Beyond Origins the Discussion

Bond Investment

June 2nd, 2008

Now, bond investment is not all that complex, but it is, like every other financial transaction, something to be carefully considered before jumping in. All the different types of bond investing are understood by the professionals who work with bond investment every day, but are less obvious to the retail bond investor.

If you are intending to be investing in bonds rather than trying to make capital gains by trading in bonds, then you will need to understand the basics of how the markets work, and how to tell an investment-grade bond from a junk bond.

A bond is essentially a loan to an organisation - you give your money to the bond issuer, and they agree to pay you interest (called the coupon rate) each month until the bond matures, at which time they will return your capital.

Obviously, if the bond is being issued by the US government, you can be reasonably confident that the money will come back to you when the bond matures in ten years’ time. On the other hand, if the bond was being issued by Slippery Joe’s Used Cars And Auto Parts Barn, located in Pipsqueak, Utah, you may not be quite so certain …

Bonds are rated based on a number of factors, all of which affect the likelihood that you will get your money back when the bond matures. The highest rating, AAA+, is applied to extremely secure investments like government bonds. Other large, reasonably stable organisations would be rated at various levels of A, down to A-.

Below a rating of BBB, bonds are called “junk bonds”, because the perceived risk of default is too high. It’s all very well getting a 15% return for a few years, but if you lose your capital it was hardly worth it, was it?

When it comes to the different types of bond investing, the key point to remember is that reward is always commensurate with risk. If a bond is paying a high coupon rate, it is because nobody will buy it at any lower rate, due to the perceived risk. The lowest risk strategy for bond investment is bond investment.

When you are looking for secure, fixed income returns, bonds are a good investment option. Of course, there are ways to trade and speculate in bonds, and achieve higher returns with equivalently higher risk. However, if you are at the point in your investing career where you are looking for secure fixed income, you should be investing in bonds as opposed to speculating in bonds.

It is vital that you are fully aware of the the different types of bond investing before you start your bond portfolio, or you could find yourself exposed to significantly more risk than you had intended! Consult your investment advisor to determine which bond investing strategies are appropriate for your situation.

Entry Filed under: Finance