Bond is a type of loan. Where subscribers are lender and issuing company is borrower. Bonds have a prefixed interest rate and interest payment schedule and maturity period. Bonds are debt and totally different from stocks. Bonds are the financial instruments have lower risk compared to equity and many other financial instruments. So the returns from bonds are also lower than that of many financial instruments such equity, mutual funds etc.
So question arise why you should invest in bonds when they offer lower returns than many other investment avenues? There are some reasons behind the investment bonds even these offer lower returns. The reasons are:
Risk: Risk is very important for any investment decision. The risks associated with bond investments are very less or you can say it is negligible because the return is prefixed and no change is expected in any case
Volatility: There is virtually no volatility in the returns from the bond investments. So there is no risk of one loosing capital as the case in equity investment or even mutual funds.
Fixed Income: Bonds provides fixed income in form of interests. This is pre decided and you can calculate it with 100% accuracy.
There are some characteristics of bonds that are very important when you are taking any kind of investment decision regarding bonds. These are:
Face Value: Face value is the amount of money the holder will receive on maturity.
Coupon: Coupon is the amount of money which the holder will receive as interest.
Maturity: There is specified date on which the holder will receive back his/her money.
Issuer: The issuer is very crucial for any bond investment. One has to check the issuer credit worthiness by checking Credit rating.
The return from bond is fixed and no extra income is expected besides the coupon.
There is a factor which affects the return from bond investments. This is interest rate. If the interest rate rises, the price of bonds falls in the market.
So who should invest in bonds when it offers low returns? There is no such rule as to who should invest in bonds but it is an investment option for those who don’t want to take any risks. This is the best investment option for the risk adverse investors. Although, it is advised that retired people who have limited resources should invest their money into bonds as they need capital protection from inflationary deteriorate.