InvestorQ : What are the junk bonds or the high yield bonds?
varsha Motwani made post

What are the junk bonds or the high yield bonds?

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Niharika Kamble answered.
11 months ago

Bonds are fixed-income debt instruments that corporations and governments issue to investors to raise capital. At maturity, the investor is repaid the principal amount invested. Most bonds pay investors an annual interest rate during the life of the bond, called a coupon rate.

Bonds that have a high credit rating are known as investment-grade bonds. Bonds that are likely to default are called speculative or non-investment grade. Low-grade bonds may be issued by the companies which are financially not sound or with questionable ability to meet their debt obligations. Because most brokers do not invest in these low-grade bonds, they are known as junk bonds. 

However, these bonds are issued at a very high-interest rate they are also referred to as high-yield bonds. 
Companies that issue junk bonds are typically start-ups or companies that are struggling financially. Junk bonds carry risk since investors are unsure whether they'll be repaid their principal and earn regular interest payments.

As a result, junk bonds pay a higher yield than their safer counterparts to help compensate investors for the added level of risk. Companies are willing to pay the high yield because they need to attract investors to fund their operations. On junk bonds, higher yield is needed to help offset any risk of default.

Junk bonds return higher yields than most other fixed-income debt securities and improve in the financial situation of the company’s result in the improved credit rating of the bonds. The prices of junk bonds also increase. Junk bonds have a higher risk of default than most bonds with better credit ratings. Junk bond prices can exhibit volatility due to uncertainty surrounding the issuer's financial performance.

Companies with poor credit ratings typically offer high yields to attract investors and to compensate them for the added level of risk. Junk bonds are typically rated 'BB' or lower by Standard & Poor's and 'Ba' or lower by Moody's.