Asked by Anonymous
Asked on 14 Mar 2019
I think we should also revise what we view as “safe”.
Bonds are only as safe as the company that issues them. If the company close shop with no money then there’s no amount of bonds to save it.
Bonds are safer compared to common stock of the company. Because of it’s hierarchy in claims, basically bond are the first scavenger to pick the flesh off the bones.
Also, in financial crisises, when equities are giving extremely low or negative returns, bonds don’t care, coupons still have to be paid(again, if the company is healthy enough to pay). So during crisis, they are seen to be yielding more than equities. This doesn’t make them safer though, it’s just the mechanism of the bond. But this is typically in times of crisis.
Biggest risk would be interest rate risk - bond prices are highly affected by interest rate because interest rates are the discounting factor to find the PV of the bond's future payment, a fall in interest will see a rise in it's price, while a rise in interest will have cause bond prices to fall. This is especially important in emerging economies which are experiencing rapid growth- if anytime the Central bank sees that growth is too quick and is outpacing productivity growth and might result in runaway inflation they may raise interest rates to curb investments and private consumption - you will see a fall in bond prices because you bonds future cash flows are worth less in today's terms.
Some risks include:
1) Credit Risk
2) Reinvestment Risk
3) FX Risk
4) Interest Rate Risk
5) Call Risk
6) Liquidity Risk