A bond is a type of loan which an investor makes to a government, corporation, federal agency, or other entity or organization. Thus, bonds are often referred to as debt securities. The bond issuer, or the borrower, enters into a legal agreement to deliver interest to you, the bondholder. As a bond issuer, you also enter into an agreement to pay back the original sum loaned at the bond’s maturity date. This contract has certain conditions that may lead to repayment being made earlier.
Most bonds have a determined maturity date, that is, a set date wherein the bond must be paid back at its face or par value. Bonds are known as fixed-income securities as they pay you interest based on a regular interest rate, or the coupon rate, when the bond is issued. Investors may also note that analysts may interchangeably use the terms bond market and the fixed-income market.
Bond maturities can ride the spectrum from one day to 100 years, but most bond maturities have a range from one to 30 years. The years to maturity, or a bond’s term, is usually implemented when at its issue. The bond borrower completes his or her debt obligation when the bond comes to its maturity date, and the last interest payment and the original sum you loaned (the principal) are paid back to you.
Some bonds never reach their maturity. These are known as callable bonds, and allow the issuer to retire a bond before it matures. The bond’s prospectus and the indenture will detail the call provisions. Firms are required to provide more call information to investors who purchase municipal securities. Before purchasing a bond, investors should always check if the bond has a call provision, and understand how it will affect one’s investment strategy.
A bond’s coupon is the annual interest rate paid out on the issuer’s borrowed money, and is usually paid out semiannually. The coupon is always tied to a bond’s face or par value, and is quoted as a percentage of par. Accrued interest is the interest which compounds each day in between coupon payments. If you decide to sell a bond before its maturation date, or purchase a bond in the secondary market, you will usually get the bond between coupon payment dates. If you are selling, an investor is entitled to the price of the bond, plus the accrued interest that the bond has earned until the sale date.