What are Corporate Bonds and Gilts?
Corporate bonds and gilts are both loans but investors can buy and sell them in the same way as they do shares. Bonds issued by the UK Government are usually called gilts, while corporate bonds are issued by companies but the key features of both are similar. They are issued in units of £1 but quoted at prices based on £100 of nominal value.
Bonds are suitable for investors who are prepared to take a moderate amount of risk or those seeking a fixed and secure income. The interest rate, or yield, on the bond and the price and date at which it will be redeemed are fixed when the bond is issued. Interest payments are generally made twice yearly. The key difference between gilts and corporate bonds is their security: the government is highly unlikely to default on the interest or capital repayments but there is always a risk that a company may find itself unable to meet its obligations.
Bonds are generally seen as safer than shares, but that does not mean they are risk free. Prices of bonds can also rise and fall depending on the amount of demand from investors, the economic outlook, changes in interest rates and, in the case of corporate bonds, the trading performance and creditworthiness of the company which issued them. They can trade above their redemption price, in which case investors will suffer a capital loss if they hold them to maturity. Conversely, the price can fall below the redemption price, giving the prospect of a capital gain.
What to Look For
Most bonds carry a credit-rating which indicates how risky they are. The two leading credit-rating agencies are Moodys and Standard & Poors, which both use letters to grade bonds but operate on a slightly different scale. Changes in ratings will affect the price at which corporate bonds are traded in the bond market after they are issued: downgradings are likely to cause the price to fall and the income yield to rise while upgradings will have the opposite effect.
Which bonds are appropriate for you will depend on how much risk you want to take. If you want the lowest possible risk, plump for gilts or highly-rated corporate bonds. If you are prepared to take a bit more risk to earn a higher return, you may want to consider lower rated junk bonds.