Corporate bonds have a secondary market, so investors who purchase them can sell

Question

Corporate bonds have a secondary market, so investors who purchase them can sell them to other investors if they prefer not to hold them until maturity. The value of all corporate bonds in the secondary market exceeds $5 trillion. Bonds issued by large, well-known corporations in large volume are liquid because they attract a large number of buyers and sellers in the secondary market. Bonds issued by small corporations in small volume are less liquid because there may be few buyers (or no buyers) for those bonds in some periods. Thus, investors who wish to sell these bonds in the secondary market may have to accept a discounted price in order to attract buyers.

a.)What advantages and disadvantages come with trading in a secondary market?

b.)In your opinion, what are the most challenging issues related to investments in bonds?

c.)What primary bond characteristics affect the pricing and yields of bonds?

Explanation / Answer

a)Capital markets are markets in which financial securities of companies are traded.

Capital Markets are divided into two types:-

(i) Primary Market

(ii) Secondary Market

Primary Market is a market where securities are isssued for the first time by the companies

Secondary Markets a market in which buying and selling of issued securities takes place of different publicly traded companies takes place through a medium called stock exchange.

Advantages of Secondary Market/Stock Market:

-* It gives high return compared to other invesments.

*It is the easiest way to get ownership rights in the company.

*It also provides easy exit options by selling the shares to any other investor

Disadvantages of Secondary Market/Stock Market:-

*It is a risky market as it involves high return. So high return involves high risk

*It is time consuming and complex tasks as it involves a lot of research and analysis to find the potentially profitable stock for investment.

b) Challenges related to investment in Bonds:-

* low retuns compared to Shares as it involves predetermined coupon rate for the investment

*bond holders are not entitled for voting rights in the company.

*they dont have right of share in the incresing profits of the compan. They are only entitled for the predetermined rate as fixed.

c)Relationship between yield and price of Bond-It is the primary bond characteristics. Yield and price of bond are inversely related. Yield means the return you get in a bond investment i.e, the Interest/coupon rate over the principal amount invested. When the prices goes up the Yield falls and vice versa.

Yield=coupon amount/price

For ex- if u buy a bond of $1000 @ 10% coupon rate

Yield=100/1000=10%

If the price falls to 900 then

Yield=100/900=11.11%

If the price increases to 1200 then

Yield=100/1200=8.33%

So if you are a bond buyer then you want to hav high yield, at low price

and if you already own bonds then you want the prices to be high as you are already locked with fixed rate of interest. So that you can sell your bonds when they are high.

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