There are generally two main types of bonds available for investors to purchase. These are:
Corporate bonds: These are company-issued bonds. Although they frequently offer higher interest rates, there is a greater chance of default with small, developing businesses than with established, large corporations and governmental bodies. A corporate bond is essentially debt issued by a business in order for it to raise capital.
Australian Government bonds: These bonds are issued by the Australian government. These bonds make up the largest single pool of bonds in the market. Due to the lack of default risk, government bonds are considered a safer option in comparison to corporate bonds; however, they do offer a lower investment return.
There are two types of exchange-traded Australian Government bonds:
Exchange-traded Treasury Bonds (ETBs): ETBs are medium to long term debt securities that carry a fixed annual interest rate. This carries over the life of the bond, and is payable every 6 months. The minimum investment amount for an ETB is $100 AUD.
Exchange-Traded Treasury Indexed Bonds (ETIBs): ETIBs are medium to long term debt securities that increase the capital value of the bond over time to account for inflation. The capital grows in line with the Consumer Price Index (CPI). ETIBs make quarterly interest payments based on growing capital values. Assuming inflation remains positive, payments grow over the life of the bond. The minimum investment amount for an ETIB is $100 AUD.
Bonds can also be classified as either secured or unsecured. These are two different types of bonds that are issued by companies or governments to raise capital. Specifically:
Secured bonds: These are bonds that are backed by some form of collateral. This collateral can take the form of assets such as real estate, equipment, or inventory. In the event that the issuer is unable to make interest or principal payments, the bondholders have the right to seize the collateral as a form of repayment. Because they have the collateral as a form of protection, secured bonds generally have a lower risk of default and therefore offer lower yields.
Unsecured bonds: Also known as debentures, these are bonds that are not backed by any collateral. Instead, they are based on the creditworthiness of the issuer. In the event of default, unsecured bondholders have no claim to specific assets of the issuer, and must rely on the issuer’s overall assets and creditworthiness. Because they have no collateral to protect them, unsecured bonds generally have a higher risk of default and therefore offer higher yields.
It’s important to note that some bonds may be considered “partially secured”, as they may have a combination of both secured and unsecured elements.
Bonds may also be classified as simple or complex. Simple bonds are defined as:
Bonds that have a fixed maturity date that is no more than 15 years from the date of issuance
Bonds that have a fixed coupon rate that remains constant for the duration of the security
Bonds which are not subordinate to other debts owing to unsecured creditors generally
Bonds that have no options to be converted into equity or extinguished
Bonds with interest payments made under the security, which are made periodically and cannot be postponed or capitalised by the issuer
By contrast, complex bonds are defined as:
Bonds that allow the issuer to postpone or capitalise interest payments under specific conditions
Bonds that have the option to extend the length of the bond, but at the price of paying a higher coupon rate
Bonds that provide for the coupon rate to be re-set at certain times over the length of the bond
Bonds that resemble hybrid securities, combining traits of shares and debt securities