Investment Updates
A Little Bond Logic Yields Insights
Published Tuesday, June 9, 2009 at: 7:00 AM EDT
Interest rates have been on the low side recently. But what goes down must come up, so you can expect this trend will eventually be reversed and interest rates will begin to climb again. If you’re wondering how these developments affect bonds you already own, it’s a good question. Even experienced investors can find it a challenge to grasp how bond markets really work. However, there is logic behind the ups and downs.
Bond Basics. Put simply, a bond is an IOU. Governments and businesses issue bonds to raise cash for various purposes. The markets use several descriptors to identify a bond: the issuer’s name, the bond’s face (or par) value, the rate of interest paid to the bondholder, and the maturity date (on which the issuer repays the principal). Because bonds trade on the open market, their prices fluctuate—and that is where things can get complicated.
How Interest Rates Affect Bond Prices. While many factors may push the price of a bond above or below its face value, perhaps the most direct impact comes from changes in interest rates. As interest rates rise—or threaten to rise—bond prices tend to fall, and vice versa.
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