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Understanding different types of Bonds
If you want to add different types of investment to your portfolio, bonds must be a part of it. Bonds are relatively low-risk and offer a stable income as well. Fortunately, various types of bonds with unique features are available in the market, and you must choose the best fit for your investment goals.
Different types of bonds
- Fixed-Rate bonds: These offer you a steady and predictable return at a fixed interest rate till maturity.
- Floating-Rate bonds: The interest rate on these bonds changes periodically based on the market. The returns on these bonds vary.
- Zero-Coupon bonds: These bonds don’t pay you interest. They are issued at a discounted price and you get their full face value on maturity.
- Perpetual bonds: These bonds don’t have a maturity date and pay interest indefinitely. You can hold them for as long as you wish.
- Inflation-linked bonds: The interest and principal payments of these bonds are adjusted for inflation, protecting you from the impact of rising prices.
- Convertible bonds: These bonds get converted into a fixed number of shares of the issuing company.
- Callable bonds: These bonds allow the issuer to 'call' (buy back) the Bond from you before the set maturity date, typically after a certain period.
- Putable bonds: You can sell these bonds back to the issuer before their maturity. This protects you from market uncertainties and provides flexibility.
Features of bonds
- Issuer: The entity which issues the Bonds to you.
- Coupon rate: The interest rate on a Bond is called its coupon rate.
- Maturity: The date on which the principal amount will be repaid to you.
- Face value: This is the basic value or principal amount of each Bond. This is the amount that you initially invest.
- Credit rating: Each Bond has a score called 'credit rating', which reflects its default risk. Bonds with high credit ratings denote that the risk of the issuer defaulting is very low.
- Yield: Yield is the rate of return that you receive on the Bond.
Advantages of bonds
- Lower risk: bonds are generally less risky than stocks, offering more stability.
- Predictability: Fixed interest payments provide predictable returns.
- Steady income: bonds offer regular interest payments, ensuring a steady cash flow.
- Diversification: bonds help you diversify your investment portfolio.
Disadvantages of bonds
- Interest rate risk: When interest rates rise, Bond prices may fall.
- Inflation risk: Over time, the purchasing power of your interest payments can drop due to inflation.
- Credit risk: The issuer may default on interest or principal payments.
- Limited potential for capital appreciation: The prices of bonds don't grow as exponentially as investments like stocks.
- Liquidity risk: Some bonds may be hard to sell quickly without losing value.
Things to consider before investing in bonds
- Credit rating: Invest in brands with high credit ratings to reduce the risk of default.
- Investment goals: Choose bonds that align with your financial goals.
- Time horizon: Ensure the Bond's maturity fits your investment timeline.
Also Read: What is Savings Bond and how does it work?
Conclusion
Understanding the types of bonds in finance is essential for making the right investment decision. Each type — whether it's a fixed-rate, floating-rate, or convertible Bond—offers unique benefits and risks. Consider Axis Direct Trading and Demat Account to invest in bonds digitally. This 3-in-1 account plays a role of your Savings, Demat, and Trading Account at once. Invest in a wide range of investments from one account!
Disclaimer: This article is for information purpose only. The views expressed in this article are personal and do not necessarily constitute the views of Axis Bank Ltd. and its employees. Axis Bank Ltd. and/or the author shall not be responsible for any direct / indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision.
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