Bonds are NOT Stocks!

     I recently asked my friend what he thought about bonds. He responded by saying, "I don't know what they are. Do you mean, like, a stock?" This prompted today's post- the true meaning of a bond. A bond is used when an investor loans money to an institution. The institution can then use that invested money for a certain period of time. The bond also states the interest (also known as a coupon) that needs to be paid on the returned money. Here is a more simple explanation:

If I want to purchase an iPad, but I do not have enough money, I can sell my "debt" to my friends. Let's say the bonds are worth $10 with a certain coupon attached to them. I will garner enough money from my friends to buy the iPad, but I will have to pay back the revenue generated from the interest rate. This is how my friends would make money off of the bonds.

There are many different types of bonds. US Treasuries are considered the most secure and stable because of the full faith in the credit of the United States government.
Treasury bills have extremely short maturities of 13 weeks, 26 weeks, or one year. These are bought at a discount to face value ($10,000) and the investor receives the full $10,000 maturity.
Treasury notes mature in 2 to 10 years. Depending upon the maturity, the investment is either $1,000 or $5,000.
Treasury bonds mature in 10 years and are distributed in denominations of $1000.
Zero-coupon bonds are sold at a very high discount and mature anywhere within 6 months to 30 years. Profits from interest rates are not received until the bond matures, but the investor still has to pay taxes on the interest rate profits that would be received normally.
Corporate bonds are much more risky than Treasury-backed securities because they depend on the profitability of the company, which is volatile and likely to change. Higher quality corporations are known as "investment-grade" bonds; they are less risky investments. Corporations with low credit are known as "high-yield" or "junk" bonds- these are very risks, but also very profitable.
Municipal bonds rarely interfere with taxes. While holding municipal bonds, the investor does not have to pay taxes on the money from interest rates to the federal government. Usually, if the muni is bought from a state or local government, taxes do not have to be paid to these governments either.

     Somebody can make money from investing in bonds by examining a bond's yield. The current, or running, yield can be determined by dividing the annual interest payment by the current cost of the bond in a market. The yield to maturity is a more accurate measure of profits from bonds. It takes into account not only the cost of the bond in the current market, but also the remaining coupons until maturity.


These are the basics on bonds. No, they are not stocks!