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Debt securities are debts that can be bought or sold between parties prior to maturity. But how much do you know about the features of debt securities? Get a little more information about debt securities, starting with our debt securities definition.
Debt securities definition
The term “debt securities” has a number of meanings, but generally, it refers to financial instruments that contain a promise from the issuer to pay the holder a defined amount by a specific date, i.e., the point at which the debt security matures. They’re negotiable instruments, which means that ownership can be transferred from one party to another easily. Bonds (government, corporate, or municipal) are one of the most common types of debt securities, but there are many different examples of debt securities, including preferred stock, collateralized debt obligations, euro commercial paper, and mortgage-backed securities.
Understanding the features of debt securities
There are several standard features of debt securities that it’s a good idea to pay attention to. These include, but aren’t limited to, the following:
Coupon rate – This refers to the interest rate that issuers need to pay. Coupon rates can be fixed throughout the life of the security or vary depending on inflation and the economy.
Issue date/price – This refers to the price and date at which the debt security was first issued.
Maturity date – This refers to the date that the issuer needs to repay the principal and remaining interest. It’s important to note that term length will have an effect on price and interest rates as investors look for higher returns with longer investments.
Yield-to-maturity – This refers to the annual rate of return that investors expect to earn if the debt is held to maturity. It’s used to compare debt securities with different maturity dates.
As you can see, there are a couple of typical features of debt securities that you should familiarise yourself with if you want to invest in these types of financial instruments.
Debt securities vs. equity securities
There are a couple of fundamental differences between equity securities and debt securities. Essentially, equity securities are a claim on the assets/earnings of a business, whereas debt securities are investments in debt instruments. In addition, equity securities don’t provide guaranteed dividends, which means that there’s no specific rate of return.
Impairment of debt securities
Impairment is a reduction in the value of an asset due to a decline in its quantity, quality, or market value. Although it’s a relatively complex accounting concept, essentially, it means that you’ll need to account for any impairment losses on your company’s profit and loss account. You can do this by comparing the recoverable value of the asset with its book value before writing that amount as a loss. So, the impairment of debt securities refers to situations where the fair value of the debt security is less than its amortized cost basis.
What is the benefit of investing in debt securities?
There are many advantages for investors associated with debt securities. Firstly, they’re designed to provide investors with repayment of their initial capital investment, plus interest, upon maturation. It’s also important to remember that they provide guaranteed, regular payments through interest, providing a steady stream of income. Finally, debt securities can be an effective way of diversifying your portfolio, helping you manage risk.
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