Duties that have been rescinded or abolished
Getting the Lowdown on Bonds:
Investing in a bond is essentially handing out some cold, hard cash to a corporation, government, or organization—they'll pay it back in full, with interest, at the end of the arranged term, usually within a decade. Let's say you drop $1000 on a bond and get $50 back every year, that's like earning a 5% return.
Bond vs. Gym Membership
Think of it like enrolling in a 10-year gym membership. You fork over a grand, get access to 50 group classes a year, and you can't touch that dough for a decade. But hey, you'll be getting in shape, and if you get bored, you can offload that membership, despite it being tricky to cancel!
When Bonds Aren't Hot
So, let's go back to our bond. If the issuer's reputation takes a nose dive due to some reason X, you might think that the value and yield will plummet, just like a declining stock's price. But here's the twist - if the issuer needs to attract buyers for their new bonds, they'll have to offer a higher yield. Instead of $50 per year, they'll shell out $60 or more, offering a 6% return or higher. In a nutshell, the more unpopular the bond issuer, the better the returns.
Back to the Gym
Now imagine our gym is a wreck and has lost patrons. It'll probably start offering 60 group classes for the same $1000, making it a more enticing deal, even though it's less popular. Your lot of 50 classes suddenly looks less appealing, and it'll be tougher to unload it at its original price!
Selling Before Maturity
If you own a bond, you can hold onto it until it matures or cash in early on the secondary market. The price there fluctuates based on what buyers are willing to pay at that particular moment. Worse yet, a seller might find out that a bond bought for $1000 is now selling for $950. Ouch! But remember, the buyer is still netting the same $50 coupon. By paying $950, they're actually earning a return of 5.3%, while the seller endures a capital loss.
On the contrary, if the bond value rises to $1050, the $50 coupon now represents less than a 4.76% return. The seller makes a capital gain, but the bond becomes more challenging to sell.
In a Nutshell
When an organization tanks in popularity, the yield on its bonds rises as the issuer offers higher coupons to entice buyers for newly-issued bonds. For bonds already in circulation, the drop in value increases the yield since the coupon amount represents a larger proportion of the invested capital. In essence, investors demand higher returns for riskier bonds—popular issuers, typically governments or blue-chip corporations, often have more stable yields and higher prices due to strong demand and perceived safety. Market conditions and investor behavior, like increased volatility or selling during times of crisis, can temporarily shift this relationship by impacting supply and demand dynamics.
In the realm of personal-finance, just like how a less popular gym might offer more group classes to attract more members, a struggling company may increase the yields of their bonds to garner investor interest (finance). On the flip side, if a more popular company's bond value decreases, it can make selling the bond difficult, much like offloading an expensive gym membership when the gym is doing well (gym membership).
