Let’s reconsider some of the things we have discussed so far by looking at some real bonds.

Here are two extracts from the London Financial Times of July 3rd 2000. They show a selection of eurozone bonds from, respectively, the industrials sector and the high yield sector. We will concentrate on Unilever and Jazztel.

Going from left to right, the first thing to note is the so-called ‘red date’. This means the redemption date – the date on which the bond’s principal (the loan) is meant to be repaid; in Unilever’s case, May 2004 , in Jazztel’s case, December 2009.

The next thing to look at is the coupon – the interest the bond issuer pays to the bond holder on an annual (or semi-annual) basis. Unilever pays a 6.5% coupon. Jazztel pays a 13.250% coupon. Why is there such a massive difference? To understand why we need to look at the next two columns.

These show the bonds’ credit ratings – S&P and Moody's being the market's leading rating agencies.

As we have seen, credit ratings measure the risk of default – the risk that the borrower either cannot pay back the loan and/or cannot pay the interest on the loan. AAA is S&P's highest credit rating – i.e. lowest risk of default – and Aaa is Moody’s highest rating. Clearly, Unilever are not going to default on their obligations.

Remember, ‘the higher the risk of default the higher the return the issuer needs to offer to compensate for the risk’. And that is why, not just Jazztel, but all the companies in the High Yield sector, offer a much higher rate of interest than the companies in the Industrials sector. Their credit ratings are uniformly lower so they have to offer a higher rate of interest to compensate for the additional risk.

Finally we come to price. What do these numbers mean? Why are they all around 100? And 100 what? Well, in the bond markets, prices are quoted in relation to something called par. Par is 100% of the face value of the bond –  so everything is quoted in relation to a figure of 100.

‘Bid’ simply means that this is the price the market will buy the bond, as opposed to ‘offer’, which is the price at which the market sells.

So Unilever’s price of 102.211 means that the market will buy Unilever’s bond for 2.211% more than its face value (a 2.211% premium). And Jazztel’s price of 90.593 means that it is trading at a 9.407% discount to its face value.

So clearly the risk of default - otherwise known as credit risk - is an important consideration when you are considering different bonds. Now let's get a clearer idea of exactly what it is; and also look at some of the other risks associated with bonds.