Time to talk bonds. Yay!
Most investors think bonds are pretty boring but since bonds contributed to the recent recession I think it’s important to take a quick look at them.
The average person thinks that they borrow from the bank and they pay the bank because the bank is the owner of their debt. Wrong.
The banks, as much as I love to hate them lol, don’t want all your individual risk on their statements. What if you decide to stop paying? So they pass on your debt to someone else. But to be honest, bank number 2 doesn’t want the risk of you not paying either. So Bank 1 and Bank 2 strike a deal. Bank 1 will package your debt (car loan, student loan, credit cards, mortgage) along with debt from their other customers and by mixing good and bad together Bank 2 is more willing to accept the concoction. The bank packages this up and makes it even prettier by combining it with a monthly or twice a year (called semi-annual) payment. And there you have a bond.
Bonds come from companies that want to borrow, governments that want to borrow, and your next door neighbor that wants to build a new pool. Most bonds that you or I will buy come from businesses and local and federal governments.
When Uncle Sam wants to fund a war, or a bailout, he sells bonds. (Selling a bond is just a fancy way of saying borrowing money). Raise your hand if you know who buys lots of our bonds?
Winna Winna Chicken Dinna if you said China!
And I’m sure Goldman Sachs
What does all of this have to do with the recent recession? Well when one person or a drafting company decides not to pay their debt, then Bank 2 is still afloat. But when thousands of homeowners and car buyers stop paying, well Bank 2 is left with no choice but to stop paying its lenders and on goes the cycle until everything stops at Uncle Sam’s door. Isn’t it nice to have a rich uncle?
We’ll get more into bonds later but until then I’ll take a bond with a monthly coupon payment. Shaken. Not stirred.
Time for another blog plug.
If you like original content then check out flyasakite.tumblr.com It’s written by a friend of mine, Adam. He creates original videos and keeps you up to date on new music and movies that you probably haven’t heard of yet. He also posts often. Check it out today, you might even see Financial Success for Young Adults mentioned! 
Update 2/27/2011: Adam also recently starred in the short film Killzone: The Extraction Directed by Clinton Jones. The visual effects are amazing! Check it out at Pwnisher’s Youtube channel.
Photo credits
http://www.vistawallpaper.org/vista-movie-tv-wallpapers/free-james-bond-wallpaper/
http://www.vtcommons.org/image/uncle-sam-working-empire
http://www.hire4.co.uk/theme_nights.htm
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7 comments
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Paula @ AffordAnything.org says:
June 7, 2011 at 2:36 pm (UTC -4 )
I love your 007 Bond — Uncle Sam image!! How did you create it? That literally put a smile on my face.
LaTisha says:
June 8, 2011 at 8:53 pm (UTC -4 )
Thanks! I used a little of photoshop magic
101 Centavos says:
June 8, 2011 at 11:24 am (UTC -4 )
Great post , Latisha
I know enough about bonds to stay away from them – not my cup of tea these days.
But love the graphic, well done.
LaTisha says:
June 8, 2011 at 8:55 pm (UTC -4 )
Smart! Yeah, yields are ugly right now.
RJ says:
August 3, 2011 at 9:29 pm (UTC -4 )
Love the graphics and James Bond Idea.
Though I didn’t get the part of Bank 1 and 2 having an agreement.
In accounting parlance, Bonds are certificates that states the principal amount, interest rate and its payment term, and the maturity date. Usually this offspring from companies who want an additional capital of funds and its the banks who do the job of selling them.
FinancialSuccessforYoungAdults says:
September 17, 2011 at 11:51 am (UTC -4 )
Bank 1 and Bank 2 are a simplified example of creating a collateralized debt obligation or CDO. It’s too advanced to get into for this post but it is basically part of what caused the downfall of Lehman Brothers. Lehman Brothers were acting as Bank 1 and combining several debts to create a CDO. Then Bank 2 would buy that package and then AIG would insure it against default based on the rating given by Moody’s, Fitch or S&P. A growing bubble in the economy causes rates to rise, one homeowner with an adjustable rate mortgage defaults, then another, then another, until the package that Bank 2 bought is not paying anymore, they go to AIG to pay the insurance and AIG can’t handle all of the defaults so they need a bailout. There were so many advanced trading instruments that reached so far into the economy that this has been the worst recession we’ve seen since the Great Depression.
FinancialSuccessforYoungAdults says:
September 17, 2011 at 3:51 pm (UTC -4 )
Bank 1 and Bank 2 are a simplified example of creating a collateralized debt obligation or CDO. It’s too advanced to get into for this post but it is basically part of what caused the downfall of Lehman Brothers. Lehman Brothers were acting as Bank 1 and combining several debts to create a CDO. Then Bank 2 would buy that package and then AIG would insure it against default based on the rating given by Moody’s, Fitch or S&P. A growing bubble in the economy causes rates to rise, one homeowner with an adjustable rate mortgage defaults, then another, then another, until the package that Bank 2 bought is not paying anymore, they go to AIG to pay the insurance and AIG can’t handle all of the defaults so they need a bailout. There were so many advanced trading instruments that reached so far into the economy that this has been the worst recession we’ve seen since the Great Depression.
Put On For My City: Tax Free Bonds » Financial Success for Young Adults says:
June 13, 2011 at 8:38 pm (UTC -4 )
[...] just like a any other bond, it could be a coupon paying bond or non-coupon paying bond. But either way, the interest that is paid to you, is generally exempt [...]
Clipping Coupons » Financial Success for Young Adults says:
June 13, 2011 at 9:01 pm (UTC -4 )
[...] issues debt, otherwise known as a bond. The guy who decides to buy the bond, let’s call him James, is the bondholder. The bondholder gives Company A a lump sum of money and Company A gives James a piece of paper. [...]
How You Can Build Wealth » Financial Success for Young Adults says:
February 20, 2012 at 6:40 pm (UTC -4 )
[...] is highly risky to depend on the cash flow from a bond or a dividend paying stock only. When you are evaluating a bond for your portfolio, you will want [...]