Investing in Bonds 101: Terminology
Part 2 or 3, page 1
In this part of article it will cover a few common terminology surrounding bonds, and a process for calculating yields on a bond investment.
When looking to buy a bond, the most common terms are the par value, maturity date and coupon rate. If you know these three terms, and the current price, you have enough information to make an intelligent comparisons between various bonds and other investments.
What are bonds?
They are an interest bearing certificate for a debt that has been issued by a government, U.S. or foreign, local or state governments, or corporations. They are issued in order to raise money which the issuer promises to repay the principal at the time of maturity. Interest payments are made in the intervening years, from the date of issue to the date of maturity, at regular intervals: quarterly; bi-annually, yearly or at time of maturity.
Par Value
The amount of money which the investor will receive when the bond reaches its maturity. This is the amount the issuing entity will return to the bond holder, the principal amount of a loan. On the vast majority of bonds issued in the United States, the par value or loan principal is $1,000, but they can range from $50 to $10,000 – it is the amount you loan at fixed dollar amounts. You wouldn’t be able to buy a bond for $12.50 as they are issued in fixed amounts.
Maturity Date
Maturity date is the future date at which time the bond issuer agrees to return to the holder of the bond the par value, or principal. Generally, maturity date is categorized in three ways: short term, maturing in less than one year, intermediate or mid term, maturing from one to ten years, and long term, maturing over ten years, usually not more than thirty years.
With many bonds you are able to sell them before their maturity date, with some restrictions, and interest payments stop at that point too. Bond investors are buying and selling bonds daily depending on numerous financial financial information in order to get the best returns for their investors. (To see why this happens you will learn about Bond Yields and Coupon Rates below.)
Coupon Rate
Coupon rate describes the interest rate which the bond holder will receive and how frequent the payments they will receive. The interest rate is expressed in terms of par value. Example, a bond with a par value of $1,000 and a coupon rate of 5 means the bond holder can expect to be paid $50 annually ($1,000 x 5% = $50).
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