English Task

Bonds
Chapter 16

Arranged by group 1 :
Dhea Patricia Nugrahani (2011011057)
Trio Arya Duta (2011011054}
Ikhwan Eric Pratama (2011011061)
Dwischa Ade Kinanti (2011011073)

Management Study Program

Faculty of Economic and Business
University of Lampung
2021
A. Definition
Bonds is a long-term instrument in which a borrower agrees to make payments of
principal and interest, on specific dates, to the holders of the bond.

A bond is a security that obligates the issuer to make specified interest and principal
payment to the holder on specified dates. That means, the issuer of bonds is the one who
owes, while the shareholders are the ones who make the receivables.

Bond is normally an interest-only loan, meaning that borrower will pay the interest every
period, but none of the principal will be repaid until the end of the loan.

B. The Issuers of Bonds

Governments (at all levels) and corporations commonly use bonds in order to borrow
money. Governments need to fund roads, schools, dams or other infrastructure. The
sudden expense of war may also demand the need to raise funds.

Similarly, corporations will often borrow to grow their business, to buy property and
equipment, to undertake profitable projects, for research and development or to hire
employees. The problem that large organizations run into is that they typically need far
more money than the average bank can provide. Bonds provide a solution by allowing
many individual investors to assume the role of the lender.

For investors, bonds are generally safer than stock or shares, because if an insolvent or
bankrupt company sells its assets, bondholders are among the creditors who might get
some of their money back. On the other hand, in the medium or long term, shares
generally pay a higher return than bonds. For companies, the advantage of debt financing
over equity financing is that bond interest is tax deductible ; companies deduct their
interest payment form their profits before paying tax, while dividend paid to shareholders
come from already-taxed profits. But debt increase a company’s financial risk : bond
interest has to paid, even in a year without any profits to deduct it from, and the principal
has to repaid when the debt matures, whereas companies are not obliged to pay dividends
or repay share capital.

It tax revenue is insufficient, governments also issue bonds to raise money, and these are
considered to be a risk-free investment. In the US there are Treasury notes (with maturity
of two to ten years) and Treasury bonds (with a maturity of ten to 30 years), while in
Britain government bonds are known as gilt-edged stock or just gilts.
C. How the bonds work
Bonds are commonly referred to as fixed income securities and are one of
three asset classes individual investors are usually familiar with, along with stocks
(equities) and cash equivalents.

Many corporate and government bonds are publicly traded; others are traded only over-
the-counter (OTC) or privately between the borrower and lender.

When companies or other entities need to raise money to finance new projects, maintain
ongoing operations, or refinance existing debts, they may issue bonds directly to
investors. The borrower (issuer) issues a bond that includes the terms of the loan, interest
payments that will be made, and the time at which the loaned funds (bond principal) must
be paid back (maturity date). The interest payment (the coupon) is part of the return that
bondholders earn for loaning their funds to the issuer. The interest rate that determines
the payment is called the coupon rate.

Most bonds can be sold by the initial bondholder to other investors after they have been
issued. In other words, a bond investor does not have to hold a bond all the way through
to its maturity date. It is also common for bonds to be repurchased by the borrower if
interest rates decline, or if the borrower’s credit has improved, and it can reissue new
bonds at a lower cost.

Two features of a bond—credit quality and time to maturity—are the principal

determinants of a bond's coupon rate. If the issuer has a poor credit rating,
the risk of default is greater, and these bonds pay more interest. Bonds that have a very
long maturity date also usually pay a higher interest rate. This higher compensation is
because the bondholder is more exposed to interest rate and inflation risks for an
extended period.

D. Characteristic of bond
There is common basic characteristic :
 Face value
Face value is the money amount the bond will be worth at maturity; it is also the
reference amount the bond issuer uses when calculating interest payments. For
example, say an investor purchases a bond at a premium $1,090 and another
investor buys the same bond later when it is trading at a discount for $980. When
the bond matures, both investors will receive the $1,000 face value of the bond.
 The coupon rate
 The coupon rate is the rate of interest the bond issuer will pay on the face value of
the bond, expressed as a percentage. For example, a 5% coupon rate means that
bondholders will receive 5% x $1000 face value = $50 every year.
 Coupon dates
Coupon dates are the dates on which the bond issuer will make interest payments.
Payments can be made in any interval, but the standard is semiannual payments.
 The maturity date
The maturity date is the date on which the bond will mature and the bond issuer
will pay the bondholder the face value of the bond.
 The issue price
The issue price is the price at which the bond issuer originally sells the bonds.

E. Categories of bond
 Corporate bonds
Corporate bonds are issued by companies. Companies issue bonds rather than
seek bank loans for debt financing in many cases because bond markets offer
more favorable terms and lower interest rates.
 Municipal bonds 
Municipal bonds are issued by states and municipalities. Some municipal bonds
offer tax-free coupon income for investors.
 Government bonds 
Government bonds such as those issued by the U.S. Treasury. Bonds issued by the
Treasury with a year or less to maturity are called “Bills”; bonds issued with 1–10
years to maturity are called “notes”; and bonds issued with more than 10 years to
maturity are called “bonds”. The entire category of bonds issued by a government
treasury is often collectively referred to as "treasuries." Government bonds issued
by national governments may be referred to as sovereign debt.
 Agency bonds 
Agency bonds are those issued by government-affiliated organizations such as
Fannie Mae or Freddie Mac.

F. Pricing
The market prices bonds based on their particular characteristics. A bond's price changes
on a daily basis, just like that of any other publicly-traded security, where supply and
demand in any given moment determine that observed price.
G. Advantage and disadvantage bond
a) Advantage
 Steady and predictable stream of income
 Income typically higher than cash alternatives
 Relatively lower-risk (compared to options such as stock)
 Low correlation to stock market

b) Disadvantage
 If such risk exist, the investor may look to sell their bond before its
maturity date and pass on the risk to someone else.
 Value of bond will fluctuate with interest rates
 Lower risk means lower potential returns (than stock, for example)