Bonds may be secured or unsecured. To be secured is to be backed by collateral--the money or physical assets that a bond issuer must give to investors if the bond defaults.
Securing ensures that capital will be available to pay the principal on a bond. Corporate bonds and municipal bonds may be secured or unsecured. Federal government bonds, however, are unsecured.
You will learn first about some major types of secured bonds. After this, we will introduce unsecured bonds, also called debentures. Instead of securing them with some kind of collateral, the issuer "backs" these bonds with its creditworthiness.
Secured bonds are given names that reflect the type of collateral …show more content…
Unsecured bonds, also called debentures, are not backed by equipment, revenue, or mortgages on real estate. Instead, the issuer promises that they will be repaid. This promise is frequently called "full faith and credit."
Why issue unsecured bonds? Some companies do not have enough assets to collateralize. Other companies are established and are therefore trusted to repay their debts. As for governments, they can raise taxes if they need to pay off bondholders.
Unsecured bonds naturally carry more risk than secured bonds. However, they usually pay higher yields.
If a company issuing debentures liquidates, it pays holders of secured bonds first, then debenture-holders, and then owners of subordinated debentures.
Types of Unsecured Bonds
To meet its financial needs, the U.S. government issues Treasury bonds. It issues them with the full faith and credit of the federal government. Because the U.S. government, of all issuers, has the best ability to repay, Treasury bonds are considered the safest from default and are very popular with investors.
General obligation bonds (GO bonds) are municipal bonds without backing. The creditworthiness of the issuing city or state is the only security they provide. GO bonds finance municipal operations. In the event that an issuer