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Your guide to understanding bonds

by , 06 May 2015

When you buy bonds, you loan money to a government or corporation.

In return for this loan, you receive interest payments twice a year until the end of the term of the bond.

There are certain definitions that you need to understand when it comes to buying bonds.

Let's take a closer look at what these terms are and how they work in relation to bonds…


The basics of bonds


Here are the most common definitions used when describing bonds

Maturity
This is the number of years until a bond expires. Bonds are always for a fixed term, like any other form of loan.

The vast majority of bonds have a single maturity date. These are called term bonds.

Coupon
This is the interest rate a bond pays out until it matures. If you hold the bond, you’ll receive this interest twice a year.

The coupon is also known as the nominal yield of the bond or the interest income.

Principal value or par value
This is the value of the bond at issue.

For example, if you bought a bond the day the government issued it (date of issue), this is how much it would have cost you.

But the price of bonds vary over time, so the principal value isn’t the same as the current market price.

In South Africa, bonds trade on the Johannesburg Stock Exchange’s Debt Market.


Putting these bond definitions to work


Bonds are forms of loans that you make to a bond issuer. The bond issuer is usually a government or a large corporation.

When you buy bonds, you’ll either pay:

  • A principal value if it’s a new bond issue; or
  • A market price if it’s a bond on the open market.

In return for this loan, you receive a coupon interest rate twice a year until the bond matures.

So there you have it, your guide to understanding bonds.

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Your guide to understanding bonds
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