TECHNICALLY SPEAKING, a bond is a loan and its holder is the lender. Who's the borrower? Usually, it's either the federal government, a state, a local municipality or a big company like General Motors. All of these entities need money to operate - to fund the federal deficit, for instance, or to build roads and finance factories - so they borrow capital from the public by issuing bonds.
Now for a little bond-speak. When a bond is issued, the price you pay is known as its "face value." Once you buy it, the issuer promises to pay you back on a particular day - the "maturity date"- at a predetermined rate of interest - the "coupon." Say, for instance, you buy a bond with a $1,000 face value, a 4% coupon and a 10-year maturity. As you can see in the applet below, you would collect interest payments totaling $40 in each of those 10 years. When the decade was up, you'd get back your $1,000 and walk away.
If you click on the "stack payments" button, you'll see how much that bond is worth today (this doesn't figure in the impact of inflation, which we'll discuss later). Play around with the term and interest rate to get a better feel for how these relationships work.
