What is a bond?
In simple terms, a bond is an "IOU" from an issuer to an investor. Entities like businesses, governments, and municipalities issue bonds to fund their ongoing operations. In exchange for receiving money from investors, the issuer agrees to pay a specified rate of interest and return the principal on the date the bond "matures".
In the past we've talked about investors purchasing bonds to reduce risk, but don't some investors purchase bonds for income?
Investors purchase bonds to diversify their portfolios and reduce risk, as well as for interest income. And since most bonds make semi-annual payments, by holding several bonds with different payment schedules, you can build a bond portfolio that will generate interest payments each month.
If you don't want to go through the trouble of investing in individual securities, you can purchase a mutual fund that invests in bonds and these funds make monthly payments to shareholders.
What are some of the types of bonds investors could consider purchasing?
Before buying any bond, investors should make sure they understand the investment, including all risks involved.
US Government Bonds: Known as "Treasuries" and are considered the safest bonds, since they are backed by the US government.
Inflation-Protected Bonds: Bonds that protect your principal against inflation.
Municipal Bonds: Known as "munis" and are free from federal tax. They can be great for taxpayers in high tax brackets.
Corporate Bonds: Issued by corporations and have higher coupon rates (interest rates) since they carry more risk.
High Yield (Junk) Bonds: Have high coupon payments since they are considered "risky" or "speculative" investments.
Emerging Market Bonds: Bonds issued by less developed countries that have a higher risk/reward potential.
Remember that these topics are general in nature, so consult with your financial advisor about your specific situation before making any investment decisions.