Bonds are mainly traded over-the-counter, making the process complex. Bond brokers serve as intermediaries between buyers and sellers, but there is no central market to determine a bond’s value. Researching past trades can help investors determine a bond’s true value.
Investing in bonds can be a complex process. This is because, unlike stocks, bonds are mainly traded over-the-counter (OTC) where there is no central pricing entity. Instead, prices are negotiated between brokers, either over the phone or over the Internet. Bond brokers are there to streamline the process of buying and selling corporate bonds. Their job is to serve as intermediaries between buyers and sellers of bonds, mainly in the institutional market, but also for individual investors.
Bonds are traded on the fixed income market and provide a steady stream of income to investors in the form of interest and principal payments. These trading instruments are widely considered to carry less risk than stocks, because for investors to not get paid, a company or government must default or declare bankruptcy. Stocks, which are traded by broker-dealers, can be much more volatile, offering investors the opportunity for higher rewards but also heavier losses.
Although bonds tend to be less risky than stocks, one drawback is that because these securities are not traded on a formal exchange, there is no central market to determine or verify a bond’s value. Instead, bond brokers are largely responsible for setting prices. They do this by buying bonds from one institutional investor and selling them to another.
The difference between the bid and ask price is called the spread, and bond brokers keep this difference as profit. A spread is masked because it is included as part of the price of a bond, and bond brokers are not required to disclose how much they earn on each trade. In the United States, a bond broker is required by law to only earn a spread that is fair, even though such supervision can be interpreted subjectively.
There are ways to research bond prices to get an idea of what the market value is for a security rather than just taking a bond broker’s word for it. The Internet is a valuable tool for researching past trades. In the US, the Financial Industry Regulatory Authority provides price information for bond offerings. By researching past deals, an investor can learn the current price of a specific bond or one with similar trading characteristics to the one he or she is interested in trading. As a result, an investor is better able to determine the true value of a bond and the profits that bond brokers generate.
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