Bond Markets

Bond markets refer to the financial markets where the issuance, buying, and selling of debt securities like bonds occur. The other names include debt markets, fixed-income markets, and credit markets.

It is a platform for companies and governments to raise capital by issuing debt instruments like bonds. Companies issue bonds commonly to finance operations and large-scale projects. At the same time, the government issues bonds intending to finance government spending or expenditure, including infrastructure spending and debt repayment. One example is the US Treasury securities market.

Bond markets are boon to corporate and government bodies since it helps them raise capital easily and flexibly. Primarily, it allows companies to obtain capital without causing equity dilution. In addition, using the debt instruments to obtain capital reduces the cost of capital since the interest expense associated with such instruments is tax-deductible. Altogether, companies can build an optimal capital structure and are a place to trade debt securities.

Monetary phenomena like inflation create an impact on debt markets. Bond price falls with an increase in the interest rate and vice versa. When the economy is booming, stock market rallies and companies outperforming the market are a common scenario, and the investors will be more interested in stocks than debt instruments causing the investment to move from the debt market to the stock market. At the same time, during a bear market or stock market collapse, investors will move investment to bonds which are a haven compared to stocks in a volatile or bear market.

Generally, it is categorized into primary and secondary.

Primary Market

In the primary market, the new debt instruments are originally issued to the public; when a corporation or government body opts to raise capital for new projects and expansions, they issue bonds with the help of entities like investment banks; the investment banks facilitate the bond issuance by finding the investors and acting as an intermediary between issuing entities and the investors.

Secondary Market

Most transactions occur in the secondary market because the investors buying the debt instrument in the primary market trade them in the secondary market. It is the marketplace where an investor who owns the instrument sells it to other interested investors through intermediaries like brokers. It may also happen that institutional investors purchase an instrument from the primary market and then sell them to investors in the secondary market.

Pros -

• It is less volatile than the stock market, hence important for giving investors a less volatile and balanced portfolio experience.
• Guarantees fixed income to investors.
• Risk factors are low compared to the stock market.
• Rating agencies universally rate the bonds.

Cons -

• Produces lower return products; hence it is not for risk seekers looking for high returns.
• A minimum amount is required for bond investments.
• Investors face risks like inflation risk, interest rate risk, default risk, reinvestment risk, and credit risk.
• The bonds do not pay the principal amount until it reaches their maturity date, which is generally a long period of 10 years, 20 years, etc.