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About Corporate Bonds

Factors That Affect the Price of Fixed-Income Securities

Fixed-rate capital securities have certain risks in common with other fixed-income securities. These risks affect the market price of the securities, which in turn affects their yield. In general, investors demand higher yields to compensate for higher risks. The risks of fixed-income securities include:

Interest Rate Risk The market value of the securities will be inversely affected by movements in interest rates. When rates are rising, market prices of existing debt securities will fall, as demand increases for new-issue securities with the higher rates. As prices decline, yields are brought into line with the prevailing rates. When rates are falling, market prices will rise, because the higher rates on outstanding debt securities will be more valuable. Here, too, the market works to align the yields with prevailing rates. Downward trends in interest rates also create reinvestment risk, or the risk that income or principal repayments will have to be invested at lower rates. Reinvestment risk is an important consideration for investors in “callable” securities.

Credit Risk The safety of a fixed-income investor’s principal depends on the issuer’s credit quality and ability to meet its financial obligations. Issuers with lower credit ratings usually have to offer investors higher yields to compensate for the additional credit risk. A change in either the issuer’s credit rating or the market’s perception of the issuer’s business prospects will affect the value of its outstanding securities.

Purchasing Power Risk Fixed-income investors often focus on the real rate of return, or the actual return minus the rate of inflation. Rising inflation has a negative impact on real rates of return, because inflation reduces the purchasing power of the investment income and principal.

Price Risk Investors who need access to their principal prior to maturity have to rely on the available market for the securities. Although investors in fixed-rate capital securities may take advantage of the exchange listing for retail offerings to sell their shares prior to maturity, the price received may be more or less than the purchase price as a result of these dynamic risk factors.

 

All information and opinions contained in this publication were produced by the Securities Industry and Financial Markets Association from our membership and other sources believed by the Association to be accurate and reliable. By providing this general information, the Securities Industry and Financial Markets Association makes neither a recommendation as to the appropriateness of investing in fixed-income securities nor is it providing any specific investment advice for any particular investor. Due to rapidly changing market conditions and the complexity of investment decisions, supplemental information and sources may be required to make informed investment decisions.