Corporate Bonds: Meaning, Types & Benefits

Corporate bonds, also called the “last safe investment” by some, are an option for those looking into fixed-income securities. After the financial crisis, the returns on many fixed-income assets dropped, making the corporate bonds interest rates more attractive.

Key Takeaways

The four major benefits of investing in corporate bonds are as follows:

• Tax Efficiency
• Higher Interest Rates
• Instant Rewards
• Lower Risk Factor

Investors who purchase corporate bonds issued by firms are known as bondholders. They are backed by the payment capabilities of the corporation and typically come with interest rates more significant than those offered by the government.

What are Corporate Bonds?

Corporate bonds, also known as Non-Convertible Debentures, can be issued by any corporation. Organizations and businesses require finance for everyday operations, future expansions, and chances for development. Companies have two options for achieving this objective: debt and equity instruments.

Debt is a safer alternative because it does not immediately harm the company’s stockholders. Consequently, most businesses prefer to issue debt instruments to generate funds for their operations. Depending on their demands, corporate bank loans might be costly.

Here, bonds or debentures provide enterprises with a cost-effective choice for raising capital. Debt funds’ underlying portfolios of credit possibilities are corporate bond instruments. When you acquire a bond, you are lending money to the corporation. The company will return the principal following the contract’s stipulated maturity date.

Corporate Bond Types

When a corporation issues bonds, it binds itself legally to pay periodical interest payments on the principal sum depending on the corporate bond rates to the bondholders. In addition, the business must return the principal to the bondholders after the bonds mature. While corporate bond types have many features, they must also uphold fundamental legal requirements such as interest payments (not in the case of zero-coupon bonds) and principal repayment. Mentioned below are the five fundamental corporate bond types.

Mortgage Bonds

A variety of assets can secure bonds. For instance, mortgage-backed securities are bonds backed by mortgages. A mortgage bond allows bondholders to sell mortgaged properties to fulfil any unpaid bondholder obligations.

Collateral Trust Bonds

The only difference between collateral trust bonds and mortgage bonds is that residences are not utilized as collateral. Businesses utilize these without permanent assets or real estate. Instead, these firms hold the securities of other firms. When issuing bonds, they promise the stocks, bonds, and other interests in other firms that they possess.

Debenture Bonds

Debenture bonds are unsecured bonds not backed by specific properties or other assets. Treasury bills illustrate a debenture bond under the government bonds category. Firms frequently issue debenture bonds with good credit ratings, so their interest rates are generally not excessively high. However, debenture bonds can be issued by corporations that have previously issued mortgage or collateral bonds.

Guaranteed Bonds

Guaranteed bonds, as the name indicates, are bonds that are assured. A different company offers a warranty. This reduces the danger of default because another company has promised to step in and execute the bond’s obligations if necessary.

High-Yield Corporate Bonds

There are three sorts of issuers for high-yield bonds: original issuers, fallen angels, and restructurings and leveraged buyouts. Original issuers offer bonds based on future growth and profitability projections. Fallen angels are corporations with a debt of investment-grade quality. Restructuring and leveraged buyouts are examples of corporations that have consciously increased their debt load to enhance shareholder value.

Benefits of Investing in Corporate Bonds

If you are wondering about the advantages of investing in corporate bonds, we’ve got you covered. A corporate bond fund is a good investment for the following reasons.

Higher Interest

Corporate bonds’ interest rates typically offer a higher return than government bonds. It provides a tremendous investment if you are searching for better rewards.

Lower Risk

It is essential to evaluate an investment’s potential danger before deciding whether or not to make it. Corporate bonds in India, for that matter, are less at risk. This is because the inflation rate has little effect on these bonds.

Immediate Rewards

These bonds are typically considered to be investments with a shorter duration. The time it takes to see a return on your investment is probably not very long at all.

Tax-Efficiency

Depending on your tax bracket, you must pay short-term capital gains tax (STCG) if you hold a corporate bond fund for less than three years. Section 112 of the Indian Income Tax, however, imposes a 20% on long-term capital gains tax. This applies to people who have held the bond for over three years.

Did You Know?

You can know at a glance if a bond is a high quality or low quality and suitable for investment or not (and where it falls on the spectrum between the two). In addition, various other organizations assign easy-to-understand letter ratings to all debt offerings.

Conclusion

Corporate bonds are a low-risk acquisition option if you seek an investment vehicle that you can use for the short term. In comparison to government bonds, they provide investors with better yields. However, carefully consider the dangers before investing in corporate bond funds.