Chapter 17. Bonds: Investment Features and Risks

FRANK J. FABOZZI, PhD, CFA, CPA

Professor in the Practice of Finance, Yale School of Management

Abstract: Bonds are debt instruments that are issued by a wide-range of entities throughout the world. Unlike the investor in common stock who hopes to share in the good fortunes of a corporation through increased dividends and price appreciation in the stock's price, an investor in a bond has agreed to accept a fixed contractual interest rate. The features that may be included in a bond affect both the performance of a bond when market interest rates change and its risk characteristics. An investor in a bond is exposed to one or more of the following risks: interest rate risk, call and prepayment risk, credit risk, liquidity risk, exchange rate or currency risk, and inflation or purchasing power risk. There are various yield measures that are quoted for bonds: current yield, yield to maturity, yield to call, yield to put, yield to worst, and cash flow yield.

Keywords: bond, global bond market, domestic bond market, foreign bond market, international bond market, offshore bond market, Eurobond market, Eurobonds, maturity, term to maturity, money market instruments, money market, principal, face value, redemption value, maturity value, coupon rate, coupon, step-up notes, zero-coupon bonds, floating-rate securities, fixed-rate bond market, floating-rate bond market, coupon reset date, inverse floaters, reverse floaters, cap, floor, range note, ...

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