Return to site

Government Bonds - What Are Government Bonds?

A government bond or federal bond is essentially an instrument of indebtedness issued by a central government to support federal government borrowing. It usually contains a promise to pay regularly interest referred to as coupon payments and then to pay the full face value at maturity. Unlike most other types of debt securities, a bond generally carries the obligation of returning (at maturity) an amount of interest plus a certain percentage of principal. Bonds may also be used as collateral for other financial obligations. Keep reading this article to discover more about government bonds.

Many governments that issue bonds to use them to reduce the amount of private creditors that are able to collect from their bond holders; in some cases this is done by allowing them to accumulate interest before it becomes due. The federal government also uses bond issues to create a source of long-term revenue.

Federal government bonds are issued in two basic classes; first, with and without coupons and secondly, with and without coupon payments. With coupons, the issuer pledges to pay the interest and principal on the bond if and when the coupon payments become due. Without payments, however, there is no bond issue.

Private sector investors who buy or sell government bonds generally make money on the premiums and interest they purchase, whereas the Federal Reserve earns interest on the government securities it holds. Interest rates on government bonds vary widely and are influenced by such factors as the interest rate on outstanding treasury securities, the yield curve on Treasury securities and the size and liquidity of the market for those securities.

Bond market professionals usually divide bond issues into two categories; "T-securities," which are securities issued under the Securities Exchange Act and "T-debt," which are unsecured securities. T-securities are normally backed by either a specified asset (like a home mortgage note) or by specified credit. T-debt securities are usually unsecured.

Government bonds and T-bonds are rated by Moody's, Standard & Poor's and Fitch. While the government bond rating is not based on the same criteria as those applied to stocks and bonds, the agencies have established certain minimum criteria that bond issuers must meet.

These criteria are designed to ensure that bond investors do not "race to the bottom" on their bond rating, thereby reducing the value of the bond. Bond dealers, who purchase these bonds, use the lower bond ratings as a basis for making their decisions about whether to buy the bonds. If the bonds are rated below the minimum standards, bond prices may go down and bond investors may lose money.

In order to protect bondholders, the ratings agencies have created a "credit default" rule. When bondholders believe that their bond is likely to default on its coupon payments, the rating agency determines the maximum credit rating that will be assigned to the bond by applying standard formulas. and formulas that are based on the amount of default risk (the likelihood).

The maximum credit rating for government bond issues will be the rating that was assigned to the bond when it was originally issued. Bond issuers are not allowed to increase the credit rating of a bond by purchasing additional bond issues until a certain period of time (usually a number of years) has passed. Kindly visit this website: https://en.wikipedia.org/wiki/Bond_(finance) for more useful reference.

All Posts
×

Almost done…

We just sent you an email. Please click the link in the email to confirm your subscription!

OKSubscriptions powered by Strikingly