These are the example of ISSUERS. Issuers are the people who intiate the selling of bonds.
Governments (at all levels) commonly use bonds in order to borrow money. Governments need to fund roads, schools, dams, or other infrastructure. The sudden expense of war may also demand the need to raise funds.
Corporations will often borrow to grow their business, to buy property and equipment, to undertake profitable projects, for research and development, or to hire employees. The problem that large organizations run into is that they typically need far more money than the average bank can provide.
Below, we list some of the most common variations:
Zero-coupon bonds (Z-bonds)
High risk, high reward for Investors
Convertible bonds are debt instruments with an embedded option that
Example:
Imagine a company that needs to borrow $1 million to fund a new project.
Investor2 may be the best solution for the company because they would have
If investor2 converted their bonds, the other shareholders would be diluted.
Means the amount of stocks would increase
But the company would NO LONGER have to PAY
Also have an embedded option,
but it is different than what is found in a convertible bond.
A callable bond gives the issuer (the company that issued the bond)
the right to buy back the bond from investors BEFORE THE MATURITY DATE.
Issuers typically issue callable bonds to give themselves the flexibility to
-> **refinance their debt at a lower interest rate IF MARKET RATES FALL**.
For Example
Company issues callable bond with a 10-year maturity and a 5% interest rate.
If interest rates fall to 3% after five years,
The company calls back the bond and reissue it with a lower interest rate to a different/same investor.
Risk: issuer may call the bond back before the investor had planned to sell it.
Can force the investor to reinvest their money at a lower interest rate, if rates have fallen.
Pro: Issuers typically offer HIGHER INTEREST RATES on callable bonds
to compensate investors for the risk that the bonds may be called early.
Up to this point, we've talked about bonds as if every investor holds them to maturity.
It's true that if you do this you're guaranteed to get your principal back plus interest;
however, a bond does not have to be held to maturity.
At any time, a bondholder can sell their bonds in the open market, where the price can fluctuate, sometimes dramatically.
When interest rates go up, bond prices fall in order to have the effect of equalizing the interest rate on the bond with prevailing rates, and vice versa.
Here is an example:
Conversely:
