A bond market is a financial market where investors trade bonds. It is also referred to as a credit market.
A government or company may issue a bond in the bond market when it wants to borrow money. Publicly traded companies issue bonds to finance a business expansion and to avoid giving up an ownership interest in the company (as they would if they had funded their growth by issuing more stock). The disadvantage of issuing a bond is the issuer must pay back a bond with interest. The cash disbursement may hamper the growth of a rapidly growing company. Governments cannot sell stock, so they issue bonds to avoid raising taxes. They may use the proceeds to finance a public need or repay a maturing bond.
Governments or companies initially issue a bond in the primary market. The proceeds from the sale are the only time the issuer receives funds. Investors may sell the bond in the secondary market. Bond prices are inversely related to interest rates. If market rates rise during the bond term, the bond’s value will fall; conversely, if rates decrease, the bond’s value will increase. The attached video is a skit explaining bonds and why bond prices and interest rates are indirectly related.
More money is traded in the bond market than in the stock market. According to the Securities Industry and Financial Markets Association, the average daily trading volume in the bond market in 2018 equaled $817 trillion, compared to $271 trillion traded on the New York Stock Exchange and NASDAQ. (2019 SIFMA Capital Markets Fact Book)
A bond market provides a bond with added liquidity by making it easier to sell. Small investors cannot purchase bank loans. Therefore they are not very liquid. However, loans can be packaged and sold as bonds. For example, most residential loans are securitized, meaning they have been converted into a pool of mortgages and sold as bonds in a bond market. But few investors have the time or ability to measure the credit risk of a bond. Credit agencies such as Standard & Poor’s, Fitch Ratings, and Moody’s provide the vital service of rating bonds to give an investor an understanding of the credit risk.
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