Individual Bonds are essentially IOU’s. When an investor purchases a bond, they are lending the issuing company money in exchange for a stated interest rate and an eventual return of face value of the bond. Bonds are issued with maturity dates, usually of 10, 20 or 30 years. The company the money is lent to agrees to pay interest, usually each quarter, on the amount invested.
Bonds trade in an open market. That means that you can sell your bond to someone else before the term is over. The bond may be worth more or less than the original amount of the investment. Bond values have an inverse relationship to interest rates. When bond interest rates go up, the value of the bond generally decreases. When bond interest rates go down, the value of the bond generally increases. Fixed income securities also carry inflation risk and credit default risks. Any fixed income security sold or redeemed prior to maturity may be subject to a substantial gain or loss.
Bonds tend to have less price volatility than individual stocks or stock mutual funds. The assets of the company usually back the bond in case of a liquidity event such as bankruptcy. Bondholders get paid before stockholders in case of bankruptcy when stockholders are paid last, if at all. Historically there is an inverse correlation to the pricing of stocks and bonds, though in recent years we have seen periods where stock and bond prices can move in concert with each other. For investment planning purposes, bonds are added to portfolios to reduce risk and minimize fluctuations.