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Corporate Bonds in India: Types, Advantages, and Disadvantages Research Team | Posted On Wednesday, December 19,2018, 05:29 PM

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Corporate Bonds in India: Types, Advantages, and Disadvantages



What are corporate bonds?

A corporate bond is a debt security issued by a corporation and sold to investors. The backing for the bond is usually the ability of the company to repay the borrowed amounts, which is the money that is earned from profits and future operations. Sometimes, the company's physical assets are pledged as collateral. Corporate bonds are debt securities, issued by both private and public corporations. Companies issue corporate bonds to raise money for a variety of needs, such as building a new plant, purchasing equipment, or growing the business.

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Corporate bonds in India:

Corporate bonds are debt securities issued by private and public corporations. When an investor buys a corporate bond he/she lends money to the "issuer," the company that issued the bond. In exchange, the company promises to return the money, also known as "principal," on a specified maturity date. Until that date, the company usually pays you a rate of interest, generally semi annually. 

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Types of corporate bonds:

Corporate Bonds can be broadly classified in the following categories. Listed below are the types of bond and their sub categories: 

Based on Maturity Period:

  • Short Term Maturity: Security with maturity period less than one year.
  • Medium Term:  Security with maturity period between 1 to 5 years.
  • Long Term Maturity: -These securities have maturity period more than 5 years
  • Perpetual: – Security with no maturity. Currently, in India, Banks issue perpetual bonds.

Based on Coupon:

  • Fixed Rate Bonds: the bonds contain a coupon that remains constant throughout the life of the bond.
  • Floating Rate Bonds: – Coupon rates are reset periodically based on benchmark rate.
  • Zero-coupon Bonds: The bond is issued at a discount on face value, and redeemed at par. There are no intermittent payments of interest.

SEE ALSO: What Is A Bond?

How to buy corporate bonds?

In India, an investor who wants to purchase bonds must have a Demat account. A Demat account enables the user to purchase and hold the bonds in an electronic format. In India, you can buy corporate bonds in the following ways:

  • Primary issue of a bond: Banks provide online application process for the purchase of bonds and equity. If the investors want to buy corporate bonds through Bond Trading Institutions, then Demat provides an offline process for buying bonds. You have to sign the IPO form and submit it along with the payment cheque.
  • Secondary market purchase: You can buy bonds from Bond Trading Institutions. The process is offline wherein, based on whatever bond is available in the market for purchase (secondary), you can make the purchase by paying them the agreed price via online RTGS.

High yield corporate bonds:

Yield is a tool that is used to measure the amount of returns the investor gains from one bond against another. It enables one to make informed decisions on which bond to buy. In essence, yield is the rate of return on bond investment. However, it is not fixed, like a bond's stated interest rate. It changes by reflecting the price movements in a bond caused by fluctuating interest rates.

  • The current yield is the annual return on the amount paid for a bond, regardless of its maturity. If you buy a bond at par, the current yield equals its stated interest rate. Thus, the current yield on a par-value bond paying 6% is 6%.
  • However, if the market price of the bond is more or less than par, the current yield will be different. For example, if you buy a Rs 1,000 bond with a 6% stated interest rate at Rs 900, your current yield would be 6.67% (1,000 x 0.06/ 900).

Corporate bonds advantages and disadvantages:

The advantages of corporate bonds are as follows:

  • Liquidity: Many corporate bonds trade in the secondary market, which permits investors to buy and sell these securities, after they have been issued. By doing so, investors can potentially benefit from selling bonds that have risen in price, or buying bonds after a price decline.
  • Number of options: An investor can choose from various types of bonds and can invest in long term or short term bonds.
  • Greater gains: As investing in corporate bonds carries greater risk than government bonds, investing in corporate bonds can yield a greater profit and has higher growth potential than government bonds.

The disadvantages of corporate bonds are as follows:

  • Risk: they contain a higher risk than government bonds and the investor has a greater risk of losing money.
  • Rate fluctuations: They may fall in value if interest rate or inflation expectations rise.
  • Long term investment: the corporate bonds are unlikely to match long run returns on equities.

Corporate bonds interest rate:

Corporate bonds are considered to have a higher risk than government bonds. As a result, interest rates are almost always higher on corporate bonds.

See Also: corporate tax in india

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