Very Basic BOND question (can't get head around it)

First you need to understand how interest rates work. In the US, all interest rates are based off the risk free rate...and then extrapolated from there, adding credit risk and inflation risk. The risk free rate in the US is the matched maturity yield from the US treasury curve. So, if you want the 1yr risk free rate...you look at the US treasury note with 1 year remaining to maturity...and that 1yr yield is the risk free 1yr rate. Same thing for the 5yr, 10yr, 20yr, 30yr.

I mentioned above that the market sets the rate for all these points on the curve by trading in the secondary market. How do they determine what those rates should be? Its a combination f the expected path of the fed funds rate, as well as expectations of future economic growth, and future inflation. Expectations of future economic growth and inflation change every day...they change every second...and that is why he market is constantly in motion (by very small amounts). Nobody knows what the future will be....so the market makes probability based guesses. What is the probability that inflation will be 2% for the next year? What is the probability that the stock market will crash and we'll have a recession in the next 2-3 years? These are questions that the market is constantly trying to figure out, and they make bets on those future outcomes. This process is constantly in motion, and nobody agrees on all the possible sets of future predictions. The Central bank puts out their own predictions (in vague terms), and they also are constantly changing (by small amounts)...so nobody really knows what the future will be...and everybody is constantly changing their mind.

Now, with all that as background, to your questions.

1) the market sets the 10yr rate by trading the 10yr note, and that rate is constantly in motion

2) The Fed changes the overnight interest rate for a number of reasons...to manage the amount of currency supply, and to raise or lower inflation, to keep inflation hitting its target of generally 2% (tho, that can change). In the US, the central bank sets a RRR (required reserve ratio that banks must keep in deposits.....if the RRR is 10%, then banks can lend 90% of the deposits they take in...if the banks lend more than the RRR...they must borrow cash from another bank overnight that has excess reserves that day...and the rate used for that overnight loan is the fed funds rate). If a bank has excess reserves, they can either lend it to another bank that needs it overnight for 1 day...or they can park the money at the Fed and earn IOER (interest on excess reserves) which is usually the same rate as the Fed Funds rate (+/- a few basis points)

Banks make loans for a variety of terms (term = length of time). The rate that the bank sets for those loans is determined by the credit difference between the risk free rate (the matched maturity US treasury bond yield) and the credit risk associated by loaning the money to a person like you, or a business. You as an individual have a higher risk of default than the US govt, so the bank will charge you a higher interest rate in order to lend you money. The higher the credit risk, the higher the rate they will charge. This goes for mortgages, personal loans, business loans, etc. You might say "but my mortgage is back by the value of my house...so there is little to no risk" but house values change..and they can change by a lot...so there is indeed risk to the bank....plus risk that you get fied from your job and stop paying your mortgage...because it takes months to years for a bank to foreclose on your house...and in that time, they won't be getting loan payments if you default...so the banks take all those risks into consideration when they set the interest rate they will charge for each loan they make.

3) Corporate bonds have a number of risks. Some companies are more risky than others. Google is less risky than a biotech company that is researching cancer drugs...because if the biotech doesn't find a cure, they won't make any money and won't be able to pay back their debt...whereas google has a steady stream of cash coming in....so who would you rather lend money to? Who would you charge a higher interest rate to for a 10yr loan? How much higher? This is credit risk. Then you have inflation risk. If inflation picks up, and US govt yields go up to match that inflation (or even just future inflation expectations)...then corporate bond yields will tend to move in about the same direction and quantity.

The benchmark for most securities is 1st the govt yield curve...but sometimes you use another yield curve, like LIBOR (the rate that banks would lend to each other for a set of terms) and then set a spread from those rates.

A bond price is the price you pay to buy or sell a bond. The yield of that bond is calculated from the price. So, as the price moves, there is a formula that calculates the associated yield. They are synonymous.

Regarding equity vs bonds. Equity is ownership of a company, and the price of the equity is based on your expectation of uture cash flows. You have lots of choice regarding which company stock to buy...so you would naturally choose to buy the stock that you think will earn you the most money. But you don't know for sure which stock that is, because the world is constantly in motion, and past performance does not predict future results. Generally, owning the equity is more risky than owning the debt of a company...because with equity, you are last in the capital structure. Generally bond holders get paid first, before equity holders...and for this reason, generally, bond yields are lower than equity yields...because the bonds have less risk in the event of a liquidation. So, you always have to do a risk vs reward calculation..equity vs bond...and that dynamic is constantly in motion...constantly changing.

4) You would short a bond if you thought the price was going to go down. Prices go up and down for a variety of reasons, and they are always changing. You don't have a crystal ball...you don't know the future...nobody does...but you still try to make predictions...and you do lots of research to help in that process.

5) you look at everything. expectations for future growth...future inflation...relative credit risk...the list goes on.

6) bonds are denominated in units of 1000.

7) the ECB (european central bank) sets overnight interest rates for europe...currently -40 basis points (they are trying to influence people to take money out of the bank and spend it, trying to make banks make more loans..take more credit risk...or they must pay a penalty..that negative rate).

Govt bonds are based off this reference rate, and then you add a credit spread. What do you think the probability is that Italy will default on their 2yr govt debt? What about 10yr? What about future inflation in Italy? What are the odds Italy will leave the Euro and go back to the lira and create more inflation. I can assure you the risk is NOT zero...but its also not 100%....somewhere in the middle is the answer...but nobody knows for certain.

8) You short a bond if you think the price will go down before you plan on covering that short and buying it back.

9) This is not a simple question...investment professionals spend their whole lives trying to figure out a best answer, and they constantly change their mind. Its always a best guess. You research all the things from above...and then you make an educated guess. And then you constantly change your mind...and this is trading.