Factors That Affect Interest Rate On Corporate Bonds
Corporate bonds are usually issued in multiples of $1,500 and/or $5,000. When an investor buys a corporate bond, he is basically lending money to the company. The company, in turn, will pay the investor an interest on the amount of bond purchased, and when the bond matures at a specified date, the principal amount is repaid to the investor. |
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The interest is usually paid semi-annually and is known as the coupon rate. This amount is fixed. When the value of the bond increases, the interest rate falls and when the value of the bond decreases, the interest rate increases.
There are many factors that affect the interest rate on corporate bonds as this is dependent on the value of the bond. Some of the factors that affect the value of a bond, and thereby the interest rate, are as follows:
- When the interest rate increases, the yield of the bond (that is the effective interest rate) tends to fall. The fall continues until the yield matches the interest rate. The opposite happens when the interest rate falls.
- The rating of the bond denotes the creditworthiness of the bond issuing company. Therefore, if a company's credit rating is lowered, then the value of the bond decreases.
- As the bond is nearing its maturity date, the price of the bond nears the par value. This is because the investors will redeem the bond upon maturity and they will be repaid their principal amount.
- A bond that is callable can be redeemed early by the bond issuing company. This means that investors will no longer be able to have a satisfactory investment once the bond is called. Due to this bonds that are callable have a discounted value.
- Certain bonds can be exchanged for common stock of a company. Therefore, these bonds are in high demand and investors are always ready to pay more for this type of bonds.
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