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Bonds, and How They Work

What Is a Bond?

A bond is a fixed-income instrument that represents a loan made by an investor to a borrower (typically corporate or governmental). A bond could be thought of as an I.O.U. between the lender and borrower that includes the details of the loan and its payments. Bonds are used by companies, municipalities, states, and sovereign governments to finance projects and operations. Owners of bonds are debtholders, or creditors, of the issuer.

What Types of Bonds Are There?

       Treasury Bonds

Treasury bonds (T-bonds) are government debt securities issued by the U.S. Federal government that have maturities greater than 20 years. T-bonds earn periodic interest until maturity, at which point the owner is also paid a par amount equal to the principal.

Government Bonds

A government bond is a debt security issued by a government to support government spending and obligations. Government bonds can pay periodic interest payments called coupon paymentsGovernment bonds issued by national governments are often considered low-risk investments since the issuing government backs them.

       Foreign Bonds

A foreign bond is a bond issued in a domestic market by a foreign entity in the domestic market's currency as a means of raising capital. For foreign firms doing a large amount of business in the domestic market, issuing foreign bonds, such as bulldog bonds, Matilda bonds, and samurai bonds, is a common practice.

Municipal Bonds

The term “municipal bond” refers to a type of debt security issued by local, county, and state governments. They are commonly offered to pay for capital expenditures, including the construction of highways, bridges, or schools.

Corporate Bonds

A corporate bond is a type of debt security that is issued by a firm and sold to investors. The company gets the capital it needs and in return the investor is paid a pre-established number of interest payments at either a fixed or variable interest rate. When the bond expires, or "reaches maturity," the payments cease and the original investment is returned.

Mortgage-Backed Bonds

Mortgage-backed securities (MBS) are investment products similar to bonds. Each MBS consists of a bundle of home loans and other real estate debt bought from the banks that issued them. Investors in mortgage-backed securities receive periodic payments similar to bond coupon payments.

Zero Coupon (Interest) Bond

A zero-coupon bond, also known as an accrual bond, is a debt security that does not pay interest but instead trades at a deep discount, rendering a profit at maturity, when the bond is redeemed for its full face value.

Convertible Bond

A convertible bond is a fixed-income corporate debt security that yields interest payments, but can be converted into a predetermined number of common stock or equity shares. The conversion from the bond to stock can be done at certain times during the bond's life and is usually at the discretion of the bondholder.

More bond types will be added to this list as they become relevant.

If bonds sound interesting to you, or you have any more questions, give me a call at 203-956-0289. You can also send me an e-mail Hope to hear from you soon!

Source:  Investopedia -

Disclosure:  The return and principal value of bonds fluctuate with changes in market conditions. If bonds are not held to maturity, they may be worth more or less than their original value.

Government Bonds / Securities

The (CMO, government bond fund, etc.) is backed by the full faith and credit of the US Government as to the timely payment of principal and interest. The principal value will fluctuate with changes in market conditions. If they are not held to maturity, they may be worth more or less than their original value.

OR when government guarantees are mentioned, what is and what is not guaranteed must be clear:

The (CMO, government bond fund, etc.) is backed by agencies of the US Government. The 'guarantee' applies to the timely payment of the principal and interest of the underlying portfolio of securities only, and not to the investment (CMO, government bond fund, etc.) itself. The principal, yield, and/or market value of the (CMO, government bond fund, etc.) will fluctuate with changes in market conditions and, when sold or redeemed, you may receive more or less than your original investment.

Mortgage-Backed Bonds (FNMA, FNMA, etc.)

The principal value will fluctuate and the income from such investments consists of both principal and interest. In some cases, you may receive all of your principal back if the loan(s) is (are) prepaid sooner than anticipated.

Tax-Free Bonds

Income may be subject to local, state and /or the alternative minimum tax.

Zero Coupon Bonds

The value of the bond is subject to market fluctuation and the risk of the issuer not being able to pay back the principal at maturity, or interest due; because these bonds do not pay interest until maturity, the prices tend to be more volatile than those that pay interest regularly. The interest income from the bond is subject to taxes annually as ordinary income, even though no payments will be received by the investor.

I Bonds

The interest on I bonds is a combination of a fixed rate and an inflation rate. The fixed rate and inflation rate will vary, and past performance does not guarantee future results. Series I bonds are meant for long-term investors, and if you don't hold the I bond for a full year, you will not receive any interest. To purchase Series I bonds, investors must open an account at Treasury Direct.

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