Corporate Bonds vs Government Bonds: Which is Better for Your Portfolio?

Bonds are a very famous type of asset that can be traded in the financial markets. These assets are prominent in the market because of their unique features and performance capabilities. They are essentially fixed-income securities that the borrower pays. Typically, bonds are of two types: government and corporate bonds. In these two cases, the borrower is either the government sector, a company,  or a municipality. Investors lend the money to the borrowers and, in return, receive a set amount of money, either with interest or without, in a given time. 

This type of trade is very famous because it offers capital to the borrower, which they can use to expand their company, build new projects, and so on and so forth. This arrangement also benefits the investors by giving them streamlined income and a chance to invest in upcoming projects. Therefore, bonds play an important part in business and government developments worldwide. The bond market is diverse and has come a long way since 1517, when the first government bond was issued in Amsterdam. 

Like most asset classes, bonds can be traded as contracts for difference (CFDs). In speculative trading via CFDs, traders speculate on the underlying asset’s price and make a profit without owning any of the assets. With Bond CFDs, traders can profit by speculating on the bond prices. Normally, CFD trading is short-term, but with Bond CFDs, traders can choose to hold the positions for short or long terms. 

CFDs allow traders to trade corporate bonds or government bonds. However, these bonds differ significantly. Understanding their similarities and differences can help traders make important financial decisions. In this article, we will discuss each bond’s characteristics, properties, risks, and more.

What Are Government Bonds?

A government bond is a debt security that the government pays the bondholder periodic interest payments over a decided period. These payments are also called coupon payments issued by the national government or a government sector. If the federal government issues a government bond, it is called sovereign debt. Governments need a lot of capital to fund development, infrastructure, roads, buildings, etc. Through government bonds, the government takes a loan from various investors or traders and gives them bonds.

Investors receive timely repayments through these bonds, and governments receive the capital to continue building and developing their projects. Government bonds are less risky as the repayments and the state of the governments depend on macroeconomic conditions. As they are low risk, they are also low in return. However, with the changing economic conditions, the value of government bonds may fluctuate in your favour or against it. Because government bonds are so stable, they are traded highly in the market. 

There are many different kinds of government bonds, which may include:

Municipal Bonds 

Local governments issue these bonds to fund public buildings in the area, like libraries, parks, and more. These bonds carry some tax exemptions and advantages for the investors. Municipal bonds are mostly supported by revenue from a government project or local tax dollars. These bonds are also low-risk and have interest rates.

Savings Bonds

Savings bonds are long term investments and are issued by the government. The bondholders wait for the price of the bonds to go up before cashing in. These types of bonds are generally very low risk and help diversify one’s financial portfolio. 

Treasury bonds

A treasury bond is a fixed-interest federal-government-issued bond with a maturity of around 20 to 30 years. This means that for 20 to 30 years, the bondholder will receive fixed-interest payments and after the bond has matured, the government will pay the principal amount. This bond is also low-risk and helps regulate the country’s capital flow. 

These are the three types of bonds. Each type plays an important role in the financial stability of the country. As the government issues them, the chance of risk and scam is considerably decreased as compared to other types of bonds. A downside to these bonds is that as they are low risk, the government also pays low interest rates. Even so, these bonds are highly traded and keep the market liquid. 

What Are Corporate Bonds?

Corporate bonds are debt securities issued by companies to raise capital for expansion, acquisitions, and other corporate-related activities. Investors lend money to these companies and receive periodic interest payments. When the bonds mature, they receive the principal amount. Corporate bonds differ from government bonds in that companies, not governments, offer them. 

Unlike the case of equity investments, in which the investors invest the capital and get equity in the company, corporate bonds offer no equity to the investors. Instead, the companies treat the investors as only debt collectors to whom the loan must be repaid. The repayment is also based on market sensitivity, meaning that the bond price will fluctuate based on the country’s economic conditions and corporate earnings. This is why corporate bonds are highly risky and volatile to deal with. 

The capital collected from the corporate bonds can be used in various parts of the company. For example, to fund large-scale projects, to assist in large acquisitions, refinance existing obligations, maintain cash flow, fund short-term operations, and much more. The company will religiously pay interest payments to the lender during this usage. Unlike government bonds, corporate bonds offer very high interest rates and the interest is generally paid yearly. 

One drawback of corporate bonds is that they are highly risky. Changing economic conditions and the company’s performance can affect your interest rates and principal amount to be repaid at maturity. This makes corporate bonds a great contender for speculative trading via CFDs. Contracts for Difference or CFD trading allow traders to speculate on price movements without owning the underlying asset. Corporate bonds are thus highly traded, with traders profiting from price fluctuations based on the company’s performance and ever-changing economic conditions. 

Key Differences: Corporate vs Government Bonds

Corporate and government bonds are debt securities in which an investor lends money to corporate companies or government bodies. The investors receive a set amount of interest repayment, and the bond issuers use the capital to fund their projects and other purposes. Once the bond matures, the investors receive their principal invested. These bonds are highly traded in the financial markets and carry their own risk of profit and loss. 

However, there are some key differences between the two. Here, we look at all the key differences between corporate and government bonds:

Issuer

The biggest difference between the two is the issuer of the bonds. In the case of government bonds, the issuer can be the government, the federal government, or a local municipality body. However, in the case of corporate bonds, the issuer can be corporate companies or industries. 

Risk 

Based on the type of the bond and the issuer, the associated risk can be anticipated. In government bonds, the risk is relatively low as the governments and their projects are most likely affected only by macroeconomic conditions. Whereas, in the case of corporate bonds, the risk is considerably high as companies are affected by many different factors like economic fluctuations, market competition, changes in world policies, changes in the company’s internal administration, and so on and so forth. This is why government bonds are stable as compared to corporate bonds. 

Return 

The return on a bond is also related to the risk of the respective bonds. The return on government bonds is considerably slow, as the interest rate is low. However, the return on corporate bonds is considerably higher, so it is better than government bonds. 

Market Sensitivity

Between government and corporate bonds, the value of corporate bonds can be affected by fluctuations in the financial market. Government bonds, however, are not affected by the financial markets.  

Liquidity 

Government bonds are highly liquid as compared to corporate bonds. 

Bonds and CFDs

Both types of bonds can be traded for speculative purposes via CFDs, but corporate bonds are more famous because they involve high risk and have higher interest rates. 

These are the key differences between corporate and government bonds. Please find the above information consolidated in a comparison table below:

Category	Corporate Bonds	Government Bonds
Issuer	Corporate companies and industries	Governments, Federal Governments, and Local Municipality Bodies
Risk	Highly Risky	Not as Risky
Return	High Interest Rates, so good return	Low Interest Rates, so generic return
Market Sensitivity	Affected by fluctuating market conditions	Not as affected by fluctuating market conditions
Liquidity	Not as liquid	Highly liquid
Bonds and CFDs	Great for CFDs	Not as great for CFD trading

Risks of Corporate and Government Bonds

Trading or investing is risk in general; no bond comes without a certain level of risk involved. Some bonds may carry higher risk potential as compared to others, but at the same time they might also offer higher returns and portfolio diversification. It is all a game of expertise. Quite a few factors affect the risk levels associated with bonds. Here is a list of different types of risks that are involved with corporate and government bonds:

Credit Risk

This is the type of risk where the financial capability of the issuer might be at risk due to unforeseen reasons like bad economic conditions, and they are unable to meet loan repayment obligations. This type of risk is highly associated with corporate bonds because a company is at a higher risk of being affected by changing economic conditions and fluctuating markets. Government bonds are not as affected by credit risk because governments have borrowing capacities, but the risk remains. 

Default Risk 

Default risk is when the issuer fails to repay the principal amount when the bond matures. This is one of the biggest risks involved with bonds and is a major pain point for investors and issuers. This risk may be decreased for government bonds as governments have different channels to meet loan repayments, whereas corporate bonds are highly subjected to this risk. 

Market Volatility 

This risk affects both bond types and corporate bonds more than any other. Investors are at risk here, as market volatility can greatly affect the interest rates on their bonds. Market sentiment, changing policies, changing governments, and changing economic conditions can all influence the financial markets and the prices of assets. 

We cannot stress enough that no bond comes without risk. There is no such thing as a risk-free investment. Having said that, ensure you have done your due research and have risk mitigation strategies in place. 

Taxation of Bonds

Bonds, either corporate or government, are taxed differently depending on the income generated from them. This can affect the expected returns and trading strategies for the investors. Here we look at what taxation looks for income generated through corporate bonds, government bonds, and speculative trading via bond CFDs.

Taxation and Corporate Bonds 

Any income generated through received loan repayments via corporate bonds is treated as normal income and taxed the same. If you sold the corporate bond before maturity and made a profit, that profit will be subjected to a capital gains tax. The tax rate depends on the investor’s income bracket status and local tax regulations. 

Taxation and Government Bonds 

The income from receiving loan repayments from government bonds is taxed the same way as any normal income is taxed. The tax rate will depend on your area’s income bracket and general taxing regulations. However, there are some conditions where the issuer can issue tax-free repayment government bonds. If you sell the bond before maturity for profit, that profit will be subjected to a capital gains tax.

Taxation and Bond CFDs

We now know that corporate and government bonds are subject to taxation, but here is an interesting thing: bond CFDs are not subject to interest taxation because the bondholder does not hold any asset. However, the bondholder must pay tax on any profit from holding those bond CFDs. 

The above are the simple and well-known rules around taxation and bonds. However, they may be subject to changes based on where you live and your government’s policies, so ensure you are up to date with the latest tax rules if you plan on buying or training in bonds or bond CFDs. 

Advantages and Disadvantages of Bonds

Bonds are debt securities in which the investor lends money to the bond issuer and, in return, receives periodic repayments. It may seem like a simple process but many technicalities are involved, and so are a number of advantages and disadvantages. Here we look at them in detail:

Government Bonds

A government bond is a debt security that the government pays the bondholder periodic interest payments over a decided period. These payments are also called coupon payments issued by the national government or a government sector. There are a few advantages and disadvantages associated with this type of bond:

Advantages	Disadvantages
Reliable issuers issue government bonds, so the chance of scams is highly decreased.	Government bonds offer low interest rates, so they have low yields.
Government bonds are easy to trade and are highly liquid.	Government bonds have fixed interest rates, so the repayments may lose value in case of inflation.
They can offer great security in times of economic turmoil.	International government bonds may lose value when affected by exchange rates.

Corporate Bonds 

Corporate bonds are debt securities issued by companies to raise capital for expansion, acquisitions, and other corporate-related activities. Investors lend money to these companies and receive periodic interest payments. When the bonds mature, they receive the principal amount.

Advantages	Disadvantages
Corporate bonds offer high interest rates,, so they have higher yields.	They are highly risky.
Offer great diversification of portfolio.	Corporate bonds are highly affected by fluctuations in the economy.
They have the potential for profit-making if sold before maturity.	They have limited market liquidity.

These were the definitive advantages and disadvantages of corporate and government bonds. 

FAQs About Corporate and Government Bonds

Are Government Bonds Risk-Free? 

Not completely. Government bonds may not be as risky as corporate bonds, but some risk is still involved. These bonds can be subjected to credit, default, market, or liquidity risk, as no bond comes without a certain level of risk involved. 

How Do Corporate Bonds Differ From Government Bonds?

Yes, the biggest difference between the two is the issuer of the bonds. In the case of government bonds, the issuer can be the government, the federal government, or a local municipality. However, in the case of corporate bonds, the issuer can be corporate companies or industries. The two also differ regarding risk, return, liquidity, market fluctuations, and more. 

Why Do Corporate Bonds Offer Higher Interest Rates Compared to Government Bonds?

The main reason why corporate bonds offer higher interest rates than government bonds is to compensate for the additional risk involved in investing in corporate bonds. Corporate bonds are risky because fluctuations in the market and other economic conditions can highly impact the corporations. This can mean the investor is always subjected to default and credit risk. The companies offer higher interest rates to compensate for these risks to keep investors interested in buying their bonds. 

In this article, we have covered everything you need to know about corporate vs government bonds and their use in speculative trading via CFDs. Corporate and government bonds are debt securities in which an investor lends money to corporate companies or government bodies. The investors receive a set amount of interest repayment, and the bond issuers use the capital to fund their projects and other purposes. Once the bond matures, the investors receive their principal invested. These bonds are highly traded in the financial markets and carry their own risk of profit and loss. 

No bond comes without a certain level of risk involved. Some bonds may carry higher risk potential than others, but at the same time, they might also offer higher returns and portfolio diversification. There is no such thing as a risk-free investment. Always ensure you have done your research and have risk mitigation strategies before buying bonds or trading them in the financial markets.