As a publisher or issuer of bonds, states and companies can act, so that a distinction is made between government bonds and corporate bonds. Bonds are debt securities, meaning that the publisher takes out a loan on the capital market. So, when you buy bonds, you do not become a co-owner, just as you buy a stock, but a creditor.
The conditions such as term and repayment are specified in the bond terms. It also states whether the bonds carry fixed interest rates for the duration of the loan or whether the interest rate is adjusted on a regular basis. At the end of the term, the repayment of the invested sum takes place – usually 100%.
The components of bonds are also referred to as equipment. These include:
- Denomination: This amount, also known as “par value”, is printed on the bond and is to be differentiated from the actual value, the market value.
- Duration: The agreed duration over which the loan is granted. European bonds often have shorter maturities compared to Anglo-Saxon ones.
- Redemption : For privately placed bonds, the repayment is determined by a repayment plan, the repayment is usually at the end of the term.
- Interest: For each day you are in possession of a bond, you are entitled to the pro rata interest amount. Payments are usually made annually for longer terms. In the case of variable interest rates, the interest rate may either rise or fall in line with a fixed-rate bond in accordance with a specified pattern, or it may be redefined after an adjustment period based on a reference interest rate.
- Coupon: This is the section of a security that entitles you to redeem the profit or interest. The term is also used synonymously with the nominal rate of a bond.
- Collateral: A specific asset may be cited as collateral, otherwise a bond is unsecured.
- Creditor protection clauses: A distinction is made here between positive and negative protection clauses, which limit the scope of action of the debtor by means of bidding and bidding.
- Right of termination: If the publisher secures a right of termination, he may repurchase or terminate the bond by a certain date. He pays a fixed price, which is usually above the nominal value.
- Bond volume: The total amount of bonds issued depends, on the one hand, on the need for external financing and, on the other hand, on the market situation.
If you buy bonds, you can not determine the term itself, this is determined by its publisher. On the one hand, it is geared to its borrowing needs and, on the other, to interest rates. If it is at a low level at the time of issue, it will strive for the longest possible bond. If interest rates are generally high, the issuer is likely to set the maturity of the bonds as short as possible.
As a buyer, you should make your choice with exactly the reverse logic. You should also keep in mind that bonds with longer maturities promise on average a higher return. However, you can also sell a bond before the end of the specified period. The terms are divided into three time horizons:
- Short term: Up to four years
- Medium term: four to eight years
- Long term: More than eight years
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Government bonds vs. Corporate Bonds
The two main types of bonds are government bonds and corporate bonds. When you buy government bonds, you lend money to a country, and when it comes to corporate bonds, a company becomes your creditor. In both areas, there are safe and uncertain, low-yield and high-yield papers.
As is often the case with investing, risk and reward opportunities are closely linked: if you buy risky corporate or government bonds, such as stumbling corporate groups or highly indebted countries, your return prospects are correspondingly higher. At the same time, of course, the risk of loss increases. Conversely, a good credit rating usually means low interest rates.
Which government and corporate bonds are particularly safe in comparison, you can read from the ratings of so-called rating agencies. These grade the creditworthiness and update their assessment on a given occasion. As a third variable, the term mentioned comes into play: The longer you buy your corporate or government bonds, the higher is the interest rate. You should not necessarily opt for one of the two options in advance, but rather compare different government bonds and corporate bonds in comparison.
Federal bonds and Federal securities
German government bonds are also called Bunds. They fall under the federal securities, which, however, include even more forms of investment. For example, as federal securities:
- days bonds
- Federal bonds
- Federal savings bonds
- Treasury financing
- Federal Treasury notes
As the German economy and politics are relatively well established, the investment in German government bonds is very secure by comparison. This is also reflected in ratings by rating agencies: Federal securities regularly receive the AAA rating, which stands for the highest creditworthiness. But the low risk also means that the German government bonds promise only a low return in comparison.
Overview: What types of bonds are there?
The distinction between government bonds and corporate bonds is based on the publisher. In addition, there are other ways to differentiate the papers – an overview of the most important types:
|Type of bond||characteristics|
|Low-Interest Bonds (Low Coupon Bonds)||These categories include government and corporate bonds, which have an extremely low interest rate in comparison, as interest rates have risen after their issuance in a period of low interest rates. However, this may result in tax benefits.|
|Emerging Market Bonds||While German government bonds are particularly safe and low-yield due to the stable situation in Germany, bonds from emerging markets, so-called “emerging markets”, are the exact counterpart. They are characterized by good chances of winning, but also a big risk of loss.|
|Jumbo Pfandbriefe||Jumbo Pfandbriefe, or jumbos for short, are bearer bonds issued by real banks such as state or mortgage banks.|
|Foreign currency bonds||Foreign currency bonds are not quoted in euros and, in addition to the usual risks and opportunities, also carry those associated with fluctuating exchange rates.|
|Structured bonds||This category includes those bonds for which individual conditions apply. Just look for these when looking at bonds in comparison.|
|perpetuals||With these ever-currency bonds, there is no repayment of the capital, as a buyer you only profit from the interest.|
|Annuities bond||Here the capital repayment does not take the form of a single payment, but gradually in equal amounts.|
|Repayment Loan (Loan Loan)||Even with redemption bonds, the money is not repaid at the end of the term, rather, after a repayment-free period regularly investors are drawn, get their capital back.|
|Inflation Linked Bond||For these bonds, the nominal interest rate is adjusted to inflation over a given period of time. This is usually based on the Consumer Price Index or similar indices.|
|Bonds with a step-up coupon||They can purchase these securities to protect themselves against changes in creditworthiness, as the nominal interest rate is adjusted to the credit ratings of large rating agencies.|
|Convertible Bonds||Convertible bonds give you the opportunity to convert your bonds into a certain number of shares. You then become a co-owner of the creditor and receive a profit sharing instead of a return.|
(Zero coupon bonds)
|Zero bonds are long-term bonds with no annual interest payments. The investor will only be paid the entire face value of the bond at the end of the term. The return results from the difference between face value and the usually cheaper purchase price.|
Acquisition and trading
Since bonds in most countries do not have to be traded on the stock exchange, so they are not listed on the stock exchange, only a small percentage of purchases and sales take place in this way. Accordingly, stock exchange trading is insignificant even for the market price. So, if you want to buy or sell bonds, you can do that in over the counter (OTC) trading at a bank. Note that you do not buy a certain amount of bonds, but a face value. If you indicate your desired amount, you should pay attention to the denomination, which often corresponds to values of 100, 500 and 1,000 euros. Federal securities, on the other hand, have a denomination of € 0.01.
Fixed-rate Federal securities can be purchased directly from the Federal Securities Administration (BWpV) in Bad Homburg. If you open a debt account there, you can have your securities managed and buy more government bonds.
Advantages and risks
If you buy bonds to invest your money profitably, you will gain some benefits, but you will have to accept a few disadvantages as well. An overview:
- Especially bonds from states and companies with a high credit rating are a very safe investment and promise low-risk capital gains, with which you can still often exceed the overnight money conditions and also generate more profit than if you save with fixed deposits
- Bonds are subject to minor fluctuations in comparison, which reduces their risk.
- Fixed-income bonds score well with predictable interest rates and capital repayments, making them suitable for a long-term investment strategy.
- The development is often counter to the stock prices, so bonds are suitable for compensation and stabilization in the portfolio.
- In the field of bonds, there are many different forms, so that different claims can be served.
- In the event of insolvency, a priority repayment to shareholders applies.
- Creditor protection clauses can further minimize the risk.
- The return chances are limited, you could possibly achieve with other forms of investment with the same use more profit.
- Price losses and inflation can further reduce profits.
- Despite relative security, there is a credit risk, which means your borrower could go bankrupt.
- Bonds are tax disadvantageous compared to equities.
- Unlike equities, you have no voting rights in bonds and can not have a say in the company.
As described, the extent of the opportunities and risks depends heavily on which paper you choose. Therefore, before you buy corporate or government bonds, you should first set your personal security, yield, and maturity requirements before comparing different eligible bonds in comparison.