Types of Bonds

What types of Bonds are available?

There are many different types of bonds issued in the marketplace. Here we will discuss the main types that are traded.

Government Bonds

UK government bonds are referred to as 'Gilt-Edged' bonds or 'Gilts'. They are widely regarded as the safest bond investments since they are backed by the UK government and therefore they have the highest credit rating.

Supranational Bonds

These are bonds issued by institutions such as the European Investment Bank (EIB) and the World Bank. As with government bonds, they are regarded as the safest bond investments and have a high credit rating.

Corporate Bonds

Corporate bonds are those issued by companies. They are therefore more risky than government or supranational bonds because companies, even large, stable ones, are much more susceptible than governments to economic problems, mismanagement and competition. That said, corporate bonds can also be the most lucrative fixed-income investment, since you are generally rewarded for the extra risk you are taking. The lower the companies credit quality, the higher the interest you're paid.

Zero-Coupon Bonds

Zero Coupon bonds are fixed-income securities, which do not pay periodic interest like normal bonds. Instead, zero-coupon bonds are sold at a deep discount. The investor's total return is represented by the bond's appreciation to start at maturity.

Index-Linked Bonds

These are bonds in which both the coupon and the capital redemption are linked to the rate of inflation. Index-Linked bonds have a greater role to play in times of high inflation.

Convertible Bonds

Convertible Bonds are fixed-income securities, which may be exchanged by the owner for common stock, or another security, usually of the same company, in accordance with the terms of the issue. With regards to government bonds, the holder of this type of bond has the option to either elect for redemption of the bond or to convert the bond into a new issue of longer dated bonds. The conversion is at the discretion of the holder.

Permanent Interest Bearing Shares (PIBS)

Permanent Interest Bearing Shares (PIBS) are fixed interest securities issued by Building Societies to raise capital. PIBS are listed and traded on the London Stock Exchange. They have been available since 1991 but there are relatively few in issue as some Building Societies have demutualised and adopted Bank status.

PIBS can be bought and sold on the LSE in round amounts, usually varying from 1,000 shares up to 50,000 shares. No stamp duty is payable on purchases. Unlike Gilts, PIBS cannot be redeemed, so in order to sell there has to be a buying counterparty in the market, therefore you may not be able to sell when you want to. PIBS are relatively illiquid, as the number/amount in issue is relatively small.

Like other fixed interest securities if interest rates rise then the value of a PIBS goes down; conversely, if interest rates fall then a PIBS value rises. There are also variable rate PIBS, where the interest rate changes in line with interest rates generally. Interest is payable annually or six-monthly in arrears. Rates are normally higher than the returns for Gilts.

Risks

In the event of a Building Society becoming insolvent, all other investors would be paid first, and only if there was sufficient left would the PIBS holders be repaid.

Theoretically PIBS are riskier than other Building Society investments and therefore they generally attract a higher interest rate than ordinary Building Society cash accounts. Unlike other Building Society Investors, PIBS holders are not covered by The Financial Services Compensation Scheme.

Taxation

PIBS are exempt from Capital Gains Tax but income is subject to Income Tax on interest. Income is paid gross with tax deducted through an individual's tax return. PIBS can be held in Tax efficient Accounts such as the Trading ISA.