Buying bonds

Three of the most well-known and commonly traded bonds are the government bond, the municipal bond and the corporate bond. They are all a type of debt security.

A government bond is issued by a national government, while a municipal bond is issued by a city, local government, school district, or similar authority. A corporate bond is, of course, issued by a corporation.

Buying government bonds

Government bonds are often hailed as very secure investment, but their credit rating will of course be impacted by the credit rating of the issuing country. At the time of writing, the credit risk for a bond issued by the government of Finland is lower than the credit risk associated with a Somali government bond, and so on.

Some government bonds are inflation-indexed, which means that the face value payment and/or the interest payments are linked to a consumer price index. Issuing inflation-indexed bonds is a way for governments to attract investors who would otherwise worry about inflation eroding the value of the bonds.

Buying municipal bonds

Municipal bonds are especially common in the United States, and this is also a nation with a flourishing municipal bond market. One of the reasons why U.S. municipal bonds are so popular among investors is that they tend to come with some very favorable tax treatment. Buying municipal bonds can also be a way of showing support for the local area, which can pay dividends in the form of goodwill.

Before buying a municipal bond, always check if the issuer is taking on a general obligation for the bond or not. It is legal for entities in the U.S. to issue municipal bonds and link them to a specific revenue stream. Municipal bonds issued to fund the creation of a local city airport can for instance be tied to revenue from that airport and not to the city as a whole.

Buying corporate bonds

When a corporation needs money, e.g. to finance a new R&D project or to build a new factory, it can seek this money in various ways. It an issue new shares and sell them, it can obtain a normal loan from a bank or it can issue corporate bonds and sell them – just to mention a few of the options available.

A few examples of things to consider before buying a corporate bond:

  • What is the current and predicted future financial situation for the issuer?
  • Is the bond secured or unsecured?
  • Is the bond a senior bond or a subordinated bond?
  • Are there any additional perks tacked on to the bond?

Perks are sometimes tacked on to corporate bonds to make them more appealing to investors. A well-known example is the convertible bond. If certain terms are met in the future, a convertible bond can be converted into shares in the corporation.

Exchange-traded vs OTC

Exchange-traded corporate bonds are highly standardized, while corporate bonds that are traded over-the-counter (OTC) can come in many different forms and with tailor made terms and conditions.

Corporate bonds intended for international trading are usually issued in USD or EUR, even when the corporation is based in a country with another official currency. Sometimes bonds are issued in a foreign currency to take advantage of low interest rates and the perceived stability of a currency; USApple Inc did for instance issue corporate bonds in Swiss-francs in early 2015.