Corporate BondsCorporate Bonds

CharacteristicsCharacteristicsYou are loaning $ to You are loaning $ to

a corporationa corporationInterest

Rate

Maturity Date

Face Value

Characteristics Cont.Characteristics Cont.

Typically the face value is $1000Typically the face value is $1000 Can be as much as $50,000Can be as much as $50,000 Interest is paid twice a yearInterest is paid twice a year At the maturity date, you would cash the bond At the maturity date, you would cash the bond

in and receive a check for the face value.in and receive a check for the face value. Maturity dates range from 1 to 30 years.Maturity dates range from 1 to 30 years.

Short Term = 1 to 5 yearsShort Term = 1 to 5 years Intermediate Term = 5 to 15 yearsIntermediate Term = 5 to 15 years Long Term = More than 15 yearsLong Term = More than 15 years

Why Corporations Sell Why Corporations Sell Corporate BondsCorporate Bonds

To borrow moneyTo borrow money May be to start a businessMay be to start a business May be to finance business activitiesMay be to finance business activities

A corporation may sell stocks and bondsA corporation may sell stocks and bonds Bonds must be repaidBonds must be repaid

Must be paid interestMust be paid interest

Stocks do not have to be repaidStocks do not have to be repaid Are not required to pay dividendsAre not required to pay dividends

Types of Corporate BondsTypes of Corporate Bonds DebentureDebenture

A bond that is backed only by the reputation of the A bond that is backed only by the reputation of the issuing corporationissuing corporation

Mortgage BondMortgage Bond A bond that is backed by assets of the company.A bond that is backed by assets of the company.

Risk is lower, interest rate is lowerRisk is lower, interest rate is lower Subordinated DebentureSubordinated Debenture

An unsecured bond that gives bondholders claim to An unsecured bond that gives bondholders claim to interest payments and assets of the corporation only interest payments and assets of the corporation only after all other bondholders have been paid.after all other bondholders have been paid.

Convertible BondConvertible Bond A bond that investors can trade for shares of the A bond that investors can trade for shares of the

corporation’s common stock.corporation’s common stock.

Methods Corporations Methods Corporations use to Repay Bondsuse to Repay Bonds

Call FeatureCall Feature Allows a corporation to buy back bonds Allows a corporation to buy back bonds

before the maturity date.before the maturity date. May have to pay the bondholder a premiumMay have to pay the bondholder a premium

Bond IndentureBond Indenture A legal document that details all of the A legal document that details all of the

conditions pertaining to a particular bond conditions pertaining to a particular bond issue.issue.

Why Investors Buy Why Investors Buy Corporate BondsCorporate Bonds

Interest IncomeInterest Income Receive Interest Income every 6 monthsReceive Interest Income every 6 months

Registered BondRegistered Bond Only the owner of the bond can collect money on the bond.Only the owner of the bond can collect money on the bond. Registered bond couponRegistered bond coupon

Send the coupon in and the interest will be paidSend the coupon in and the interest will be paid Bearer BondBearer Bond

Not registered in the owner’s nameNot registered in the owner’s name Must present couponMust present coupon

Will not be repaid if coupon is lost or stollenWill not be repaid if coupon is lost or stollen No longer issued by corporationsNo longer issued by corporations

Zero-coupon BondZero-coupon Bond Provides no interest payments and is redeemed forr its face Provides no interest payments and is redeemed forr its face

value at maturityvalue at maturity Sold far below face valueSold far below face value

Bond RepaymentBond Repayment

Investors have two choices after they Investors have two choices after they have purchased a bondhave purchased a bond First, you can keep the bond until its maturity First, you can keep the bond until its maturity

date and then cash it in. Meanwhile, you date and then cash it in. Meanwhile, you earn interest every 6 months.earn interest every 6 months.

Or, you can sell the bond at any time to Or, you can sell the bond at any time to another investor.another investor.

Either way, the value of the bond is closely Either way, the value of the bond is closely tied to the corporation ability to repay it.tied to the corporation ability to repay it.

Market Value vs. Face Market Value vs. Face ValueValue

Bond prices shift as a result of changes in Bond prices shift as a result of changes in overall interest rates in the economy.overall interest rates in the economy. If Vanessa has a bond with a 7.5% interest and If Vanessa has a bond with a 7.5% interest and

interest rates fall below 7.5%, the market value of interest rates fall below 7.5%, the market value of her bond increases.her bond increases.

If overall interest rates rise above 7.5%, new issue If overall interest rates rise above 7.5%, new issue bonds would be more valuable.bonds would be more valuable.

When a bond is selling for less than its face When a bond is selling for less than its face value it is said to be selling at a discount.value it is said to be selling at a discount.

When a bond is selling for more than its face When a bond is selling for more than its face value it is said to be selling at a premium.value it is said to be selling at a premium.

Shawn purchased a New York Telephone bond that pays 4.5% interest based on a face value of $1,000. Comparable new corporate bond issues are paying 7%. How much is Shawn’s bond worth?

Formula = Dollar Amount of Annual Interest

$45

Interest Rate of Comparable New Bond

7%

Face Value X Annual Interest Rate

$1000 X 4.5%

= $642.86The approximate market value of Shawn’s New York

Telephone Bond is $642.86

A Typical Bond A Typical Bond TransactionTransaction

Full-service brokerage firmFull-service brokerage firm Provides information and adviceProvides information and advice

Discount brokerage firmDiscount brokerage firm You do your own research and make your own decisionsYou do your own research and make your own decisions Lower commissionLower commission

Primary MarketPrimary Market Directly from the banker that represents the companyDirectly from the banker that represents the company

Secondary MarketSecondary Market Trade with other investorsTrade with other investors Bonds issued by large corporations are traded on the New Bonds issued by large corporations are traded on the New

York Bond exchange or the American Bond ExchangeYork Bond exchange or the American Bond Exchange

Not too different from

the stock exchange