Most references to the securities market are incomplete without the usage of terms such as demat account, IPO, shares, debentures, bonds, mutual funds, and volatility.
Some of these terms are often used interchangeably despite their meanings being different, and bonds are debentures are two such terms.
In this article, we shall discuss
- Meaning of debentures and corporate bonds
- Differences between bonds and debentures
- Which is a better investment option for you – corporate bonds or debentures
What is a Debenture
Debentures are debt instruments issued by entities to borrow money for various purposes. While the issuer is termed as the borrower, the debenture holder is referred to as the lender.
The holders of debentures receive interest on a periodic basis on a fixed or floating rate (as determined at the time of the issue). There is no collateral backing debentures, which makes them relatively risky in the realm of debt based securities.
What is a Corporate Bond
Corporate bonds are debt instruments issued by companies to raise funds. Not only are such bonds protected by the creditworthiness of the issuing corporation, but they are also backed by collateral. The issuer of a corporate bond is termed as the borrower and the bond holder is referred to as the lender.
Corporate bonds carry a fixed rate of interest or coupon rate that is determined at the time of the issuance of the bond. Due to the presence of collateral, corporate bonds are considered low risk and stable investment options.
Differences Between Bonds And Debentures
There are several difference between bond and debenture. Firstly, bonds, including corporate bonds, have a collateral as security. On the other hand, debentures are essentially unsecured loans. Secondly, bonds are usually issued for the long term while debentures are issued for the short term or medium term.
Thirdly, bonds generally carry lesser potential for return than debentures. With regard to the degree of risk, bonds are considered less risky and more stable than debentures. During the liquidation of a company, bond holders get repaid before debenture holders.
Debenture Or Corporate Bond – Which Investment Option To Choose
While there is no universal answer to the question ‘which is a better investment option – bonds or debentures’, the answer lies in your investment goals and preferences as well as in the differences between bonds and debentures.
Debentures are an adequate investment option for you if you
- Seek high returns from your investments;
- Are ready to bear a high degree of risk;
- Do not consider the lack of collateral a deal breaker;
- Do not mind being repaid after the bond holders in the event of the issuing company’s liquidation.
Corporate bonds are a suitable investment option for you if you
- Wish to choose a stable investment option with fixed returns;
- Are not willing to bear a high degree of risk;
- Want the security of a collateral to protect your investment;
- Want to be repaid before the debenture holders in the event of a company’s liquidation.
The Bottomline
Whether you opt for debentures or corporate bonds (or both) in your investment portfolio depends on your idea of a suitable investment avenue, including the risk profile, the potential for return, the investment horizon, and the security of the capital.
Before choosing either (or both) types of debt based securities, you must carefully evaluate your investment plan and the credibility of the issuer of the corporate bond or debenture bond. We hope this guide on the differences between bonds and debentures and how to decide which is better for you is helpful to you.
