Investing in Bonds
INVESTING IN BONDS
The Malaysian capital market offers various investment products in the form of shares, unit trusts, bonds, warrants and derivatives. However, as an investor the type of investment product you choose to invest in is usually determined by several common factors such as investment goals, risk appetite and risk tolerance, investment time frame, and available cash to name a few.
In this article , we will discuss the investment product known as bonds. After reading this article, you will be able to:
- Identify the characteristics of bonds; and
- Make an informed investment decision when selecting a bond investment.
A bond is normally a long term debt securities offered by companies or governments (the issuer) to investors to meet their financing needs. A bond that is issued in compliance with Shariáh principles is known as Sukuk.
When investors buy bonds or sukuk, they become bondholders or sukuk holders. They are entitled to receive periodic coupon or a return on the principal or nominal amount raised by the issuer and upon maturity, the principal amount will be returned to the bond holder or sukuk holder. In layman’s terms, think of it as lending a company a principal sum for a stipulated amount of time, receiving a fixed return at predefined intervals, and then collecting the principle amount.
Retail bonds and sukuk may be issued and traded either on the exchange (Bursa Malaysia) or over-the-counter (OTC) via appointed banks.
Eligible issuers of bonds:
- the Malaysian Government and any company whose issuances are guaranteed by the Malaysian Government;
- A public company listed on Bursa Malaysia (PLC);
- A licensed bank;
- An unlisted public company whose bond and sukuk issuance is guaranteed by Danajamin Nasional Berhad, Credit Guarantee and Investment Facility or any of the eligible issuers above.
For retail bonds and sukuk, issuers are required to provide retail investors with a prospectus and would also need to meet with the relevant continuous disclosure requirements. Investors can access information on bonds and sukuk that they have invested in through Bursa Malaysia’s website, banks from whom they have purchased the bonds and sukuk, media announcements that may be made from time to time and any other platform as may be designated by the SC.
Where the bonds and sukuk are issued or guaranteed by the Malaysian Government, they would be exempted from the prospectus requirement. However, where they are issued and traded on Bursa Malaysia, they would need to comply with the relevant continuous disclosure requirements.
General guide for investing in bonds – We recommend you consider these factors when selecting a bond:
|Bond rating||Measures the investment grade of the bond i.e. the grade is assigned by credit rating agencies such as RAM Rating Services Berhad (RAM) and Malaysia Rating Corporation Berhad (MARC)
Government Exchange Traded Bonds (ETBS) and Sukuk are backed by the central government thus they are deemed to have a low credit risk.
Market risk: This is the risk of price fluctuation and is impacted by the demand and supply of bonds in the market.
Interest rate risk: This is the risk of price fluctuation due to changes in interest rate where a rise in interest rates will result in the lowering of the price of bonds.
|Risks||Credit risk: This is the risk that the bond/sukuk issuer is unable to pay the coupon/ distribution payments on the specified dates or the repayment of the principal amount to the holder at maturity.|
|Bond features (call or conversion)||Investors need to identify if their bonds have the additional feature of a call provision or a convertibility feature.
A “callable” bond means that the Issuer is able to redeem the bond before the maturity date at a price that is either fixed or based on a formula set out in the terms when the bond was issued. The “call price” is generally a small premium over the bond’s nominal value.
A convertible bond enables the investor to convert the bond into another security, typically an ordinary share, within a specified time period. The number of shares the investor will get will depend on the ‘conversion price’ as determined in the terms of the bond.
|Tax status||In Malaysia, there is a tax exemption on interest earned by individuals investing in bonds.|
|Yield to maturity||It takes into account the current coupon income and any capital gain or loss that the investor will get by holding the bond to maturity.|
|Trustee||A financial organisation that has been given fiduciary powers to ensure obligation of the bond contract is met between the bond issuer and the bondholder. They act in the interest of the bondholder.|
|Guarantee||The government, commercial or holding company that will act as a guarantor for the bond issuer in case of a default.|