bonds, then they will be willing to invest more in them.
Mentioned below are 10 things to know before investing in Bonds:
Understanding The Basics
A government entity or a corporation issues debt instruments known as Bonds to raise their capital. A creditor (investor) is known as the bond purchaser and a debtor (government or corporation) is known as the bond issuer. Basically, Bonds are loan agreements between the bonds issuer and the bonds purchaser.
Types Of Bonds
There are different types of Bonds like Public Sector Undertaking (PSU) Bonds, corporate bonds, emerging market bonds, financial institutions and banks available in India. Every Bond has their own set of benefits and drawbacks.
Discount bonds is another name for zero-coupon bonds. Bonds purchasers are supposed to pay no tax on interest because the bonds are issued at a discount price. They are only subject to capital tax gains on maturity.
Determine Bonds Quality
The quality of bonds is indicated by the ratings. Bonds which are rated closer to AAA considered to have higher reliability, whereas bonds which are rated over BBB considered to be safe. Rating D is used for default bonds.
Know About Issued Bonds
Once Bonds are issued, they are sold to the respective bonds purchaser. The bond purchaser pays a government or a corporation for the bond. Bonds will be issued with a certificate in digital form. Both the annual interest rate paid to the bond purchaser and the maturity date included in the bond certificate.
Bonds purchasers can purchase bonds through a brokerage firm which is in direct contact with the bond issuer (a government or a corporation). They can also trade Bonds in the secondary market. For that, you have to open a brokerage account where you can deposit money and use it to buy it.
Read A Prospectus
A prospectus is a legal document which offers securities provided by bonds issuers before investing in Bonds. Bonds purchasers should know everything about the fund by paying close attention to the parts which discuss the bonds in the fund mentioned in the given prospectus.
Drawbacks Of Bonds
If your bond is for 10 years, then you are obligated to keep that money invested for 10 years. You are probably to face interest-rate risk once you buy Bonds as they are the long-term investment. Compare to the stock market, Bonds are less transparent in the way they trade.
Maturity is the date on which the life of debt instruments ends. Also, it can be renewed further. The longer maturity date generates a higher interest rate. Bonds with a maturity of lesser than 5 years are known as short-term bonds; Bonds with maturities of 5-12 years are known as intermediate-term bonds. Bonds with maturities of 12 years or more are known as long-term Bonds.
You are all set to reduce the associated risk factors of investments when you decide to invest in different types of Bonds. Portfolio diversification process helps in investing in Bonds from different issuers sitting in different geographical areas, providing different maturity dates.
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