What are Bonds? What Are The Different Types of Bond and More?

Bonds are a type of debt security that companies, municipalities, and governments issue to raise capital. They pay periodic interest to bondholders and return the principal when the bonds mature. There are many different types of bonds, including treasury bonds and corporate bonds, to name a few. 

In addition to these types, bonds can also be characterized by their maturity date, credit rating, and tax status. Read to know more about the different types of bonds you can invest in.

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What Is a Bond?

A bond is a type of debt security that is issued by companies, municipalities, and governments to raise capital. When an investor purchases a bond, they are essentially lending money to the issuer in exchange for periodic interest payments and the return of the bond's face value or principal when the bond matures. The maturity date of a bond is the date on which the bond issuer will return the bond's face value to the bondholder. Bonds can have a maturity date that ranges from a few months to several decades.

Bonds are typically considered to be less risky investments than stocks, but the risk can vary depending on the creditworthiness of the issuer. The credit rating of a bond issuer, is an indication of the issuer's ability to repay the bond.

Bonds can be bought and sold on bond markets and their prices can fluctuate based on changes in interest rates and the creditworthiness of the issuer. In addition, bond interest payments are generally considered to be fixed income, and are usually taxed at a lower rate than ordinary income. For this reason, bonds are often used by investors looking for a steady stream of income or a more conservative investment option.

Who Issues Bonds?

In Nigeria, bonds are issued by a variety of entities, including the federal government, state governments, and private companies. The Central Bank of Nigeria (CBN) also issues bonds to help control inflation and stabilize the economy.

The federal government issues bonds through the Debt Management Office (DMO) to finance its budget deficits and infrastructure projects. These bonds are known as Nigerian Treasury Bonds (NTBs) and are usually issued in tenors of 3, 5, 10, and 20 years.

State governments also issue bonds to finance their budget deficits and infrastructure projects. These bonds are known as Nigerian State Government Bonds (NSGBs) and are usually issued in tenors of 3, 5, and 10 years.

Private companies can also issue bonds to raise capital for expansion or to refinance existing debt. These bonds are known as Nigerian Corporate Bonds (NCBs) and are usually issued in tenors of 3, 5, and 10 years.

Investors can purchase these bonds through primary issues, when the bonds are first issued, or through secondary markets, where the bonds are traded after they have been issued.

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What are the Types of Bonds?

There are different types of bonds available for investment. Read this to understand the different types of bonds and  how to invest in bonds.

1. U.S. Treasury Bonds

U.S. Treasury Bonds (also known as T-bonds) are debt securities issued by the U.S. Department of the Treasury to finance the federal government's borrowing needs. They are considered to be among the safest investments because they are backed by the full faith and credit of the U.S. government.

T-bonds are typically considered a "safe haven" investment, as they are considered to be less risky than other types of bonds or stocks. They are also used as a benchmark for other long-term interest rates.

2. Savings Bonds

Savings bonds in Nigeria are debt securities issued by the government, which are marketed as an investment option for individuals looking to save money over the long term. They are considered as low-risk, low-return investment options, as they are backed by the full faith and credit of the Nigerian government.

The Federal Government of Nigeria through the Debt Management Office (DMO) issues savings bonds to the general public, with a maturity of 10, 15 and 20 years. These savings bonds pay interest to bondholders every six months, and the bond's face value is returned to the bondholder at maturity.

Investment in savings bonds is open to all individuals, including low-income earners, and the minimum investment threshold is relatively low. The investment can be made through the Central Bank of Nigeria (CBN) and commercial banks, and the bonds can also be traded on the Nigerian Stock Exchange (NSE) after their issuance.

Savings bonds in Nigeria are considered as a safer alternative to other investments such as stocks, because of the low risk and low return. Savings bonds are also tax-free, which makes them an attractive option for investors looking for tax-efficient investment opportunities.

3. Agency Bonds

Agency bonds in Nigeria are debt securities issued by government-owned or government-controlled entities, such as the Central Bank of Nigeria (CBN) or the Nigerian National Petroleum Corporation (NNPC). These bonds are considered to be of a higher credit quality than bonds issued by private companies, as they are backed by the full faith and credit of the Nigerian government.

Agency bonds are issued to raise capital for specific projects or initiatives, such as infrastructure development or to fund a budget deficit. These bonds have a maturity of 3 to 10 years, pay periodic interest to bondholders, and the face value is returned to bondholders when the bond matures.

The Central Bank of Nigeria (CBN) issues bonds to help control inflation and stabilize the economy, while the Nigerian National Petroleum Corporation (NNPC) issues bonds to fund its capital expenditure.

Agency bonds are typically considered to be less risky than other types of bonds, as they are issued by government-owned or government-controlled entities and also considered as a safe haven for investors looking for a low-risk investment option.

4. Municipal Bonds

Municipal bonds in Nigeria, also known as Nigerian State Government Bonds (NSGBs), are debt securities issued by state governments to raise capital for infrastructure projects and finance budget deficits. They are considered to be less risky than bonds issued by private companies, as they are backed by the full faith and credit of the state government. Municipal bonds are good for exposure into real-estate and infrastructure. 

Municipal bonds in Nigeria have a maturity of 3 to 10 years, pay periodic interest to bondholders, and the face value is returned to bondholders when the bond matures. They are issued by states through their Debt Management Office (DMO) to fund capital expenditure and infrastructure projects.

Municipal bonds in Nigeria are open to individuals, corporate bodies, and institutional investors. They can be purchased through primary issues, when the bonds are first issued, or through secondary markets, where the bonds are traded after they have been issued. Municipal bonds in Nigeria can be seen as an alternative investment option for individual investors looking for a low-risk and steady stream of income, as well as supporting the development of the state by investing in infrastructure projects.

5. Corporate Bonds

Corporate bonds in Nigeria, also known as Nigerian Corporate Bonds (NCBs), are debt securities issued by private companies to raise capital for expansion or to refinance existing debt. They are considered to be higher-risk investments than bonds issued by the government, as they are not backed by the full faith and credit of the Nigerian government.

Corporate bonds in Nigeria have a maturity of 3 to 10 years, pay periodic interest to bondholders, and the face value is returned to bondholders when the bond matures. These bonds are issued by companies through the Nigerian Stock Exchange (NSE) and can be purchased by individuals, corporate bodies, and institutional investors.

Corporate bonds in Nigeria can be a good investment option for investors looking for higher returns than government bonds, while also providing an opportunity to support the growth of Nigerian companies.

6. Bond ETFs

Bond ETFs in Nigeria, or Exchange-Traded Funds, are investment funds that track a bond index, such as the Nigerian Bond Index, and can be traded on the Nigerian Stock Exchange (NSE) like stocks. They provide investors with an easy and cost-efficient way to gain exposure to the bond market without having to purchase individual bonds. Bond ETFs in Nigeria are a good option for investors looking for a low-cost and diversified way to invest in the bond market, or for those who want to invest in bonds but don't have the expertise or resources to research and purchase individual bonds. They can also be used to gain exposure to the bond market for those who are not able to invest in individual bonds due to the large minimum investment threshold.

What are the Characteristics of Bonds?

Bonds are debt securities that companies, municipalities, and governments issue to raise capital. They are considered to be less risky investments than stocks, but the risk can vary depending on the creditworthiness of the issuer. The following are some of the key characteristics of bonds:

1. Maturity

The maturity date of a bond is the date on which the bond issuer will return the bond's face value to the bondholder. Bonds can have a maturity date that ranges from a few months to several decades. Long-term bonds, such as those with a maturity of 30 years or more, are considered to be more risky than short-term bonds because interest rates can change over time, affecting the bond's value.

2. Credit rating

The credit rating of a bond issuer, is an indication of the issuer's ability to repay the bond. Bonds issued by companies with higher credit ratings are considered to be less risky than those issued by companies with lower credit ratings.

3. Liquidity

The liquidity of a bond refers to how easily it can be bought and sold in the market. Government bonds, such as Treasury bonds, tend to be more liquid than corporate bonds or municipal bonds because there is a greater demand for them.

4. Yield

Yield is the return an investor receives from a bond, typically expressed as a percentage of the bond's face value. It takes into account the coupon rate and the bond's price. A bond's yield increases as its price decreases and vice versa.

5. Convertibility

Some bonds, known as convertible bonds, can be converted into shares of the issuer's stock at a predetermined price.

Overall, bonds are considered to be a more conservative investment option than stocks, as they offer a steady stream of interest payments and the return of the bond's face value at maturity. However, the risk of investing in bonds can vary depending on the creditworthiness of the issuer and the bond's maturity.

Things to consider before investing in Bonds

When investing in bonds in Nigeria, there are several factors to consider such as coupon rate, maturity date, tax status, liquidity & yield, market conditions and diversification. Ensure that bonds a issues by a creditworthy source. Bonds are low-risk investment options and can be good to satisfy portfolio diversification. 

Conclusion

Investing in bonds can provide a steady stream of income, lower volatility than stocks, and act as a hedge against inflation. They are also considered to be less risky than stocks, and can provide diversification in an investment portfolio.

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FAQs

1. How do bonds work?

Bonds work by allowing investors to loan money to bond issuers such as governments, municipalities, and companies in exchange for periodic interest payments and the return of the bond's face value or principal at maturity. The bond issuer uses the money raised to finance projects or operations.

2. How do you buy bonds?

Bonds can be purchased in Nigeria through primary issues, when the bonds are first issued, or through secondary markets, such as the Nigerian Stock Exchange (NSE), where the bonds are traded after they have been issued. They can also be bought through commercial banks and the Central Bank of Nigeria (CBN).

3. What is a coupon rate for bonds?

A coupon rate for bonds is the interest rate that the bond issuer pays to bondholders. It is expressed as a percentage of the bond's face value and is usually paid semi-annually. It is an important factor to consider when evaluating the potential return of a bond investment.

4. Which type of bond is right for you?

To pick the bond that is right for you, consider the creditworthiness of the issuer, the bond's maturity date, coupon rate, tax status, liquidity, yield, callability, credit rating and diversification. It's also important to align the bond with your investment goals and risk tolerance. Seeking advice from a financial advisor may also be helpful.