A bond is a long-term debt instrument issued by the government or corporations to raise capital, typically in large amounts. Due to the high investment size, retail investors usually do not get direct access to bonds. However, when you invest in a Fixed Deposit, banks use your money to invest in government bonds. The same applies to mutual funds and insurance companies, which allocate a portion of their portfolios to bonds.
In any economy, the yield on government bonds serves as a key indicator of interest rate movements, alongside the repo rate set by the Reserve Bank of India (RBI).
Why Value a Bond?
As an investor—whether individual or corporate—understanding bond valuation is crucial. If you purchase a bond through a primary issue, you receive a fixed return based on the coupon rate. However, if you buy a bond from the secondary market, you must pay the principal plus accrued interest to the seller. In such cases, you need to calculate the Yield to Maturity (YTM)—the rate of return you will earn if you hold the bond until maturity.
Interest Payments on Bonds
Bond issuers typically pay interest semi-annually (twice a year) or annually.
Example: Fixed Rate Bonds
Fixed Rate Bonds are bonds where the coupon rate remains constant throughout their tenure. Most government bonds in India fall under this category.
For example, the 8.24% GS 2018 bond was issued on April 22, 2008, with a tenure of 10 years, maturing on April 22, 2018. The coupon payment is 8.24% annually, meaning interest is paid half-yearly at 4.12% (half of 8.24%) on October 22 and April 22 each year.
For a more detailed understanding of bond valuation, you can refer to the RBI website.
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