What are Corporate Bonds?

A corporate bond is a debt security issued by a corporation in order to raise funds from investors to finance business activities. In return for the funds, the company issuing the bonds promises to pay interest in regular instalments (coupon payments) and return the money invested on the maturity date. Interest may be fixed or variable (floating) in line with movements in a benchmark interest rate. Coupon payments are backed by the bond issuer’s cash flow or in some cases, the company’s physical assets.

Corporate bonds generally offer higher returns than cash, government bonds or bank term deposits.

A debenture is a type of corporate bond which is secured against property. A debenture is always a fixed rate investment.

Advantages

  • Risk – Corporate bonds are generally less risky than shares issued by the same company. If the company fails and can’t pay all its debts, bond holders generally rank higher than share holders.
  • Income stream – Corporate bonds offer a stream of regular coupon payments and the return of the principal on maturity.

Disadvantages

  • Selling the bond before maturity – If you sell the bond prior to maturity date, the bond may sell for lower than the face value.
  • Capital growth – Corporate bonds are not designed to increase in value during the time you have the investment.
  • Credit risk – You may not receive interest payments or get your money back if the company issuing the bonds goes out of business.
  • Prepayment (or early redemption) risk – The issuer will redeem the bonds early if interest rates fall and the market price goes up. If this happens, you will be paid the face value of the bonds (which may be less than what you paid initially if bought on the secondary market).