A bond is a type of debt. It's a loan from an investor to an institution, and in exchange the investor collects a predetermined interest rate. When a company needs capital to expand its business, it issues bonds to the public. Investors buy them with the understanding that they will collect the original principal plus interest when the bond matures at a set date. Federal, state, and municipal governments issue bonds for a similar purpose, to raise money for projects and public programs.
[edit] How Bonds Work
Think of a bond like an IOU. The lender is an investor, individual or institutions - and the borrower is an institution whose stability determines the interest rate it must pay on the bond. This is determined by the company's credit rating - the higher the rating, the lower the interest rate on the bond. This is because a bond's interest rate is determined by risk.
If the investor is relatively certain to get back the bond's principal on the set maturity date (say, three or five years in the future), then the interest rate on the bond will reflect that it's a low-risk investment. Some low-risk bonds include Treasury bonds and corporate bonds issued by large public companies. Other bonds, however, carry higher risk - these include junk bonds and mortgage-backed securities. These bonds have higher interest rates, reflecting the greater risk that investors take on when buying them.
[edit] Bonds or Stocks?
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