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What is a Bond and How to invest in bonds online?

November 24, 2009

Many people like you and me have always been astonished by the bond market and have always wondered what exactly a bond is. More importantly they have always been amazed as to how to do investing in bonds online. Well, in simpler terms bonds is just a debt instrument or it can also be defined as a contract to repay the borrowed money at fixed intervals, with interest. In other words, bond is like a loan. It provides the borrower with external funds to finance long-term investments or current expenditure (in case of government bonds).

Please note that Certificates of Deposits (CD) and commercial paper are money market instruments, and not bonds.

Again, while stocks and bonds are both securities, there is a major distinction between them. A stockholder owns a part of the company whereas bondholders are lenders to the issuers. In addition, bonds have a fixed time period, in other words they have a maturity period whereas stocks may be indefinite. A consol bond however is an exception having a period of perpetuity. The whole bond investment could be a little complex for a new comer or a beginner who is starting in the stock market, thus it is advised that he must learn how to trade bonds or takes proper bond education before trading such bonds.

Issuing bonds:

Public authorities, credit institutions, companies and supranational institutions in the primary market issue bonds. Underwriting is the most common form of issuing bonds. In underwriting, one or more securities’ firms or banks (forming a syndicate) buy from an issuer an entire issue of bonds and re-sell the same to interested investors. Contrarily, Government bonds are auctioned.

How bonds trade:

Having no specific arena for trade, bonds can be traded anywhere and everywhere. Market for bonds is known as ‘over-the-counter’ market. Bonds are, generally, not traded on exchanges. However, there are exceptions to this general feature. Some US corporate bonds are listed on the US exchange. Similarly bond futures and bond options are traded on exchange.

Bond dealers:

Bonds are mostly traded with bond dealers occupying the center of attention in the vast sphere of interested investors connected to one another via telephone and computer. Bond dealers “make a market” for bonds i.e. they have people who are expected to know the price of the bond so as to quicken the process of buy and sell. The dealer’s role is to provide liquidity to bond investors permitting them to buy/sell bonds more quickly at a concession price. Dealers also buy/sell bonds amongst themselves either directly or anonymously through bond brokers. This is the main way that bond dealers make (or lose) money.

Bond investors:

Financial institutions, pension funds, mutual funds and governments are the major bond investors across the globe. The institutional market is comprised of these traders along with the dealers. The size of trades is usually $1m. Please note that there is no size limit or size restriction. Trades of value up to $500m – $1b can take place at a time.

A few good bonds in the world today are the US treasury bonds and the India’s RBI Government Bonds (specifically for NRIs – non resident Indians). However before investing into bonds, one should seek advise of a professional financial adviser.

Enjoy..

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One Comment leave one →
  1. Dr. H. J. Shah permalink
    August 6, 2010 7:32 am

    I want to purchase RBI bonds in Baroda, Gujarat. To Which bank/institution should I contact?

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