09 – Bonds: What They Are and How They Work. An Irreplaceable Guide

Lesson 9 – The Best Free Finance Course in History

In this lesson, we'll talk about bonds, their characteristics, and how they can be a good investment option.

Course index:

1. Basic Concepts of Money and Personal Finance
   Introduction to the value of money, the importance of saving, and spending control.
2. Budgeting and Financial Planning
   Create a personal budget, manage income and expenses, and set financial goals.
3. Inflation and Purchasing Power
   Explanation of how inflation affects the value of money over time.
4. Interest Rates and Time in Finance
   Differences between simple and compound interest rates and their importance in investments.
5. How to protect your savings. Protect yourself from scams.
   How to protect your money from the scams that abound today
6. Basic Savings Instruments
   Explanation of savings accounts, term deposits, and how they work.
7. Introduction to the Stock Market
   Basic concepts of the stock market and its role in the global economy.
8. Actions: What They Are and How They Work
   Explanation of stocks, types (common and preferred), and how to invest in them.
9. Bonds: What They Are and How They Work <<<<<<
   Differences between corporate and government bonds, and their importance in diversification.
10. Risk vs. Return on Investments
    Concept of risk and how it affects investment choices.
11. Diversification and Creation of Basic Portfolios
    Basic diversification principles to reduce risk in an investment portfolio.
12. What is an ETF and How Does it Work?
    Introduction to ETFs (exchange-traded funds) and how they track market indices.
13. Introduction to Mutual Funds
    An explanation of mutual funds and their benefits for beginners.
14. Financial education for the family.
15. Economic Cycle and its Impact on Investments
    How the stages of expansion and contraction in the economy affect investments.
16. Growth Stocks vs. Value Stocks
    Differences between these types of actions and when each is appropriate.
17. Fundamental Analysis of Stocks
    Explanation of how to analyze a company's value based on its fundamentals.
18. Basic Technical Analysis: Charts and Patterns
    Introduction to basic technical analysis tools, such as trend lines and candlestick patterns.
19. Options: What They Are and How They Work
    Basic concepts of call and put options and their uses in investments.
20. Futures: What They Are and How They Work
    Introduction to futures contracts and their application in investment and speculation.
21. Introduction to Cryptocurrencies
    What is digital money, how it was created, and the characteristics of Bitcoin and other cryptocurrencies.
22. Blockchain and its Importance in Finance
    How the technology behind cryptocurrencies works and their applications in finance.
23. Risks in Cryptocurrency Trading
    Volatility, fraud, and regulations in the cryptocurrency market.
24. Leverage Principles and its Risk
    What it means to trade with leverage and the associated risks.
25. Investor Psychology and Emotion Management
    How emotions influence investment decisions and tips for managing them.
26. What is Algorithmic Trading
    Basic explanation of the use of algorithms to perform operations in the financial market.
27. Financial Analysis of Companies
    Introduction to basic financial statements and their interpretation for valuing companies.
28. Investing in Commodities: Gold, Oil, and Other Goods
    How commodity investments work and their role in diversification.
29. Advanced Investment Strategies: Hedging and Derivatives
    Introduction to strategies for managing risks through financial derivatives.
30. Creating and Managing a Complete Portfolio
    Practical application of prior knowledge to build and manage a diversified portfolio.

All About Bonds: What They Are and How They Work

Welcome to this new lesson where you'll learn about bonds. If you've never heard of them or they sound like something boring for serious adults, don't worry. We'll go slowly, using easy words, and you'll be able to understand everything. Shall we begin?

What are Bonds?

Imagine yourself as a superhero who lends money. A bond is a piece of paper (or rather, an agreement) where someone tells you: "I'm borrowing money from you and I promise to pay it back later, with a little extra as a thank you." That "someone" can be a company, like a toy manufacturer, or even a country's government.

For example, let's say the government needs money to build a bridge. It asks you for 100 pesos and gives you a bond. That bond says, "I'll pay you back your 100 pesos in 5 years, and each year I'll give you an extra 5 pesos for helping me." Those 5 pesos are like a reward for lending them your money. When the 5 years are up, they give you your 100 pesos back, and the deal is over.

So, a bond is like a loan you take out, but with clear rules. You buy it on a special market (similar to the stock market) and earn something in return while you wait.

What are Bonds for?

Bonds have two sides, like a coin:

1. They help those who borrowThe government or company uses that money to build big things, like bridges, schools, or candy factories. Without bonds, they wouldn't have the money for that.
2. They give you a way to win: You lend your money and they pay you an extra (called interest) for waiting. It's more relaxing than stocks, because you know how much you'll get if everything goes well.

It's like a friendly deal: they achieve their dreams, and you grow your money little by little.

Types of Bonds

Not all bonds are created equal. There are several types, and we'll explore the most important ones with simple examples so you can easily understand them.

• Government Bonds: They're issued by countries, like Argentina or the United States. They're like borrowing money from a very trustworthy friend who will almost certainly return it. For example, a government bond might say: "Give me 100 pesos and I'll give you 5 pesos a year for 10 years." They're safe, but they don't pay that much extra. Although, well... in Argentina, for a long time, we were the dirty uncle who never paid and was even proud of it (a separate topic).
• Corporate Bonds: They're made by companies, like a cookie factory. They're a little riskier, because if the company goes bankrupt, you might not get paid. But they usually offer higher interest. For example: "Lend me 100 pesos and I'll give you 8 pesos a year for 5 years."
• Short or Long BondsSome pay you back quickly (in 1 or 2 years), while others take longer (up to 20 years). Short-term loans are like a quick loan; long-term loans are like waiting for a tree to grow.
• Safe or Risky BondsThere are bonds that are almost guaranteed to pay off (they call them “investment grade”), and others that are riskier (they call them “junk bonds”). It’s like choosing between lending to your serious brother or your crazy cousin who sometimes forgets to pay back.
• Zero Coupon BondsThese are special and a little magical. They don't pay you interest like the others. Instead, you buy them at a discount and get more back at the end. For example, you buy a zero-coupon bond for 70 pesos and in 5 years you get 100 pesos. There are no payments in between; the entire prize comes at the end. It's like a friend saying: In 5 years, I'll give you 1,000 pesos. How much will you give me now? Depending on your friend's trustworthiness and other factors, you might lend them 90, 95... or maybe less.
• Bonds with Early Capital PaymentsThese are like bonds that pay you back bits and pieces of your money ahead of time. Imagine you borrow 100 pesos for 5 years, but each year you get 20 pesos of your principal back, plus a little interest. At the end of the fifth year, you've already been repaid in full, but in installments. It's like a friend who pays you back their debt in installments instead of all at once.
• Indexed BondsThese bonds are great because they adjust to how the prices of things rise (inflation). If you lend 100 pesos and inflation makes everything more expensive, the bond grows so you don't lose purchasing power. For example, an indexed bond might say: "I'll give you 5 pesos per year, but if prices rise 10%, I'll give you 5.50 pesos." It's like a bond that stretches to remain worth the same.

Duration: How Long Do I Pay for the Loan?

The duration It's a strange word, but I'll explain it easily. It's not just how long it takes for them to pay you back, but how you "feel" that time depending on the interest you're paid. Imagine you borrow 100 pesos with a bond that gives you 5 pesos a year and you get it back in 10 years. The duration tells you how much weight that bond has in your life.

If interest rates rise or fall, duration changes how risk is felt. For example:

• A long bond (10 years) with low interest (2 pesos per year) feels heavier, because you are expecting a lot for little money.
• A short bond (2 years) with good interest (10 pesos per year) feels lighter.

With zero-coupon bonds, the duration is equal to the total time, because there are no payments in between. If it's 5 years, the duration is exactly 5 years. With bonds with early or regular payments, the duration is shorter because you receive money sooner. It's like measuring how much patience you need for each type.

The IRR: How Much Do I Really Earn?

The IRR (Internal Rate of Return) is the key indicator that tells you how much you'll earn in total from a bonus, adding up everything you're paid. It's the percentage that summarizes your winnings.

For example, you buy a bond for 90 pesos that promises to return 100 pesos in 1 year, plus 5 pesos in interest. Do the math:

• You spent 90 pesos.
• You receive 105 pesos (100 + 5).
• You earned 15 pesos.

The IRR would be like 16% (15 ÷ 90), because that's the "real return" on your money in one year. With a zero-coupon bond, the IRR is calculated only at the end: if you pay 70 pesos and get 100 in 5 years, the IRR is what makes it grow 70 to 100 (about 7% per year). If you buy it for less than its final value, the IRR goes up. If you pay more, it goes down. It's like a magic calculator that shows you how much your money has grown.

Why Do Bond Yields Rise When Prices Fall (and Vice Versa)?

This sounds strange, but it's super important, and we'll have fun understanding it. Imagine bonuses as ice cream on sale.

• High price, low performanceSuppose a bond is worth 100 pesos and pays you 5 pesos per year. The yield is 5% (5 ÷ 100). It's like paying full price for ice cream: it's delicious, but it's not a bargain.
• Low price, high performanceNow, that same bonus drops to 50 pesos (because people don't want it as much). It still pays you 5 pesos per year. The yield rises to 10% (5 ÷ 50). It's like buying ice cream on sale: for less money, you get the same amount, so you earn more.

Why does this happen? Because the interest paid by the bond (those 5 pesos) doesn't change in regular bonds. If the price goes down, those 5 pesos are a larger part of what you paid, and the yield goes up. If the price goes up, the 5 pesos are a smaller part, and the yield goes down. In zero-coupon bonds, the yield goes up if you buy it at a lower price, because you still get the 100 pesos in the end. It's like a seesaw: price up, yield down; price down, yield up.

For example, if the government raises interest rates, older bonds (with lower interest rates) become less popular, their price falls, and their yield rises to attract buyers. It's a magical numbers game!

Yield Curves: What Do Bonds Draw?

The yield curve It's like a drawing that shows how much bonds pay based on how long it takes to pay you back. Imagine a line on a piece of paper:

• Normal curve: It goes up slowly. Short-term bonds (1 year) pay less (say 3%), and long-term bonds (10 years) pay more (say 6%). It's like waiting longer for a bigger ice cream cone: you get a reward for being patient.
• Flat curve: They all pay the same, regardless of the term. A 1-year bond is 5%, and a 10-year bond is also 5%. It's weird, as if all ice creams cost the same, whether small or large.
• Inverted curveShort positions pay more (6%) and long positions pay less (3%). It's the other way around, as if you were given a giant ice cream sundae for waiting a short time and a tiny one for waiting a long time. This sometimes warns that things in the economy might get ugly.

With indexed bonds, the curve can shift more because the interest rate is adjusted for inflation. This curve helps predict the country's performance. If it's normal, everything is going well. If it's inverted, pay attention.

How to Buy Bonds?

If you're interested in trying it, it's not difficult. Here are the basic steps:

1. Learn a little bit: Read this or watch easy videos to understand how they work.
2. Find an ALyCIt's like an assistant who buys bonds for you on the stock exchange. You search for "ALyC" online, open an account, and deposit money (it could be 100 pesos to start).
3. Choose your bonusThere are lists of government or corporate bonds. For example, you can buy a zero-coupon bond from "Galletitas Dulces" for 70 pesos that gives you 100 pesos in 5 years, or an indexed bond that grows with inflation.
4. Wait and get paidWith a normal bond, you get the interest each year and the principal at the end. With a zero-coupon bond, you expect it all at the end. With early payments, you collect small amounts sooner.

It's like lending money to a friend, but with a contract that guarantees you the reward.

A Look at the Argentine Bond Market

Sovereign bonds in Argentina are debt instruments issued by the government to finance its obligations. In recent years, they have gained importance in the local financial market due to foreign exchange restrictions and the search for alternatives to dollarize savings. These bonds, such as the AL30, are issued in dollars but can be bought and sold in pesos in the Argentine market, making them a key tool for accessing foreign currency through transactions such as the MEP (Electronic Payment Market) dollar.

The AL30, known as Bonar 2030, is a bond issued under local legislation following the 2020 debt restructuring, maturing in 2030 with semiannual interest payments plus principal amortizations beginning in July 2024. Its popularity stems from its high liquidity and its accessibility to retail investors and large operators.

The distinction between AL30 and AL30D arises from secondary market operations. The AL30 represents the bond's price in pesos, while the AL30D reflects its value in dollars. This is directly related to the bond's exchange rate mechanism. MEP dollar: An investor buys the AL30 bond with pesos, waits one business day for “parking” (a mandatory holding period imposed by the National Securities Commission), and then sells it as AL30D to obtain dollars in a local account.

This process provides access to an implicit exchange rate, generally more competitive than the informal ("blue") dollar, although subject to bond price volatility and market conditions. The difference between AL30 and AL30D does not mean they are different bonds, but rather two "species" of the same instrument, priced in different currencies to facilitate these transactions.

A little history of Argentine bonds

The AL30 exists as part of the 2020 debt restructuring led by then-Minister Martín Guzmán, where defaulted bonds were exchanged for new securities with lower principal reductions but reduced interest rates (around 0.75% per year for the AL30). Its design seeks to attract investors and ensure a degree of fiscal sustainability, although its market price has been influenced by perceptions of country risk and economic and political expectations.

Compared to foreign-issued bonds like the GD30 (Global 2030), the AL30 typically trades at a lower value due to the greater legal uncertainty associated with local law, which generates a spread that investors exploit for arbitrage. Thus, the AL30 and its operations reflect both a financial tool and a gauge of confidence in the Argentine economy, oscillating between being a refuge from inflation and a speculative gamble in a context of high uncertainty.

Key Things to Remember

Let's review some important ideas so that they stick with you:

• Bonds are loans: You give money and they give it back to you with an extra.
• Risk and rewardInsurance companies pay less; risk takers pay more.
• Price and performance: If the price goes down, the yield goes up, and vice versa.
• Patience: You won't get rich quick, but it's a quiet way to earn.
• Weird guysZero-coupons give you everything at the end, advances give you in parts, and indexed coupons grow with prices.
• Don't use urgent money: Only lend what you don't need to eat or pay bills.

An Example

Imagine you buy an index-linked bond from "Juguetes Locos" for 100 pesos. It promises you 5 pesos per year for 5 years, adjusted for inflation, and will return 100 pesos at the end.

• Year 1Inflation rises by 10%, so you get 5.50 pesos. The bond price rises to 105.
• Year 2Inflation drops, they give you 5 pesos. The price drops to 95.
• Year 5: You charge 5 pesos (adjusted) and they give you back 100.

Total: You spent 100 pesos, received about 27 pesos in interest (adjusted) + 100 = 127 pesos. You earned 27 pesos in 5 years. If it were a zero-coupon rate, you'd spend 70 pesos and get 100 pesos at the end. It's like choosing your own adventure.

Why Try Bonds?

Bonds are like a game of patience that makes your money grow slowly. They're not as crazy as stocks (which rise and fall quickly), but rather more sedate. If you like the idea of lending and collecting a reward, they could be for you, either with annual payments, all at the end, or adjusted to prices.

Some tips to get started:

• Go boy: Try 10,000 or 20,000 pesos to see how it feels.
• I chose something simple: A government bond or zero coupon is easy to practice.
• Look at the weatherIf you don't want to wait too long, look for a short-term contract or one with advance payments.
• Ask: If you don't understand something, your ALyC or a friend can explain it to you.

In summary

You've made it to the end! I hope you now know what bonds are, how they're classified (government, corporate, short, long, zero-coupon, forward, indexed), what duration is (how time feels), IRR (your total return), why yields rise when prices fall, and what yield curves represent. Bonds are like lending money to a friend with a clear plan: they pay you extra and then pay you back in full, in various ways.

Don't worry. Think about whether you like this idea and start whenever you want. It's not difficult or just for geniuses; anyone can learn, and you've already understood a lot by reading this. Thanks for joining me on this adventure, and I hope it helps you explore the bonuses if you're up for it! I'll see you in the next lesson! And don't forget, any questions you have can be left in the comments, and I'll answer them as soon as possible.

Further reading

We suggest you read these notes to reinforce the content you have learned:

Bonds: Everything You Need to Know in This Infallible Beginner's Guide

The Historic Argentine Debt Swap in 2020

De La Rúa Resigns: 23 Years After the Shocking Argentine Crisis

Next course date

May 5, 2025. You will be able to access it with this link.

Questions for you to reflect on

Why do bond yields fall when their price rises, and vice versa? If I already held them, would their rise hurt me?

Why is trust key in the world of bonds?

What is the difference between the AL30 and the AL30D?

A brief overview of The Pocket Investor

The Pocket Investor is a project that combines experience and passion for financial education to help you transform your relationship with money. Through personalized mentoringWe help you design investment strategies tailored to your goals and needs, optimizing your portfolio to address challenges like inflation and the dollar.

The books on finance and investment, including the popular The Argentine Pocket Investor - El Inversor de Bolsillo argentino, are practical tools that explain complex concepts in a simple way, bringing the world of investments closer to anyone interested in financial growth.

In addition, in the course The Pocket InvestorWe combine all this knowledge to offer you a complete experience: theory, practice, and strategies that truly work in the Argentine and global context. All this with a clear, friendly, and accessible approach, so you can achieve financial independence.

See more notes from our blog:

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