August 01, 2023
6 mins read
Bonds are some of the most traditional financial instruments, known for their safe, predictable products. Whereas equities often mean rapid movement and volatility, bonds generally move slower and often provide consistent returns. In essence, bonds act as loans. An investor lends money to a government, municipality, or corporation and receives periodic interest payments, as well as their principal payment at maturity.
Bonds are typically considered lower risk investments because they have support from rating agency and regulatory considerations. Many investors rely on bonds since they serve as a way to diversify a portfolio, be less exposed to swing in the market, and to provide a stable source of income. This article will discuss the various types of bonds and their characteristics.
The classic. You lock in an interest rate at the start and sit back. Every coupon payment arrives like clockwork, predictable as a morning train (assuming Indian Railways on a good day). Great if you crave certainty, less great if rates shoot up elsewhere and you feel stuck.
Think of these as mood-based bonds. Their interest resets based on benchmarks like MIBOR. If interest rates climb, you get a nice bump. If rates drop, so does your income. It’s almost like riding the stock market waves but with a lifejacket on.
These don’t pay you interest along the way. Instead, you buy them at a discount and get the full face value at maturity. The wait can be long, but the payoff is neat—like ordering a thali and getting everything served at once at the end instead of dish by dish.
Investor-friendly. You have the right (not the obligation) to sell it back to the issuer before maturity. If interest rates spike and better opportunities open up, you can just… bow out.
A hybrid between debt and equity. Today it is a bond, tomorrow—if you choose—it morphs into shares of the company. The safety net of fixed income plus a shot at equity upside. It is a financial shape-shifter.
This one favours the issuer, not you. If interest rates fall, the company can redeem the bond early and refinance at cheaper rates. Good for them. Not so great for you if you were counting on those higher returns.
Perpetual means… forever. There is no maturity date. Theoretically, they just keep paying interest indefinitely. They can be attractive, but also slightly eerie. Imagine lending money and never getting the principal back—only the interest, like an eternal subscription model.
India’s inflation is no stranger to anyone. These bonds try to keep up. Both principal and interest move with inflation, so your returns don’t get eaten away by rising prices. A financial defence mechanism, almost like having your investments carry an umbrella just in case.
Issued by the government, long-term, and considered safe. They are like the dal-rice of investing—comfort food. Not flashy, but dependable.
Issued by local governments to fund public projects. They sometimes come with tax benefits, making them attractive for investors who like both returns and social impact.
Companies issue these to raise money for expansion or operational needs. Riskier than government bonds, but also potentially higher returns. Your experience depends entirely on how reliable the company is.
Junk bonds, bluntly put. Issued by entities with lower credit ratings. They offer tempting interest rates, but the risk of default is real. They are like spicy street food—you might enjoy the thrill, but you also know what you’re getting into.
Backed by pools of mortgages. Your returns come from homeowners paying their EMIs. If that feels strange—earning from someone’s monthly EMI struggles—that’s because it is. But these instruments can add diversification within the fixed-income space.
Every bond carries some common DNA: a fixed tenure (maturity date), a face value, and a coupon rate that dictates the interest payout. They can be secured (backed by collateral) or unsecured. Many are tradable on the secondary market, so you’re not completely locked in.
Credit ratings act like restaurant reviews—you check before you commit. A AAA-rated bond is your five-star dining experience: safe, predictable, possibly boring. Drop down to lower ratings and suddenly you’re in street-food territory: more flavour, more risk.
Some bonds are callable (issuer redeems early), some puttable (investor redeems early). This push and pull makes them fascinating to study but slightly tricky to hold. Still, the liquidity and diversification they offer make bonds indispensable in any thoughtful portfolio.
Enhance brand Visibility: A successful bond issue signals credibility. It tells the market, “We’re financially solid,” and suddenly your name is in newspapers for the right reasons.
Liquidity for Shareholders: Raising money via bonds doesn’t dilute equity. Existing shareholders keep their pie intact.
Establishing Market Value: The interest investors demand is like a mirror—showing the company its market-assessed worth.
Access to Capital Markets: Issuing bonds opens doors to global and domestic investors. It’s a passport to bigger financial playgrounds.
Stable income: Coupons arrive periodically, giving you cash flow without drama. Perfect for retirees or anyone who just likes predictability.
Diversification: They balance equity risk. When stock markets wobble, bonds often stay steady or move the other way.
Low risk: Bondholders are higher up the repayment chain in case of defaults. Government bonds, especially, are nearly risk-free.
Predictability: Maturity dates and coupon rates mean you can plan ahead.
Issuer flexibility: Governments and companies can tailor bond structures to their financing needs.
Lower Returns: Bonds usually offer lower returns compared to equities.
Interest Rate Risk: Rising interest rates reduce the market value of existing bonds.
Inflation Risk: Inflation erodes the real value of fixed coupon payments.
Credit Risk: Risk of issuer defaulting on interest or principal.
Liquidity Risk: Some bonds are hard to sell quickly at fair value.
Reinvestment Risk: Difficulty in reinvesting coupon payments at the same rate.
Callable Bonds: Issuers may redeem early, reducing expected earnings.
Currency Risk: Foreign bonds face exchange rate fluctuations.
Thankfully, it is much easier now than a decade ago. You can buy them directly in the primary market when issued, or trade them in the secondary market. Platforms like NSE goBID and RBI Retail Direct make government bonds accessible.
For corporate ones, demat accounts and brokers are your gateway. Mutual funds and ETFs focusing on debt are another route if you want professional management.
Bonds may not make you rich overnight, but they are the ballast in your investment ship. Each type—fixed-rate, floating, zero-coupon, convertible, perpetual—brings something different to the table. Some protect you from inflation, some give you flexibility, some dangle equity-like returns.
If stocks are the roller coaster, bonds are the slow train. Sometimes you need both in your journey. And maybe that is the real lesson—stability is not boring when it keeps your financial goals on track.
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A puttable bond is a type of bond that grants the bondholder the right to sell it back to the issuer at specified times before maturity. This feature allows investors to manage interest rate risk effectively. If rates rise, investors can "put" the bond back and reinvest at higher yields, enhancing their overall investment strategy.
While a puttable bond allows investors to sell the bond back to the issuer, a callable bond gives the issuer the right to redeem the bond before maturity. This difference significantly impacts the investment risk; puttable bonds provide more security to investors, whereas callable bonds may expose them to reinvestment risk if rates decline.
Investing in puttable bonds offers several advantages, including protection against rising interest rates and enhanced liquidity. If market conditions change unfavorably, investors can exercise their option to sell the bond back to the issuer, making puttable bonds a more flexible choice for managing investment risk.
Fixed-rate bonds offer a predetermined interest rate throughout their life, providing stable income. Conversely, floating-rate bonds have variable interest rates that fluctuate based on market conditions. Puttable bonds can also be structured as fixed or floating, giving investors the flexibility to choose based on their market outlook
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