This chapter has explored bonds and bond yields. We saw that:
Determining bond prices and yields is an application of basic discounted cash flow
principles.
Bond values move in the direction opposite that of interest rates, leading to potential
gains or losses for bond investors.
Bonds have a variety of features spelled out in a document called the indenture.
Bonds are rated based on their default risk. Some bonds, such as Treasury bonds,
have no risk of default, whereas so-called junk bonds have substantial default risk.
A wide variety of bonds exist, many of which contain exotic, or unusual, features.
Almost all bond trading is OTC, with little or no market transparency. As a result,
bond price and volume information can be difficult to find.
Bond yields reflect the effect of six different things: the real rate and five premiums
that investors demand as compensation for inflation, interest rate risk, default risk,
taxability, and lack of liquidity.
In closing, we note that bonds are a vital source of financing to governments and corporations
of all types. Bond prices and yields are a rich subject, and our one chapter, necessarily,
touches on only the most important concepts and ideas. There is a great deal more we
could say, but, instead, we will move on to stocks in our next chapter.
