Bonds may be classified as safe investment instruments. With bond investing, an investor can get several advantages and advantages, but like investment securities, bonds also have a number of risks. Let’s discuss the benefits first.
Benefits of Bond Investment
As an investment instrument, bonds provide a number of benefits for the holders. Basically, there are two types of benefits obtained by investors by buying or owning bonds, namely capital gains, and coupon profits.
# 1 Benefits of Coupons
The main feature of bonds is offering fixed income during the term of the bonds. Suppose an investor buys a bond provided that:
- Nominal: Rp1 billion
- Fixed Coupon: 10% per year
- Due: 5 years
Then the income received by the investor:
- Principal of Rp1 billion, received in the 5th year (due)
- Coupon Interest: 10% x Rp1 billion = Rp100 million / year
- Total Interest Received for 5 years: 5 x Rp100 million = Rp500 million
The profits obtained from the bond coupon are still divided into 3 types, after the bond type. The types of coupons include: Fixed Coupon, Floating Coupon, and Zero Coupon. Bond investment results also depend on the bond period. The longer, the greater the profit.
The magnitude of these coupons are set by the issuer itself, but the magnitude of this coupon is also determined by the debt rating (investment grade) the issuer of the bonds. Bond issuers whose debt rating is good will offer coupon interest that is not too high. In contrast to those whose debt rating is lacking, usually the coupon interest is high so investors are willing to buy their debt letters.
# 2 Profit Capital Gain
After an investor invests in the bond issuer, the investor can actually resell the securities at a higher price. That advantage is called Capital Gain, which is the profit derived from the difference between the purchase price and the selling price of the bond.
Usually bond prices are expressed as a percentage. For example, the initial price of a bond is 100% (called par price). When they want to sell, the price turns up to 115%. So, if the investor sells it, the profit is 15% (the term is a capital gain of 15%).
The market value of the bonds themselves fluctuates as a result of the supply and demand on the stock exchange. In general, things that affect volatility in bond prices include:
- Interest rate / coupon paid
- Economic conditions and inflation rates that will affect interest rates, when interest rates increase, bond prices usually fall, because investors will tend to choose to invest their capital in banks when interest rates increase, and vice versa.
- The level of certainty of interest payments and the principal value of the bonds. This is strongly related to the financial condition of the company.
Types of Prices and Results of Bond Investment
Because of the nature of the price that can change according to market demand and supply, the purchase price of the bonds can be divided into 3, namely:
- Price of Par, that is, Bonds are offered or sold according to their nominal value. for example: Bonds with a nominal value of Rp1 billion, are sold at par prices, which are equal to 100% x Rp1 billion = Rp1 billion.
- Discount Price, which is a bond offered or sold cheaper than its nominal value. For example: nominal bonds worth Rp1 billion sold 94.5% discount in price, then the price of these bonds amounted to: 94.5% x Rp 1 billion = Rp945 million.
- Premium prices, namely bonds offered or sold are more expensive than their nominal value. For example: bonds worth nominal Rp1 billion are sold premium at a price of 104%, then the bond price is: 104% x Rp1 billion = Rp1.04 billion.
If you invest in bonds by combining coupon profits, and even capital gains, of course the investment returns that you will get will be maximized. For example, you buy a bond when the selling price drops below its nominal value, for example 90%, then you sell it when the price rises well above the nominal price, say 120%.
Even so, this strategy must also consider the time of coupon payment, and see the company’s fundamentals or bond issuers as well. There are several terms of yield (yield) which are bonds when bonds are purchased at different time periods:
- Coupon Yield, that is, the profit generated is based on the coupon value set at the time of issuance. For example, the nominal bonds amounting to Rp1 billion, paying interest at 8%, the coupon yield is 8%.
- Current Yield, which is the profit calculated based on the number of coupons received on the purchase price of the bond. For example, bonds with a nominal value of Rp1 billion, purchased at a price of 80% (Rp800 million), and giving a coupon interest of 8% of the nominal, the current yield is 8% / 80% = 10%.
- Yield to Maturity, which is the level of income investors will get if they have bonds to maturity. For example, bonds with a nominal value of Rp1 billion are purchased by investors at a discounted price of 80%, or Rp800 million. At maturity, investors will receive Rp1 billion, which means a profit of Rp200 million. So the yield to maturity was received IDR 200 million.
Advantages of Other Bond Investments
In addition to financial benefits, here are the advantages of other bond investments.
- Safe because payment of coupons and principal guaranteed by Law No. 24 of 2002 / Law No. 19 of 2008.
- Bond coupons / interest are higher than deposit interest.
- It is easy to trade in the Secondary Market which is regulated by the Indonesian Stock Exchange (IDX) mechanism or transactions outside the stock exchange.
- Can be guaranteed the collateral, such as state bonds.
Risk of Bond Investment
Even though it is considered a fairly safe investment instrument, bonds themselves still have risks. The risks of this bond include:
- Bond issuers run the risk of default (default) on the obligation to return funds to investors and result in investors not recovering all of their principal debt.
- Bonds are vulnerable to changes in interest rates, the economy, and unstable political conditions. These changes have an impact on financial markets.
- There is a potential capital loss, which is the potential loss from the selling price of the bond which is lower than the purchase price.
Especially for the risk of default, it does not apply to state bonds that are protected by law. In this case, bonds issued by the government are safest because the risk of default is relatively small compared to the bonds issued by the company. This is what causes government bonds to be more popular than corporate bonds.
Understanding Bond Investment Instruments
Actually there are many things that beginner investors need to know about bond investment. By recognizing bonds in general, you have gone through the initial stages needed, to find out which bonds are clearer and have an idea of the type of investment if you are interested in investing your money in this instrument.
From the article above, we have discussed the basics of bond investment including the types and calculation of profits. Are you interested in investing your money in this instrument? Let’s share your opinion by writing a comment in the following column. thanks