Defaulted Bonds1 min read

A default is a failure to repay a debt including interest or principal on a loan or security.

So, if business issues bonds – essentially borrowing from investors – and it’s unable to make coupon payments or principal payment to its bondholders, the business is in default on its bond.

Hence, a bond default is when a bond issuer fails to make interest or principle payments within the specified period. Highly rated bonds tend not to default and the risk of default is lowest for developed-market government bonds.

What happens when a bond default?

A bond default doesn’t always mean that the bondholders are going to lose all of their principal. In case of corporate bonds, they are likely to receive a portion of their principal back when the issuer liquidates its assets and distributes the proceeds. Also, at times the bonds keep trading at sharply reduced prices even after the issuer has defaulted and it sometimes attract “distressed debt” investors.

Most defaults are anticipated in financial markets. This means a good deal of the negative price action that comes with a default may occur before the default is announced. In case of corporations, defaults usually occur when deteriorating conditions lead to decline in revenues making schedule prepayment is impossible.

A default has adverse effects on the borrowers’ credit and ability to borrow in the future as it is a sign of financial distress. Hence, it is usually the last resort for the corporations.