Definition
A bond is essentially a loan from investor to issuer. Key terms: face value (usually $1,000), coupon rate (annual interest %), maturity date (when principal is repaid), and yield (return based on current price). Bond prices move inversely to interest rates — when rates rise, existing bonds with lower coupons become less attractive and drop in price. Longer-maturity bonds have higher interest-rate sensitivity ('duration'). Bonds are ranked by credit quality: US Treasuries (safest), investment-grade corporates, high-yield (junk) bonds, and distressed debt (highest risk). The bond market is roughly 2× the size of the equity market globally and is a critical component of most institutional portfolios for income, diversification, and volatility dampening.
Example
A 10-year US Treasury bond with $1,000 face value and 4% coupon pays $40/year in interest, then returns the $1,000 at year 10. If interest rates rise to 5%, this bond drops in price (perhaps to $920) so its effective yield matches new bonds.
Frequently Asked Questions
Why do bond prices fall when interest rates rise?
Because new bonds are issued at the higher rate, making old bonds with lower coupons less attractive. Their price must fall so the effective yield to a new buyer matches the current market rate.
What is yield to maturity (YTM)?
The total return an investor earns if they hold the bond to maturity, assuming all coupons are reinvested at the same yield. It combines the coupon income and any price gain/loss vs. purchase price.
Are bonds safer than stocks?
Generally yes for high-quality bonds (US Treasuries, investment-grade). But bonds are not risk-free — they carry interest-rate risk, credit risk, and inflation risk. Long-duration bonds fell 30%+ in 2022.