What is a bond? What are the different types and how is this financial product different from a stock? How can I invest in a bond?
Nathalie Masset, Head of Fixed Income at Euronext, explains all you need to know about bonds and what are the benefits of investing in them.
What is a bond?
A bond is a financial product representing a fraction of a loan.
Bonds are issued by:
- a company,
- a bank,
- a state,
- a community,
- or a city.
This fractional loan is freely tradable on the market by both retail and professional investors.
A bond is a debt issued by an organisation and purchased on the financial market by an investor.
Coupon and interest rates
Just like credit given by a bank, a bond pays the investor a monthly, quarterly, or annual return. This brings up the topic of coupons which reflect the bond’s interest rates. An interest rate can be fixed, meaning established in advance, or predictable because its is determined by a formula that is established in advance.
What is the difference between a stock and a bond?
The main differences are in the rights they grant.
- A stock is an equity instrument that gives the investor rights and duties as an owner.
- A bond is a debt instrument that contractually binds the lender (the investor) and the borrower (the company) for a defined period.
Bond holder vs shareholder
Essentially, a bondholder becomes the bank that finances a company’s projects against a return A shareholder becomes a partial owner of a company: the results of their investment are subject to the financial results and performance of the company.
As a bondholder, you receive regular interest payments and reimbursement of your investment at maturity, no matter what happens.
Are there different types of bonds?
There are two main types of bond, depending on the issuer:
governments and similar bodies,
and private companies.
Govies and Corporates
In the market, bonds issued by governments such as France, Germany and the United States are commonly called “govies”. Bonds from private companies are known as “corporates”.
Corporate bonds are issued by entities that are neither governmental nor from the public sector. They are generally industrial companies, national index companies, for instance the CAC 40, or financial institutions.
Investment grade and speculative grade
We also need to draw a distinction between:
- corporate bonds whose financial health is highly rated by rating agencies, which are called “investment grade” bonds;
- and bonds that are less highly rated by agencies, which are called “speculative grade” bonds.
Why invest in bonds?
An investor should always carefully assess the reasons to invest in one asset class over another. It is important to understand risks and possible returns.
The advantages of Bonds:
- Stabilise your income
Stable prices plus a contractually defined yield (i.e. the amount of return an investor will receive) mean that future earnings can be calculated with varying degrees of accuracy. This is why bonds are also called “fixed income” products. Bonds are some of the only financial instruments that offer such predictability.
- Diversify your portfolio
From a risk diversification perspective, adding bonds to your portfolio tilts your risk away from more common risk factors that tend to impact stocks.
For a second opinion, investors can use rating agencies which are continuously screening and monitoring companies, and tend to be rather conservative in their assessments.
Finance the real economy
The primary reason for investing in bonds remains economic. Bonds are the only financial instruments that directly impact the financing capacity of companies.
A company, state, region, or municipality that issues bonds does so to finance:
- a project,
- an acquisition,
- or construction.
By investing in bonds, you are directly financing the issuer’s projects by acting as the issuer’s bank. In other words, you are financing the real economy.
How do I invest in a bond?
Retail investors cannot access the financial markets directly. They need to create an account with a broker or go through their bank. This intermediary will connect the retail investor to the stock exchange and place their investments.
Are bonds available on Euronext?
Yes, we have over 9 000 tradable instruments on the Paris, Brussels, Amsterdam, Lisbon and Milan regulated markets. These bonds come from more than 1 000 issuers and include government, credit and financial bonds.
Moreover, we have a selection of ESG fixed income instruments that are issued only to finance or refinance new and existing sustainability projects.
Learn more about bonds
Listen to the full interview. Watch the video.