RiskPicksWhat is a Bond?
A bond is essentially a loan. When you buy a bond, you are lending money to the issuer (a government, municipality, or corporation) in exchange for regular interest payments (called the coupon) and the return of your principal when the bond matures.
Key bond terms
- Face value (par): the amount the bond will pay back at maturity, usually $1,000
- Coupon rate: the annual interest rate the bond pays, expressed as a percentage of face value
- Maturity date: when the issuer repays the face value
- Yield: the effective return you earn, which changes as the bond price fluctuates on the market
Types of bonds
- Treasury bonds: issued by the US federal government. Considered the safest investment. See the Treasury entry for more detail
- Corporate bonds: issued by companies. Higher risk than Treasuries, so they pay higher interest
- Municipal bonds: issued by state and local governments. Interest is often tax-free
- High-yield (junk) bonds: corporate bonds from companies with lower credit ratings. Higher coupon rates but higher risk of default
Why stock traders should care about bonds
- Inverse relationship: bond prices and stock prices often move in opposite directions. When bonds sell off (yields rise), stocks tend to struggle
- Credit spreads: the gap between corporate bond yields and Treasury yields widens during market stress. The RiskPicks Market Mood score tracks this
- Risk barometer: when money flows into bonds and out of stocks, it signals fear. When money leaves bonds for stocks, it signals risk appetite
You do not need to trade bonds to be a good stock trader, but understanding how bond yields affect stock prices will help you read the broader market environment.