Perpetual Bond

Definition

A perpetual bond, also known as a perpetuity or consol, is a type of bond with no maturity date. Investors who purchase these bonds receive continuous interest payments, or coupon payments, forever, or until the issuing entity chooses to buy back the bond. The principal amount is never repaid and stays intact.

Phonetic

The phonetics of the keyword “Perpetual Bond” is: /pərˈpeCH(o͞o)əl bänd/.

Key Takeaways

1. No Maturity Date: A perpetual bond, also known as a perpetual or just a perp, is a bond with no maturity date. This means it can be held indefinitely and the investor can receive interest payments forever, as long as the issuing company doesn’t default.
2. Fixed Interest Payments: Perpetual bonds provide a fixed stream of interest payments, usually for life. The interest, or coupon rate, is generally paid regularly (often annually or semi-annually) and does not vary over time.
3. Risk Factors: While perpetual bonds can provide a constant source of income, they also carry a unique set of risks. For instance, their values are highly susceptible to changes in interest rates. If interest rates rise, the fixed income provided by the bond becomes less attractive, and the bond’s price can drop.

Importance

Perpetual bonds, also known as perpetuities or ‘consols,’ are important in the world of business and finance because they offer a continuous and infinite stream of interest payments. They have no maturity date, meaning the principal is never returned to the investor, but the coupon payments (interest) are made indefinitely, potentially providing a steady income source. It’s essential to price them accurately as they can be an effective tool in managing interest rate risk, raising long-term capital or even crafting sophisticated investment strategies. Additionally, understanding perpetual bonds can provide insight into the time value of money, as they are greatly affected by changes in interest rates. This makes them a vital concept in modern financial theory.

Explanation

A perpetual bond, also known as a perpetual debenture or a perp, serves a crucial purpose in the finance world, providing a constant source of income with no expiry date, principally for the bond issuer. This mechanism allows corporations, institutions or government entities to raise capital indefinitely, making it an effective tool in maintaining financial stability and promoting growth. Unlike traditional bonds, which have a specific maturity date, a perpetual bond’s chief appeal lies in its principal never being repaid, meaning that interest is generated and dispensed to bondholders as long as they hold the bond. Beyond serving as a robust income stream, perpetual bonds are also used for portfolio diversification in investment strategies. Due to their potentially high yield and the steadfastness of returns, they are often eyed by investors looking to diversify their portfolio with riskier, yet rewarding, financial instruments. The lack of a maturity date means investors are secure in the knowledge that regular coupon payments will be made for the foreseeable future. However, it’s important to note that as these bonds bear a higher risk than conventional bonds, they often come with higher interest rates to compensate. Perpetual bonds thus provide a balance between risk and reward for both issuers and investors.

Examples

1. UK Government Consols: The British Government has issued Perpetual Bonds known as Consols. These bonds were first issued in the 18th century. The owner is paid a fixed interest amount each year indefinitely. 2. Certain Bonds by Companies: Some companies, particularly financial institutions, have issued perpetual bonds. For example, Barclays Bank issued a perpetual bond in 2012 that paid an annual interest of 7.625%. 3. Bonds by Educational Institutions: Some educational institutions have historically issued perpetual bonds to raise funds. Yale University in the United States issued a perpetual bond in 2010. This bond pays a yearly interest of 4.3% indefinitely.

Frequently Asked Questions(FAQ)

Related Finance Terms

• Coupon Rate
• Face Value
• Interest Payment
• Financial Market
• Credit Risk

Sources for More Information

• Investopedia
• Corporate Finance Institute
• The Balance
• WallStreetMojo