What is a Junk Bond?
A junk bond is typically a high-interest loan with relatively unfavorable terms to compensate for a high risk of default. Junk bonds are a type of high-yield debt, and by far the most common. Bonds are rated according to the credit rating of the borrower. In the US, the major rating agencies are Fitch, Standard and Poor’s, and Moody’s. The rating scheme in descending order of value is: AAA, AA, A, BBB, BB, B, CCC, CC, C, D. Anything rated BB or below is generally considered to be a junk bond because the credit risk is so great. In the modern economy, bonds are traded like any commodity. Investment companies try to maximize their profit by balancing the safety of an investment with the cost of the bond on the market. Junk bonds are very attractive to some investment groups because of their low cost. In some cases, an investor may be prohibited by the bylaws of the group they belong to, such as a company pension fund, from purchasing any bonds rated below A or BB. This limitation makes t
From a technical point of view, a junk bond is exactly the same as a regular bond. Junk bonds are an IOU from a corporation or organization that states the amount it will pay you back (principal), the date it will pay you back (maturity date) and the interest (coupon) it will pay you on the borrowed money. Junk bonds differ because of the credit quality of their issuers. All bonds are characterized according to this credit quality and therefore fall into one of two categories of bonds: • Investment Grade – These are bonds are issued by low- to medium-risk lenders. A bond rating on investment grade debt usually ranges from ‘AAA’ to ‘BBB’. Investment grade bonds might not offer huge returns, but the risk of the borrower defaulting on interest payments is much smaller. • Junk Bonds – These are the bonds that pay high yields to bondholders because the borrowers don’t have any other option. Their credit ratings are less than pristine, making it difficult for them to acquire capital at an in
Like a regular bond, a junk bond is a loan to the company or government entity that issues the bond. The issuer agrees to pay back the money loaned, or principal, at an agreed upon date called the maturity date. The issuer also pays interest at specified intervals, perhaps once every six months. Ratings Junk bonds are different because they have low ratings from credit rating agencies such as Moody’s, Standard & Poor’s and Fitch. These rating agencies make a judgment about the likelihood that a bond will be able to pay interest or repay the principal on the bond’s maturity date. They assign ratings ranging from AAA for the strongest bonds to D for the riskiest. Junk bonds are those rated BB or lower by Standard & Poor’s, Ba or lower by Moody’s. Background Originally, the term “junk” was used for bonds from formerly strong companies experiencing financial difficulties and downgraded credit ratings. It was not until the late seventies that the first new bonds issued with a junk rating we
Beginning in Yahoo!’s Bonds category, we were only a hop, skip, and a click away from a definition of junk bond. We selected Bonds Online and, once there, found a Glossary in the Investor Basics section. We wanted to start with a working definition of bond: A certificate which is evidence of a debt in which the issuer promises to repay a specific amount of money to the bondholder, plus a certain amount of interest, within a fixed period of time. We didn’t find an entry for junk bond, so we clicked on a different link, Bond Professor’s Glossary. There we learned that a junk bond is: A bond rated lower than Baa/BBB. Also called a high yield bond. Bonds with credit ratings below Baa/BBB are considered speculative compared with inves
