What Exactly Are Corporate Bonds & How Do Rating Agencies Evaluate Them?
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What Exactly Are Corporate Bonds & How Do Rating Agencies Evaluate Them?

Corporate Bonds

Corporate bonds are debt securities that are sold to investors by companies. Corporate bonds are an approach for companies to get money, and people who buy them get interested.

When you buy a corporate bond, you give the company a loan. It’s not like buying company stock, which gives you a piece of the company. With a bond, you don’t own it; you have a claim on it. The company, most of the time, agrees to pay back both the loan and the interest.

The interest rate on corporate bonds is usually higher than on government bonds. Government bonds, like U.S. Treasury bonds, are backed by the government. On the other hand, corporate bonds are only backed by the company’s ability to pay through future operations or physical collateral. That has more risk, so the interest rates should be higher.

How do ratings work for corporate bonds?

Every bond has a rating, which is a grade that shows how good it is. This helps investors decide if the bond is a good investment or not. Bonds are given ratings by different rating agencies, such as Moody’s, Standard and Poor’s, Fitch Ratings, and DBRS.

Ratings are based on how strong the bond issuer’s finances are, how likely it is to grow, and how well it can pay back its debts. This ability isn’t just based on the balance sheet of the company. Rating agencies also take into account local government agencies, partnerships, parent companies, and other factors that depend on the type of business.

Ratings for bonds range from AAA to D, with AAA being given to the most financially stable companies. While a higher rating gives investors more security, a higher yield often comes from taking on more risk. So buying a bond with a rating of AAA is safer, but buying a bond with a B rating could bring in more money.

Bonds can be investment grade or not, depending on their credit ratings. People think that investment-grade bonds are more likely to get paid on time. Non-investment-grade bonds, also called high-yield or speculative bonds, usually have higher interest rates to make up for the higher risk they involve.

How do you buy bonds from a company?

You can buy corporate bonds on the over-the-counter market or through brokerage firms, banks, bond traders, or brokers.

Some corporate bonds can only be bought in blocks of $5,000 or $10,000. Corporate bonds are sold in $1,000 chunks. Bond prices are given as a percentage of the bond’s face value. For example, if a bond is selling at 90, it can be bought for 90% of its worth. In that case, an investor would have to pay $900 for a $1,000 bond.

How do you get money from bonds?

Until the bond matures, the company usually pays interest to the bond’s owner. Coupon payments are interest payments on bonds, and the rate of interest is called the coupon rate.

Some bonds have fixed interest rates that stay the same for the bond’s life. Other bonds have floating interest rates that change periodically, like twice a year, based on market conditions.

But until the bond matures, there is no interest payment on a zero-coupon bond. Instead, when the bond matures, the principal and interest are paid to the owner. For example, say you pay $700 for a five-year bond with a $1,000 face value and no coupons. When the bond matures in five years, the issuer will pay you $1,000, equal to the purchase price plus interest, or original issue discount, of $300.

Whether or not you earn interest on a bond during its life, you can get its face value back when it matures. So, if you bought a $10,000 corporate bond with a five-year term, the company must pay you $10,000 at the end of the five years. You can usually sell the bond before it matures if you don’t want to wait that long.

What happens if the company can’t pay back the money it owes on its bonds?

Corporate bonds have some risk, just like any other investment. One of the major risks for a bondholder is that the company might not pay the principal and interest.

But even if a company has money problems, it is still required by law to pay bondholders their interest and principal on time. When a company goes bankrupt, bond investors get their claims on its assets paid before shareholders.

Before buying corporate bonds, it’s important to check the creditworthiness and default risk of the company to ensure it can pay its debts on time.

Putting money into corporate bonds can be a good way to diversify a portfolio mostly made up of stocks. But before you invest in corporate bonds, you should take the time to find out if the company is a good debtor. Remember that you’re giving the company money, and no one wants to give money to people who aren’t likely to pay it back or won’t pay it back on time.

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Written by Finance Guru

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