A bond is a debt security - a loan of money to a public corporation or a government agency, on the part of the bond buyer. Bonds are issued with a maturity date, at which time the issuer repays the value of the loan. Bondholders receive periodic dividends as interest on the loan. The interest rate of the bond is usually called the coupon or coupon payment, defined as a percentage of the bond's face value and paid from issue date until maturity. The interest rate of the bond can be either fixed or variable; the interest rate of a variable bond is readjusted periodically. Some bonds are callable, meaning the issuer may redeem the bond at a date before maturity. If called, the issuer will return the investor's principal early, ending all future coupon payments.
Corporate bonds are issued by public corporations and sold to investors, usually to raise money for capital projects or operational costs. The company receives immediate capital upon the sale. The investor receives interest payments until the bond matures, at which time the original investment is repaid to them, and the interest payments end. The interest rate of the bond may be fixed or variable. Corporations back their bonds with their future revenue, which may include the company's assets as collateral. Potential bankruptcies make corporate bonds a riskier investment than government bonds. Unlike corporate stock, corporate bonds do not transfer company ownership to the bondholder.
Government bonds are debt securities issued to support government spending and obligations. Government bonds can pay periodic interest payments called coupon payments. Government bonds are issued at the state. local or federal level, and are backed by the government organization that issued them, making government bonds a generally safe investment. Because of this, government bonds offer a lower return than corporate bonds.
Municipal bonds are a type of government bond, issued by state or local governments to raise capital, or fund infrastructure projects. Bonds issued to raise capital are called general obligation bonds. Bonds issues to fund infrastructure projects are called revenue bonds.
A bond's coupon rate denotes the amount of annual interest paid by the bond's issuer to the bondholder. Set when a bond is issued, coupon interest rates are determined as a percentage of the bond's par value, also known as the "face value." A $1,000 bond has a face value of $1,000. If its coupon rate is 1%, that means it pays $10 (1% of $1,000) a year. The par value of a bond is frequently set at a $1,000 denomination.
The Federal Reserve Board sets the federal funds rate, which is the interest rate banks use to lend money to other banks, usually a few times each year. This interest rate influences the interest rate set for government securities.