What are bonds and what role do they play in a portfolio?

Category: bond-faq

Bonds are a type of debt-based security that’s issued by a government or a company, in order to finance its operations. In other words, a bond is a loan made by the investor, to the organisation issuing it.

This bond entitles the investor to an interest rate payment, known as a coupon, throughout the duration of the bond, as well as the ability to sell the bond on the open market to others whenever the investor in question chooses to do so. At the end of the term, also known as the bond’s maturity, the issuer of the bond must pay back the initial amount. Please note that when trading in CFDs, no coupon or interest payment is entitled to the investor.

The benefit of holding bonds in a portfolio is that they are considered much safer than stocks, but unlike holding cash, they benefit from the yield of the coupon payment. Longer-term bonds tend to have a higher coupon because of the opportunity cost of having your capital locked up, but, as we’ve seen above, this is also true when the issuer has a lower credit rating (i.e. it’s a riskier investment).