32UIUC%20FIN%20300%20Debt%20Market%20Notes%20Part%20III%20%28Research%29%20FA2010%20v1.0

32UIUC%20FIN%20300%20Debt%20Market%20Notes%20Part%20III%20%28Research%29%20FA2010%20v1.0

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UNIVERSITY OF ILLINOIS College of Business - Department of Finance - Finance 300 (Financial Markets) Professor James Jackson Debt Investments Bonds are sometimes described as debt securities and sometimes as fixed-income investments. If you understand what each of these terms means, you understand how bonds work. When you buy a bond, you’re actually lending the issuer money that you expect to get back. That’s the debt. The issuer pays interest for the use of your money, typically on a set schedule. That’s the fixed income. People often think of bonds as a more conservative investment than stock. It is true that you can buy them at issue and hold them until maturity, so that what is happening to bond prices in the marketplace doesn’t affect you. But changing demand does affect the price, so you can also trade bonds to realize capital gains from selling for more than you paid to buy them. You can create a diversified portfolio by purchasing bonds of different terms, from different issuers, and with a range of ratings. Bond Research and Evaluation Since bonds come in such variety, it's important to research bond investments so you can make the best selection. Investors want to know the risks in buying a bond. Those risks include not getting your interest payments and principal back at maturity. It's almost impossible for an individual to do the necessary research, since public information is limited. But rating services make a business of it. Bond Rating Services When you buy a bond issued by a corporation or municipal government, you can use rating services to research the investment risks that you face. You can get the rating information directly from the rating services, the financial press, or from your broker or financial adviser. Among the best-known services are Standard & Poor's and Moody's Investors Service, Inc. The rating services pass judgment on municipal bonds, all kinds of corporate bonds, and international bonds. U.S. Treasury bonds, bills, and notes are not rated. The assumption is that they're absolutely solid since they're obligations of the federal government, backed by its full faith and credit. This means the government has the authority to raise taxes to pay off its debts. How Bonds Are Rated Rating services consider many key issues in deciding how to rate a bond, such as: The bond issuer's overall financial condition The issuer's debt profile How fast the company's revenues and profits are growing The state of the economy How well similar corporations or governments are doing given the current economic environment The primary concern of these rating services is to alert investors to the risks of a particular issue, and to continue evaluating the financial condition of the bond's issuer until the bond reaches maturity. Depending on the issuer's current and ongoing financial condition, a bond's rating may rise or fall in quality. A drop in a bond's
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32UIUC%20FIN%20300%20Debt%20Market%20Notes%20Part%20III%20%28Research%29%20FA2010%20v1.0

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