A Guide to Investing in Corporate Bonds

What is a Corporate Bond?

A corporate bond is a debt instrument typically issued by large corporations as a way of raising capital for a variety of reasons, such as further expansion. When you invest in a corporate bond, you effectively lend money to a company looking to raise funds. The investment will be in exchange for a fixed rate of interest, paid in annual income called coupons for a set period until maturity – the period after which the amount loaned will be repaid.

Corporate Bonds issued by established companies are known as investment grade bonds and are generally deemed less likely to default. The opposite is true for high yielding bonds, which are sometimes called ‘junk bonds’, as they carry a much higher risk of capital loss, as a result they usually have the potential for higher returns.

The duration of bonds are typically categorised in terms of the period of maturity, that is short-dated, medium-dated or long-dated.

Why Invest in Corporate Bonds?

Any type of investment carries a certain level of risk, and if you want a better return, you will need to accept an even greater risk, which in some cases could mean loss of your capital.

Fixed-interest investment such as bonds are generally considered the next step up on the risk scale from cash and are deemed less risky compared to shares.

The annual interest earned on a bond is ordinarily taxable for the investor. However, residents in the UK can benefit from an annual tax-free allowance – up to £20,000 in 2018/2019 tax-year – if they invest in a corporate bond with the ISA “wrapper” via a stocks and shares ISA. If you hold an ISA with another provider, you can transfer either a portion or all of your total balance, and the amount you are allowed to move is uncapped.

How do Corporate Bonds work?

As mentioned above, a corporate bond is created when you lend a company money for a specific purpose. The purpose of the corporate bond, the coupon rate and date of maturity, must be explicitly stated in a document called the Information Memorandum.

Here’s an example of a conventional corporate bond: “Blueprint 7.5% 2020”.

If you buy £1,000-worth of a Blueprint Corporate Bond, you would receive 7.2%, or £72.00, every year until your £1,000 loan is repaid in 2020. Similarly, if you invested £10,000, you would receive a coupon of £750 in 2019 and another £750 in 2020, plus the capital invested. Therefore, on the redemption date you would receive a total amount of £11,500.

What do Credit Ratings of Corporate Bonds mean?

Corporate bonds, together with gilts and government bonds are given credit ratings which puts bonds into categories based on quality and riskiness. Bonds with the highest ratings of AAA to BBB are given an ‘investment-grade’ and are deemed to be of the highest quality, with the lowest likelihood of default.

It’s important to keep in mind that if you already receive Universal credit then you won’t be able to claim tax credits as well.

How do I Buy Corporate Bonds?

There are numerous corporate bonds currently available on the market. They typically require a minimum investment of £1,000. Successful investment will require you getting to grips with the bond issuer, their rating, and understanding how much money you can earn from the bond. Even more importantly, it is important to be aware of the potential risks involved.

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