Bond Covenant can be defined as a legally agreement or a legal binding force that exists between the bond issuer and the bond holder. These are the legal bindings that are designed to protect the rights of both the parties involved in bond issuing and bond purchasing. There are different kinds of covenants or we can say these bond covenants have different kinds of traits such as positive covenants and negative covenants. Positive covenants legally bind issuer of the bond to meet certain requirements before issuing the bonds. On the other hand the negative covenants forbids the issuer of the bond to undertake some set of activities that are not in favor of bond issuer or bond holder. On the basis of their categories covenant bonds can be categorized as affirmative and restrictive covenant bonds.
Bond covenant may include restrictions such as limiting the ability of the bond issuer to gain more and more debt on the basis of issuing bonds. These covenants may require from the issuer to provide complete financial status of their business to the bond holders by sharing their financial statements with bond holders. These covenants can also limit the activities of the bond issuer to make new investments with the money accumulated from bond purchases. A technical default occurs if in any case the issuer violates the bond covenant. Moreover violation of bond covenant can also result in a decrease in the ratings of the bonds. This will make bonds unattractive for the investors and other borrowers.
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