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Your Guide to Investing in Bonds

Your Guide to Investing in Bonds

| May 20, 2024

Investing in bonds is often recommended to diversify your investment portfolio. With an inverse correlation to stocks —  typically, when stocks fall, bonds rise — bonds are a way to hedge against a volatile stock market. 

Bonds are also considered to be safer investments than stocks and to have a lower volatility. But bonds still have risk, just as any other investment. 

This is a guide to help you get started in investing in bonds. 

What Is a Bond? 

There are three types of bonds: corporate, government, and municipal. 

Unlike stocks, which are equity securities, bonds are debt securities. When you buy a bond, you are lending your money to a company, the U.S. government, a city, a state, or a municipality. Companies issue bonds to pay for equipment, expansions, and more, and governments might use the money to pay for infrastructure, such as roads, sewer and water systems, and bridges. 

When you buy a stock, you’re buying partial ownership in a company. That gives you a say in the company, and you can benefit from dividends if the company pays them, and appreciation in the stock.  

With a bond, you don’t own part of the company and have no say. The company, government, or municipality, known as the bond issuer, promises to pay back the principal of your loan within a set term, known as the maturity date, and with interest. 

More often than not, the interest is set or said to have a fixed rate. However, there are bonds sold with a floating rate. This fixed rate provides you steady income. You know what you can expect to receive. With a floating rate, which is not commonly used, the rate fluctuates with the rising and falling of interest rates. Interest payments are usually made quarterly, semi-annually, or annually. 

How to Buy a Bond 

You can buy bonds through a broker, a mutual or exchange-traded fund, or directly from the U.S. Treasury. 

If you don’t want to put in a lot of money or don’t have a lot of money to put in, you might find that buying into the bond market isn’t as easy as buying into the stock market. This is because of the initial amount required to begin investing. The face value, or par value, of most bonds is $1,000. However, you can purchase bonds through brokers, ETFs, and the federal government in increments of $100 to get started. 

Brokers 

Just as with stocks, you can buy bonds through a broker. The fees brokerages charge will vary. The numerous choices of bonds also might make your head swim. To help make your choice, you must analyze the companies to see if they will be able to make their payments. You can check their credit rating. The best bond rating is AAA. 

Mutual Funds and ETFs 

Unlike buying from a broker, you won’t need to look into separate companies. The fund or ETF company will select the bonds for the fund that you would buy into. This provides instant diversification and you often get a variety of bond types and durations (maturity dates), adding more diversity. 

U.S. Treasury 

You can buy bonds directly from the federal government through the U.S. Treasury. This allows you to avoid paying a fee to a broker or some other intermediary. 

It’s also possible to buy bonds directly from the issuer. However, most bond investors purchase through a broker, where bonds are being bought and sought regularly. 

Bonds: The Pros and Cons 

As a new investor in bonds, consider that bonds have their advantages and disadvantages. 

Here are the pros: 

  • Predictable, steady income 
  • Diversification 
  • Lower risk 

Here are the cons to consider: 

  • Lower return 
  • Controlled by interest rates 
  • No guarantee of principal 
  • Exposed to inflation 

A financial advisor like Good Life Morehead City can help you navigate the advantages and disadvantages of bonds as well as where and how to purchase them based on your investment strategy. 

Buying Strategies for Income 

As an investor, you’re looking for income from your bond investments. Because bonds are affected by interest rates and when they mature, several strategies have developed. 

  • Ladder: Buy bonds with staggered maturity dates 
  • Barbell: Buy short-term and long-term bonds, not medium-term 
  • Bullet: Buy bonds in consecutive years that mature at the same time 

There are also additional strategies. Your strategy may align with your financial situation and your overall investing strategy. 

Get Help With Bonds From a Financial Advisor 

Now that you know about investing in bonds, you might want to talk to a financial advisor. Good Life Morehead City has financial advisors who can help you determine how bonds might fit into your financial strategy. Get in touch with us today.