The types of bond sector

"Bond" covers a very wide range. A loan to the UK government and a loan to a young company with something to prove are both bonds, and they behave nothing alike. Platforms and fund documents sort them into sectors, and these are the ones you will meet.

Government bonds

Developed market bonds. Governments in developed markets, such as the United States, the UK, Europe, Japan, Hong Kong, Australia and Singapore, issue bonds to raise money for their spending. That ranges from infrastructure, such as new roads or railways, to social programmes. These are generally considered lower risk, because the size of developed economies means their governments typically have a strong ability to meet their debts. In the UK they are called gilts.

Local government bonds. Regional or local governments also issue bonds, to finance public projects or cover general operating expenses. In the United States these are usually called municipal bonds, and are often used to fund schools, roads and other public infrastructure.

Quasi-government bonds. Issued by agencies linked to a government but operating independently. They use the money in much the same way, funding things like new schools or hospitals. Supranational bodies closely tied to national governments, such as the World Bank or the European Investment Bank, also issue debt that is considered quasi-governmental. Some agency bonds are guaranteed by the associated government and some are not, though the close connection means they are often treated as relatively secure.

Emerging market bonds. Issued by governments in less developed countries. These carry more risk, because the economies are less mature and lack the depth of developed markets. Emerging market governments issue bonds in both their own currency and in major foreign currencies such as US dollars or euros.

Corporate bonds

When a company wants to raise money for something, a new plant or an investment in technology, issuing bonds is one alternative to selling shares.

Like other fixed income, corporate bonds usually have a set lifespan and a fixed maturity date. Some are callable, meaning the terms allow the issuer to repay the bond before its scheduled maturity. Investors still receive the face value, but early repayment can change the yield they expected.

Depending on the company's size and financial health, its bonds fall into one of two broad categories.

Investment grade bonds are issued by robust, often well known companies with strong credit ratings, HSBC among them, suggesting a lower likelihood of default. Because they are seen as lower risk, those companies do not need to offer high coupons to attract lenders.

Non-investment grade bonds, also called high yield, are issued by companies with lower credit quality and a higher risk of default, Virgin Media being one example. New or less established firms are often treated as speculative until the business is proven. To compensate for that risk, they tend to offer higher yields.

Securitised bonds

Securitised bonds are backed by pools of financial assets, such as mortgages, car loans or credit card receivables. Those assets are bundled together and sold to investors as bonds, with the payments coming from the cash flows of the underlying loans. The common types are mortgage-backed securities, backed by residential or commercial mortgages; asset-backed securities, backed by consumer loans or leases; and collateralised loan obligations, backed by corporate loans.

They can offer attractive yields and useful diversification. They also carry risks tied to how the underlying assets perform and to how the security itself is structured.

Risk ratings

To help investors understand a company's risk profile, independent ratings agencies such as Standard and Poor's, Fitch and Moody's assess each business and assign it a score, such as AAA, BB or C. A rating can be upgraded if a firm's outlook improves, and downgraded if the quality of the issuer deteriorates.

The scale splits in two. Everything above the line is investment grade; everything below it is non-investment grade, which is the same thing as high yield. That line is the single most important division in the bond market, because it is where the extra income starts being compensation for a real chance that the loan is not repaid.

Investment grade

Standard and Poor's	Moody's	What it means
AAA	Aaa	Best quality, with the smallest risk. Issuers exceptionally stable and dependable.
AA	Aa	High quality, with a slightly higher degree of long-term risk.
A	A	High quality, with many strong attributes, but somewhat vulnerable to changing economic conditions.
BBB	Baa	Medium quality. Currently adequate, but perhaps unreliable over the long term.

Non-investment grade, or high yield

Standard and Poor's	Moody's	What it means
BB	Ba	Some speculative element, with moderate security but not well safeguarded.
B	B	Able to pay now, but a risk of default in the future.
CCC	Caa	Poor quality, with clear danger of default.
CC	Ca	Highly speculative quality, often in default.
C	C	Lowest rated, with poor prospects of repayment, though it may still be paying.
D	D	In default.

A rating is an opinion about the likelihood of being repaid, not a promise, and it is the agency's view on the day it was given. Ratings are reviewed, upgraded and downgraded. A fund holding a bond that is downgraded does not have to sell it, but the price usually moves before you hear about it.

How funds are grouped

The Investment Association sorts fixed income funds into sectors, which is how a platform will list them. In order of duration: Short Term Money Market, Standard Money Market, Sterling High Yield, Sterling Strategic Bond, Sterling Corporate Bond, UK Gilts, and UK Index Linked Gilts.

If a word here is doing more work than it explains, the glossary of bond terms defines them one by one, and understanding investment risk sets out what can go wrong inside a fund holding any of this.