Corporate Bonds vs Government Bonds: A
Complete Guide for Beginners

What is the difference between Corporate Bonds and Government Bonds?

Every entity requires money to expand and manage the business, be it the Government or any other company. To issue “Bonds” to the public is one of the ways to raise capital (money).

The basic difference lies in the name, i.e., corporate bonds are issued by corporates like private or public companies, and Government Bonds are issued by the Central/State Government. The government raises money for public infrastructure projects. Let us look at the corporate bonds vs. Government bonds debate in more detail below. 

Corporate Bonds:

Corporations require money for future business expansion, new projects, debt repayment, and various other purposes. Investors lend money to the corporates (companies) and for that they offer investors the interest/coupon payments while returning the principal at the time of maturity. The bonds are classified based on their credit quality. 

Investment-grade bonds, which offer respectable yields and relatively fewer risks, are issued by companies with strong financials.  Conversely, companies with low credit ratings issue poor or high-yield bonds. To offset significant risks, they might, nevertheless, provide possibly larger benefits.  Corporate bonds may be riskier because of potential defaults, even though they frequently yield larger returns than their government-issued equivalents. Thus, before making your investment, you should carefully evaluate the company's credit ratings and financial standing.

Government Bonds:

In order to manage internal debt and raise money for various public initiatives and infrastructure development, government bonds are issued.  Therefore, by buying the same, you will be lending the government money in exchange for a predetermined interest rate that is due periodically (coupons).  At the time of maturity, the principal will also be reimbursed.

 Because they are low-risk investments, they occasionally have interest rates that are lower than those of corporate bonds.  In India, the G-Sec system is used to classify and issue a variety of bonds under this heading.

Differences Between Corporate Bonds & Government Bonds:

Let’s have a closer look at the major difference between corporate and Government bonds. 

What are the types of Corporate Bonds?

The main types of corporate bonds include: 

• Investment-Grade Bonds: Issued by large and reputable companies with high credit ratings (BBB and higher). It offers relatively lower returns. However, they are considered comparatively safer investment options. 
• High-Yield or Junk Bonds: Issued by companies that have lower credit ratings (BB and below). They carry higher risks and chances of defaults. Hence, they offer attractive interest rates to the public.
• Callable Bonds:  Issuer may redeem these bonds before maturity. They are sold at a premium rate while paying higher yields to offset the potential risk of being called.
• Convertible Bonds: These bonds may be transformed into company stocks at a pre-fixed price, while offering lower yields overall. However, the returns can be higher in case the share values go up in the future. 

Types of Government Bonds: 

There are various kinds of Government bonds available for investors, including the following: 

• Treasury Bonds: Issued for longer durations with a maturity period ranging between 10-30 years. They are secure investments backed by the Government. It pays interest regularly at intervals. 
• Treasury Notes: They have a medium-term maturity period between 2-10 years. They pay out interest regularly and are considered less risky than T-bonds.
• Sovereign Gold Bonds: These are linked to the gold rates in India and may offer fixed interest rates. 
• Treasury Bills: Issued for a short period (maturity is usually less than one year), and they do not come with interest. However, they are available for purchase at a discounted rate, which makes it possible to earn a profit when the bond finally matures. 
• Inflation-protected Securities: The returns of these bonds are dependent on inflation. They are bonds whose returns will go up with inflation. In such a scenario, the principal amount increases, helping investors retain overall purchasing power. 

Advantages and Disadvantages:

The following are the advantages and disadvantages of corporate bonds and Government bonds in more detail. 

Advantages of Corporate Bonds:

• Higher returns as compared to Government bonds 
• Fixed-income bonds may pay regular interest 
• Access to a large variety of options based on the risk level and investment purpose
• Issued with different maturities and credit ratings, enabling you to invest based on your risk and return goals. 

Disadvantages of Corporate Bonds:

• Risks of defaults by issuers 
• It may be hard to sell quickly without incurring losses 
• Bond prices and demand may fluctuate based on market conditions and other economic aspects 
• Callable bonds always have risks of issuers redeeming them early, thereby leading to a yield-to-maturity impact. 

Advantages of Government Bonds:

• Backed and guaranteed by the Government, having negligible investment risks
• Stable interest earnings and are highly liquid in the secondary market 
• Better risk management and balance the portfolio 
• Many bonds are tax-free as well 

Disadvantages of Government Bonds:

• Lower returns than corporate bonds  
• Interest rates may not always keep up with inflation 
• Demand may negatively impact the liquidity levels of some bonds 
• Interest earned/accrued on many bonds is taxable 

Which is better?

Government bonds are the best solution for your portfolio in case you want only the lowest and negligible level of risk and more stability. 

If you expect higher returns and have a moderate risk appetite, Corporate bonds may be better choices if you’re okay with moderate to high risks and want to earn more returns. 

To balance and diversify your portfolio with a mix of high and low-risk investments, you can choose both corporate and Government bonds. This will help you strike the right balance between risks and returns. 

It’s up to you to choose the best options, depending on your risk appetite and future investment goals.