Corporate Bonds, its Types & Components

Securities are financial instruments that represent a creditor relationship with corporation or government. Generally, they represent agreement to receive a certain amount depending on the terms contained within the agreement. It represents a promise to pay bondholders a fixed sum of money at a future maturity date, along with periodic payments of interest (called coupons).

 Fixed income securities are investment where the cash flows are according to a predetermined amount of interest, paid on a fixed schedule popularly known as Debt instrument.

 The different types of fixed income securities include government securities, corporate bonds, Treasury Bills, Commercial Paper, Strips etc.

 Corporate bonds are fixed income securities issued by corporate i.e. entities other than Government.

 Corporate Bonds can be broadly classified in following classes

 Based on Maturity Period

  • Short Term Maturity: – Security with maturity period less than one year.
  • Medium Term: – Security with maturity period between 1year and 5 year.
  • Long Term Maturity: -Such securities have maturity period more than 5 years
  • Perpetual: – Security with no maturity. Currently, in India Banks issue perpetual bond.

Based on Coupon

  • Fixed Rate Bonds:-have a coupon that remains constant throughout the life of the bond.
  • Floating Rate Bonds: – Coupon rates are reset periodically based on benchmark rate.
  • Zero-coupon Bonds no coupons are paid. The bond is issued at a discount to its face value, at which it will be redeemed. There are no intermittent payments of interest

Key components of corporate bonds

There are many components of corporate bonds. Major components are as follows –

  • Issue Price is the price at which the Corporate Bonds are issued to the investors. Issue price is mostly same as Face Value in case of coupon bearing bond. In case of non-coupon bearing bond (zero coupon bond), security is generally issued at discount.
  • Face Value (FV) is also known as the par value or principal value. Coupon (interest) is calculated on the face value of bond. Face Value is the price of the bond, which is agreed by the issuer to pay to the investor, excluding the interest amount, on the maturity date. Sometime issuer can pay premium above the face value at the time of maturity.
  • Coupon / Interest is the cash flow that are offered by a particular security at fixed intervals / predefined dates. The coupon expressed as a percentage of the face value of the security gives the coupon rate.
  • Coupon Frequency means how regularly an issuer pays the coupon to holder. Bonds pay interest monthly, quarterly, semi-annually or annually.
  • Maturity / Redemption Value is the amount paid by issuer other than coupon payment is called redemption value. If the redemption proceeds are more than the face value of the bond/debentures, the debentures are redeemed at a premium. If one gets less than the face value, then they are redeemed at a discount and if one gets the same as their face value, then they are redeemed at par.