Bond
From WilmottWiki
A bond is a financial debt instrument, usually issued by a government or large corporate, which requires the issuer to to pay the bondholder (the purchaser of the bond) a specified sum of money (called the coupon) at specified intervals and to repay the principal amount of the bond at maturity. It is similar to a loan, except the principal amount is not paid back until the end of the term. In the case of zero-coupon bonds (ZCBs) there is no coupon, but instead it is sold at a deep discount from its principal value, to compensate the holder for the lack of coupon payments. Represented graphically the various cashflows involved are often illustrated as follows:
In such diagrams arrows pointing downwards represent cashflows away from the purchaser of the bond (debits) and upward arrows represent cashflows into the purchaser (credits).
Bond maturities range from a few months to decades. Maturities less than two years are generally called short-term notes, medium term ranges from two to ten years, and long term is ten years and more. In the US market short-term notes are called Bills, and those issued by the US treasury are called T-Bills. UK govenment bonds are called Gilts, named after the edging of the original certificates, which were gilded. Typically the face value (or 'principal') of a bond can range anywhere from £1000 to £1,000,000 or more.
As with any other finanicial instrument, the price of a bond is simply the present value of the future cashflows. The discount rate used to calculate the present value depends on market interest rates for similar instruments. Therefore as market rates go up, the price of a bond will tend to go down in order for the yield of the bond to keep in line with the market.
References:
- Barron's Dictionary of Finance and Investment Terms.
- The Handbook of Fixed Income Securities, Frank J. Fabozzi
