High Yield Bonds (Junk Bonds)

When learning about investment strategies and the different sorts of bonds that one can invest in, the term "high yield bond" is sure to come up sooner or later. People with a basic understanding of how investing works and with a firm grasp of financial issues still might have major misconceptions or misunderstandings regarding these types of bonds. Understanding what this type of bond is - and isn't - is crucial to having a well rounded, more total comprehension about investing and general investment techniques. Below, we will more closely examine high yield bonds, affording you with a much clearer concept of them.

Before one can understand what high yield bonds are all about, it is necessary to know what bonds are in the first place. Essentially, bonds are types of investments that individual people can make in various types of organizations' and businesses' ventures. When a company, business or organization has a need to raise money for a project or business venture, issuing bonds is a very common strategy for doing so.

Obviously, though, there must be something in it for the investors who use their money to purchase these bonds; in this case, it is the interest charged that they receive back along with the principal. When this occurs is not at some random, unknowable time in the future; instead, investors receive the face value - and interest - back for their loans upon the maturation of the bond. This is typically referred to as the bond's "call date" or "maturity date", and it an important component of these sorts of transactions.

Bond Credit Ratings

Years ago, a credit rating system was developed so that investors could be more adequately informed about the risks they were taking in participating in various bonds. Bond issuers who had a proven track record of promptly repaying loans plus interest in full could stand to achieve the highest possible rating of "AAA". Other acceptable risk (or investment grade) ratings are those that fall into the "BBB" grade category and above.

Knowing the credit rating of the bond issuer therefore allowed investors to take more educated risks. However, bond issuers with ratings of "C" and below - considered high risk - had to come up with ways of counteracting their negative ratings. The strategy that they came up with - and that is used to this day - is offering higher interest rates for those who purchase their bonds. Over time, these bonds became known as high yield bonds - or more negatively as "junk bonds". Today, people invest in these bonds in order to try and make a larger profit more easily, in exchange for the risks of doing so.

As it happens, the credit risk posed by high yield bonds is more than made up for by the higher yields that they offer. This makes sense; otherwise, high yield bonds would be largely disregarded and not considered viable options. However, investors should examine the characteristics of individual issuers in order to make more skilled and educated high yield investments.

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