Definition: Unsecured bonds or debentures are bonds that are not backed by some type of collateral. In other words, the bond is only secured by the bond issuer’s good credit standing. There are no building, equipment, vehicles, or other assets backing up the bond. If the bond issuer defaults on the unsecured bond, the bond holders could receive nothing from their investment. They would be left up to the court system to sue the bond issuer for their investment.
What Does Unsecured Bond Mean?
Unsecured bonds are almost always more risky of an investment than a secured bond since secured bonds are backed with some type of guarantee or collateral. Unsecured bonds are usually only issued by companies that don’t have enough assets to put up for collateral or government bodies.
If a company can’t raise enough capital to back a bond issuance, it is usually a sign of a risky investment. Governments, on the other hand, can always raise taxes if they need to pay off bond holders. An unsecured bond from a municipality is usually a safe investment. Even in the rare circumstance that a governmental body declares bankruptcy, the bonds are usually covered by other governmental bodies.
Since unsecured bonds are more risky to investors than secured bonds, unsecured bond issuers usually have to pay a higher interest rate to the bond holders. Depending on the company or governmental organization, the interest rate could be one percent or ten percent. This rate difference largely depends on how trustworthy and financially stable the company or governmental organization is.