What are junk bonds?
These are the bonds that pay high yield to bondholders because the borrowers don't have any other option. Their credit ratings are less than pristine, making it difficult for them to acquire capital at an inexpensive cost. Junk bonds are typically rated 'BB' or lower by Standard & Poor's and 'Ba' or lower by Moody's.
Junk bonds can be broken down into two categories
Fallen Angels - This is a bond that was once investment grade but has since been reduced to junk-bond status because of the issuing company's poor credit quality.
Rising Stars - The opposite of a fallen angel, this is a bond with a rating that has been increased because of the issuing company's improving credit quality. A rising star may still be a junk bond, but it's on its way to being investment quality.
Who should buy junk bonds?
There are a few things you must know before buying junk bonds. The obvious is that junk bonds are high risk. With this bond type, you risk the chance that you will never get your money back. Secondly, investing in junk bonds requires a high degree of skill, particularly knowledge of specialized credit. Investing directly in junk is mainly for rich and motivated individuals.