What About Bonds? Details You Need to Know
Bonds matter. According to the Securities Industry and Financial Markets Association, (SIFMA) the value of the global bond markets was greater than the value of global equity markets at the end of 2021 ($126.9 trillion vs $124.4 trillion).
The Basics
When you buy a bond, you are lending money to a borrower, which may be the U.S. Treasury, a corporation or a municipality, among others.
A bond has three basic components:
- Principal (aka the Face amount or Par value): The amount you have loaned to the borrower.
- Term: The period of time from the issue date to the Maturity date, e.g. two years. At maturity your principal will be returned to you.
- Coupon (aka interest rate): The annual rate of interest paid to you over the term of the bond in annual or semi-annual installments.
The largest issuer of bonds is the U.S. Treasury. They come in three flavors: Bills, with terms from four to 52 weeks; Notes, which have maturities between two and 10 years; and Bonds with maturities of 20 and 30 years. (Collectively, “treasuries”.)
You can purchase them directly from the Treasury. (www.TreasuryDirect.gov)
Brokerage firms and banks provide access to the secondary market where millions of dollars of bonds are traded daily. The price of a bond in the secondary market will likely be higher or lower than its par value. (Selling at a “premium” or a “discount”.)
If a bond with a $1,000 par value is purchased at a discount, say $900, it will mature at par and the investor’s rate of return calculation would reflect that $100 gain. Conversely, had the bond been purchased at a premium, say, $1,100, the $100 loss at maturity would be recognized in the investor’s rate of return calculation.
