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Section 2 Bonds and Other Financial Assets

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Objectives

After studying this section you will be able to:

1. Describe the characteristics of bonds as financial assets.
2. Identify different types of bonds.
3. Describe the characteristics of other types of financial assets.
4. Explain four different types of financial asset markets.

Section Focus

Corporations and governments borrow money by selling bonds and other financial assets. The corporation or government pays the purchaser interest on the bonds and repays the principal, or money borrowed, at a specified time.

Key Terms

• coupon rate
• maturity
• par value
• yield
• savings bond
• municipal bond
• corporate bond
• Securities and Exchange Commission
• junk bond
• capital market
• money market
• primary market
• secondary market

How do borrowers raise money for investment? One of the most important ways is by selling bonds. As you read in Chapter 8, bonds are certificates sold by a company or government to finance projects or expansion.

For example, starting in 1942, the United States Department of Treasury launched bond drives to encourage Americans to buy “war bonds”—government savings bonds that helped finance World War II. Movie stars and war heroes urged the public to buy bonds. Even school children brought their dimes and quarters to school each week, buying defense stamps that would eventually add up to the price of a war bond.

Bonds as Financial Assets

Bonds are basically loans, or IOUs, that represent debt that the government or a corporation must repay to an investor. Bonds typically pay the investor a fixed amount of interest at regular intervals for a fixed amount of time. Bonds are generally lower-risk investments. As you might expect from your reading about the relationship between risk and return, the rate of return on bonds is usually also lower than for other investments.

The Three Components of Bonds

Bonds have three basic components:

• Coupon rate The coupon rate is the interest rate that the bond issuer will pay to the bondholder.
• Maturity Maturity is the time at which payment to the bondholder is due. Different bonds have different lengths of maturity. Bonds typically mature in 10, 20, or 30 years.

This poster used powerful images to convince people to buy war bonds during World War II.

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