Stick to Your Guns

Intro to the Bond Market

• Report rights infringement
• published: 12 Jul 2016
• views: 440

This week: Learn about another financial intermediary -- the bond market! Next week: Dive into a practice problem about bonds with our next Office Hours video. Most borrowers borrow through banks. But established and reputable institutions can also borrow from a different intermediary: the bond market. That’s the topic of this video. We’ll discuss what a bond is, what it does, how it’s rated, and what those ratings ultimately mean. First, though: what’s a bond? It’s essentially an IOU. A bond details who owes what, and when debt repayment will be made. Unlike stocks, bond ownership doesn’t mean owning part of a firm. It simply means being owed a specific sum, which will be paid back at a promised time. Some bonds also entitle holders to “coupon payments,” which are regular installments paid out on a schedule. Now—what does a bond do? Like stocks, bonds help raise money. Companies and governments issue bonds to finance new ventures. The ROI from these ventures, can then be used to repay bond holders. Speaking of repayments, borrowing through the bond market may mean better terms than borrowing from banks. This is especially the case for highly-rated bonds. But what determines a bond’s rating? Bond ratings are issued by agencies like Standard and Poor’s. A rating reflects the default risk of the institution issuing a bond. “Default risk” is the risk that a bond issuer may be unable to make payments when they come due. The higher the issuer’s default risk, the lower the rating of a bond. A lower rating means lenders will demand higher interest before providing money. For lenders, higher ratings mean a safer investment. And for borrowers (the bond issuers), a higher rating means paying a lower interest on debt. That said, there are other nuances to the bond market—things like the “crowding out” effect, as well as the effect of collateral on a bond’s interest rate. These are things we’ll leave you to discover in the video. Happy learning! Subscribe for new videos every Tuesday! http://bit.ly/1Rib5V8 Macroeconomics Course: http://bit.ly/1R1PL5x Ask a question about the video: http://bit.ly/29Q2f7d Next video: http://bit.ly/2a2zZe7 Help us caption & translate this video! http://amara.org/v/QZ06/