What are Bond Markets?
Bond markets refer to the financial markets where the issuance, buying, and selling of debt securities like bonds occur. The other names include debt markets, fixed-income markets, and credit markets.
It is a platform for companies and governments to raise capital by issuing debt instruments like bonds. Companies issue bonds commonly to finance operations and large-scale projects. At the same time, the government issues bonds intending to finance government spending or expenditure, including infrastructure spending and debt repayment. One example is the US Treasury securities market.
Table of contents
- The bond market is the place to trade debt securities issued by governments or corporations to raise capital.
- There are mainly two types, primary and secondary. The first issue of specific debt instruments to investors occurs in the primary market. Then, in the secondary market, the investors can trade the bonds bought from the primary market.
- Corporations issue these debt securities as bonds to raise capital for new projects or to finance business operations.
- The government issue bonds to finance government spending or expenditure, including infrastructure spending and debt repayment.
Bond Markets Explained
Bond markets are boon to corporate and government bodies since it helps them raise capital easily and flexibly. Primarily, it allows companies to obtain capital without causing equity dilution. In addition, using the debt instruments to obtain capital reduces the cost of capital since the interest expense associated with such instruments is tax-deductible. Altogether, companies can build an optimal capital structure and are a place to trade debt securities.
Monetary phenomena like inflation create an impact on debt markets. Bond price falls with an increase in the interest rate and vice versa. When the economy is booming, stock market rallies and companies outperforming the market are a common scenario, and the investors will be more interested in stocks than debt instruments causing the investment to move from the debt market to the stock market. At the same time, during a bear market or stock market collapse, investors will move investment to bonds which are a haven compared to stocks in a volatile or bear market.
Types of Bond Markets
Generally, it is categorized into primary and secondary.
In the primary market, the new debt instruments are originally issued to the public; when a corporation or government body opts to raise capital for new projects and expansions, they issue bonds with the help of entities like investment banks; the investment banks facilitate the bond issuance by finding the investors and acting as an intermediary between issuing entities and the investors.
Most transactions occur in the secondary market because the investors buying the debt instrument in the primary market trade them in the secondary market. It is the marketplace where an investor who owns the instrument sells it to other interested investors through intermediaries like brokers. It may also happen that institutional investors purchase an instrument from the primary market and then sell them to investors in the secondary market.
Pros and Cons
- It is less volatile than the stock market, hence important for giving investors a less volatile and balanced portfolio experience.
- Guarantees fixed income to investors.
- Risk factors are low compared to the stock market.
- Rating agencies universally rate the bonds.
- Produces lower return products; hence it is not for risk seekers looking for high returns.
- A minimum amount is required for bond investments.
- Investors face risks like inflation risk, interest rate risk, default risk, reinvestment risk, and credit risk.
- The bonds do not pay the principal amount until it reaches their maturity date, which is generally a long period of 10 years, 20 years, etc.
Bond Market vs. Stock Markets
|Marketplace to trade debt securities issued by governments or corporations
|The stock market presents equity securities of publicly listed companies
|The products in the market offer a constant stream of income to investors
|No regular flow of income or dividend to investors
|Risk and return
|Presents less risky and low-return products
|High-risk and high-return products
|Product type or components
|Government bonds, corporate bonds, etc.
|Equity, equity-linked products, etc.
|Bigger compared to the stock market
|Market capitalization or size of the bond market today is bigger compared to the stock market
|Debt market, fixed-income market, or credit market
|Equity market or share market
|Instrument purchase creates
Frequently Asked Questions (FAQs)
Generally, in developed countries, the debt market is much bigger than the equity market. Also, the trading volume in bonds is high compared to stocks. As of 2021, the size of the debt market is $46 trillion for the US market, according to the Securities Industry and Financial Markets Association (SIFMA).
In China, it is represented by three submarkets. The largest submarket is the Chinese onshore local currency bond market, where bonds are issued in mainland China and denominated in renminbi. The second-largest submarket is the Chinese onshore hard currency bond market, where bonds are issued by China or Chinese entities in mainland China in developed markets currencies, usually US dollars. Finally, the third submarket is the Chinese offshore local currency bond market, composed of bonds issued outside mainland China (primarily Hong Kong) and denominated in renminbi.
The significant investment required for the infrastructure sector points to the importance of a well-developed debt market in India. As of March 2021, the market size is around US$ 2 trillion.
This has been a Guide to Bond Markets and its definition. We explain its types, pros, cons, examples, the US, India, and China bond market news & vs. the stock market. You can learn more from the following articles –