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What is Bond Investment?
It is a debt instrument where the borrower (Issuer) promises to pay the bond investor a regular stream of interest over a specified tenure. Upon reaching the end of the tenure (bond maturity), the issuer is meant to return your principal amount. The Yield-To-Maturity (YTM) in bond investment is the true measure of rate of return. YTM is the rate of return when a bond is bought at current market price and held until maturity.
Different Types of Bonds
There are main types of bonds as defined by their coupon types:
• Fixed Rate bond
• Floating Rate bond
• Zero-Coupon bond
Bonds are further categorised as Sovereign, State-Owned Enterprise (SOE), Financial (banks and insurance companies), Corporate, Municipal, Covered, Asset-backed and Inflation-linked bonds. A bond is commonly identified by its Name, Coupon and Maturity. E.g. Keppel Land Ltd, 3.9%, 7/11/2024.
In decreasing order, the debt hierarchy of bonds:
• Senior Secured
• Senior Unsecured
• Subordinated
• Junior Subordinated
As bonds are debts, if an issuer defaults, the creditors’ recovery claims will be paid according to the seniority ranking of their debts.
Credit Rating
• Investment Grade bonds: *AAA/Aaa down to BBB-/Baa3
• Non-Investment Grade bonds or High Yield bonds: *BB+/Ba1 down to C/D (defaulted bonds)
*Most bonds are rated by major international credit agencies like, Standard & Poor’s(S&P)/Moody’s.
Benefits
Regular Income:
Most bonds provide investors with a stream of fixed income stream until maturity.
Diversification:
An investor can diversify his/her investment portfolio into fixed income securities.
Capital Preservation:
Typically, the investor gets back the principal upon maturity of the bond (unless the company defaults).
Stability:
Bonds are usually less volatile than equities and can offer some stability in the overall portfolio holdings.
Key Risks of Bond Investment
Credit/Default Risk:
Bond prices will be affected by the perceived credit quality or probability of default by the bond issuer. Default risk can change based on broader economic changes or changes in the financial situation of the issuer.
Interest Rate Risk:
Bond prices and interest rates move in opposite directions. If interest rates rise, bond prices are likely to fall, and vice versa. Longer-term bonds are more sensitive to interest rate changes than bonds with shorter maturity dates.
Liquidity/Market Risk:
If you want to sell the bond before it matures, this will affect you because:
• A bond’s price will rise or fall with changing market conditions.
• If there are few interested buyers, the bond is not very liquid. It will be harder for you to sell the bond or you may have to sell at a loss.
Write-off/Conversion Risk:
Bank bonds (capital securities) issued under the Basel III regulations can be written off or converted to shares when certain conditions are met.
Information is taken from moneysense.gov.sg.
FAQ
Q: What bonds should I buy?
A : Bonds that matches your expected returns, investment horizon and most importantly, risk appetite. Bonds with higher payouts tend to have poorer credit quality, which reflects higher probability of default by the issuer.
Q : What happens to my bonds if risk free interest rate rises?
A : In general, when risk free interest rate goes up, the bond price will fall.
Before engaging in over-the-counter transactions with or through us, you should be aware of the risks, which may be involved in such trading, as well as some of our policies in respect of such trading. You should not enter into a transaction unless you fully understand:
• The nature and fundamentals of the transaction and the
market underlying such a transaction;
• The contractual relationship into which you are entering;
• The legal terms and conditions of the documentation for
such a transaction;
• The nature and extent of the economic risk to which you are
exposed as a result of such a transaction (and determine that
such risk is suitable for you in light of your specific experience in relation to the specific transaction and your financial objectives, circumstances and resources);
• The tenor, coupon, price, yield, settlement, interest calculation, settlement date, maturity date, restrictions, form and denomination, title and transfer, fixing date, and other terms material to the transaction;
• Any terms describing the risk factors, such as liquidity risk, credit risk, currency risk, reinvestment risk (in the event of a call back by issuer), inflation risk, and so on, including any option or condition(s) attached with the securities, concerning redemption or any other obligations for holders of the securities.
Non-principal protection
Fixed Income Investments do not have principal protection and
the principal amount of the investment is NOT guaranteed.
Warning: You may wish to seek advice from a licensed or an
exempt financial adviser before making a commitment to
purchase this product. In the event that you choose not to seek
advice from a licensed or an exempt financial adviser, you
should carefully consider whether this product is suitable for you.
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