A junk bond is a bond that is rated below investment grade by credit rating agencies, meaning it carries a higher risk of default. Due to this higher risk, junk bonds offer higher interest rates (or yields) to attract investors.
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Junk bonds are issued by companies or entities with lower creditworthiness.
Junk bonds are often issued by companies with high levels of debt or those operating in volatile industries, which increases the risk that they may not be able to meet their debt obligations. To compensate investors for this risk, junk bonds typically pay higher interest rates than investment-grade bonds. While they offer the potential for higher returns, they are more susceptible to market fluctuations and economic downturns.
Investors in junk bonds should carefully assess the issuer's financial health and industry conditions before investing, as the risk of default could lead to significant losses.
Short example:
Suppose a company with financial difficulties issues a junk bond paying 8% interest.
An investor buys the bond to earn higher returns compared to safer bonds, but there is a risk that the company might not be able to repay the bond if its financial situation worsens.
Disclaimer: Investing brings risks. Our analysts are not financial advisors. Always consult an advisor when making financial decisions. The information and tips provided on this website are based on our analysts' own insights and experiences. Therefore, they are for educational purposes only.