Bonds are oftentimes regarded as a bit safe investment due to its nature as loans made by an investor in favor of the government or large corporations. Bonds are issued by the latter entities for the purpose of raising funds which they can use to fund capital investment, give them additional operating cash flow, pay off debts, and many other purposes. Nevertheless, this does not mean that it is totally secure as it is always dependent on various factors that may affect the investor’s expected outcome. If you are interested in bond investments, you need to be aware of the dynamic quirks of the bond market and must be well-equipped to come up with savvy investment strategies. So what are the things you need to know when investing in the bond market?
It Is A Fixed-Income Investment
When you invest in government or corporate bonds, you are extending these entities a loan which they commit to pay at the end of the instrument’s maturity date. While holding on to that instrument, you are supposed to receive interest income at regular intervals, which normally can be twice a year. Known as the coupon, the interest is oftentimes stated in percentage and is computed based on the principal amount that you invested. When the bond matures, the issuer will then pay you back the total amount that you invested. The maturity date of the bond is set by the entity that issued it and they commit to repay you the entire principal when the agreed-upon date arrives.
Selling the Bonds Before Maturity
While there are some bond types that prohibit investors from selling the instrument during the pendency of its term, most of the bonds issued by public or private entities can be sold or transferred. There is a secondary market where you can resell your bonds before it becomes mature. In fact, there are cases where investors earn more than what they paid for it in the outset when said bonds are sold on the secondary market. Bonds can also be traded on the trading floor or can even exchange hands privately between an investor and his creditor. Because of this, the value of a bond may go up or down during the pendency of its term.
A Regular Income Stream
Investors who prefer a steady income stream through interest payouts would find investment bonds to their liking. This is because bonds can give you a fixed and predictable income source, making it a low-risk and fairly safe investment. The downside is that bonds usually feature low interest rates, which means that you need to purchase a lot of it in order to earn a respectable income. There is also the danger of the issuer defaulting on your bond. In such case, you tend to lose the original amount you invested.
Guarding Against Inflation
While it is true that most bond investments are less risky, its feature of a fixed rate of return may also be considered as its weakness. Investors could lose out due to inflation, which many Asian countries peg at around 2% annually. In such case, the value of return on your investments could decrease, particularly if your rate of return is less than that of the yearly inflation rate. You might find out you are not making money at all from your bond investment. There are bonds, however, that are designed to combat inflation rate and ensure that you still make money. These types of bonds have a floating rate and are dependent on the rates set by various central banks around the world. It is best to invest in this type of bond when the market rates are very low.
Investing in bonds, though considered safer compared to other portfolio investments, still has its own share of risks. You need to carefully review your options so you would be able to choose wisely the type of bonds you would like to invest in. Consider all the pros and cons of each bond and compare them against your goals. When you do, you would have a pretty good idea of what type of bond you would want to put your money in.