Like the US government, corporations issue bonds to raise money. The bond buyer receives regular interest payments, then gets the principal back when the bond matures. Corporate bonds offer a higher rate of return than federal or municipal bonds because they're a riskier investment. They're considered a safer investment than stocks, however, because if a corporation goes bankrupt, bond-holders are in line to be paid ahead of stockholders.
Corporate Bond Advantages
Corporate bonds have advantages in addition to the higher yields, according to the Pimco investment company. One such advantage is that they're a liquid investment: They can be and are sold before maturity and there's a thriving secondary market in corporate bonds. Another benefit is that the interest payments—typically semiannual—provide a steady income stream.
Bond rating services such as Moody's or Stand and Poors rate corporate bonds from triple-A for the most secure investment down to a C or D for corporations that have defaulted on their bond debt. The better ranked bonds are grouped together as "investment grade," while everything below that is classified as "speculative grade," which has a higher rate of risk, but offers larger returns. Bonds may move up or down the rating scale depending on the financial fortunes of their issuers.
Corporate bond prices are influenced not only by the issuer's credit rating but the general level of interest rates and the length of maturity, according to Pimco. Short-term bonds mature in five years or less; medium-term bonds mature in five to 12 years; long-term bonds take more than 12 years. Another factor in pricing is the "credit spread" between the yields and risk of a particular bond issue compared to safer, but lower-yield Treasury bond.
- 100-dollars bonds image by Olena Kucherenko from Fotolia.com