You can sell most bonds any time before maturity, and current interest rates are the main factor that affects the price;
- A bond value will decrease if interest rates rose since you bought the bond
- A bond value will rise if interest rates fell since you bought the bond
However if you hold to maturity you will usually be repaid in full. Note perpetual bonds never mature.
- the financial health of the bond issuer
- the reset provisions (if any )
- availability of new bond issues (not many in 2012)
- supply & demand
But what if you need your money before maturity?
The value of your bonds will rise if interest rates fall, so you may make a profit (taxable*).
The value of your bonds will fall if interest rates raise, so you may not get back what you paid for your bond – a loss (tax deductible*).
*Accruals tax legislation
If you own perpetuals that never mature, you can only ever sell at the market price, which will depend on the reset provisions, plus all the other factors as above.
A good story
If you bought $10,000 Telecom bonds maturing 2015 @ 8.65% and wanted to sell out today, you would get close to $11,000 - why?
Because investors would dearly like to get 8.65% today, but they cannot get anywhere near it.
Accordingly they (the market) will pay you a premium if you will sell your Telecom bond to them.
A nasty story
Around 2002 to 2007 several perpetual bonds were issued that reset the rate annually. The reset provision was commonly the one year swap rate plus about 1%.
After 2007, money was hard to borrow, and so a lot of new bonds were issued with much better reset provisions. The older bonds are much less popular today, and so trade at a big discount.
If you bought Rabobank (ROBHA) perpetual bonds at issue, you were getting over 7% from an AAA rated company – now you are getting a paltry 3.8% pa.
If you invested $10,000 and want to sell out today, you will get $8,200.
Yes an AA rated company but still a loss if you need out.
This is just one example; some other big names issued perpetuals that are down to $7,000 per $10,000 invested.
Long bonds that mature after 10 or 20 years also are a worry, so much can happen over 10 or 20 years (just too long) , and so the bond may or may not trade at a good price – to egt your money back in full you may have to a wait until maturity – a long time. If you need the money sooner, you may or may not make a loss. But commission salesmen will still try and sell them to you. Be careful.
It is interesting that our preferred bond fund (DFA) does not go past 5 year maturities – never.