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What is a bond?

What is a bond?

Demystifying investing terms
June 2016

A bond is essentially a loan made by an investor to a company or government. In return, that company or government pays interests, normally at a fixed rate, over a fixed term.

Bonds are one of the oldest forms of investment. With the first ever recorded bond dating back to 2400 BC. It was issued in Mesopotamia where the currency of choice was bags of grain. Since then the bond market has grown highly complex and sophisticated, and a fund manager needs considerable skill to sort the wheat from the chaff.

Today there are many types of bond but we have listed three of the most common below:

Government Bonds are widely regarded as the safest type of bond to invest in, since they’re backed by the governments that issue them. However, they generally offer lower interest rates than bonds issued by companies. Governments usually issue bonds in their own currency and carry varying levels of risk depending on the economic situation of the issuing government. Since foreign government bonds are often issued in their own currency, if your domestic currency differs to theirs, your investment will fluctuate as exchange rates move.

Corporate Bonds are issued by companies. Corporate bonds generally offer higher yields than government bonds because there’s a perceived higher risk of a company defaulting on the interest payments. The lower the company’s credit quality, the higher the interest you're paid. This is because you are potentially taking on more risk.

Convertible bonds are issued by companies and can be exchanged for stocks, usually of the same company.