You probably have heard about the nearly risk-free way to invest your money with bonds, buy you may be wondering why are bonds less risky to buy? Because of a bond’s regular interest payments and the full return of your principle when your bond matures, this type of investment has been considered less risky.
The small amount of risk a bond holder assumes is that the underlying company that issued the bond may have poor credit and suspend interest payments, as well as not repay the principle. The value of a bond could waver depending on changes in the market rate of interest.
A bond’s value will decline if interest rates rise, causing a risk to the investor should they be forced to sell before a bond’s maturity and loose money. You could also realize a profit in a market where rates are falling, which will cause the market value of the bond to rise.
Why Are Bonds Less Risky To Buy? Bond Features
When you invest in a bond you are loaning the issuer of the bond money, and as with most loans these loans carry interest rates, and a maturity date when the loan must be paid in full. A bond is different from a traditional loan from the bank in the twice a year payment of interest, and the repayment of the principle at maturity.
Bonds are referred to as Fixed Income Securities because the interest that is to be paid to you is fixed at issue and paid on a regular schedule. Why are bonds less risky to buy? Because the principle is repaid at maturity, bonds are considered less risky, with the bulk of the risk in the credit rating of the issuer.
A corporations credit rating is available through research tools offered at leading online brokerage ETrade, and Zecco, and all corporations issuing bonds should be thoroughly investigated prior to committing any capital.
Why Are Bonds Less Risky To Buy? Types Of Bonds
While many people refer to all types of Fixed Income Securities as bonds, in reality maturities of 10 years or longer are called bonds. Notes are maturities of two through nine years, while Banker’s Acceptances, Commercial Paper, and Treasury Bills have maturities of one year or less and are not called bonds.
Issued by the US government, US Treasury Bonds have the highest credit quality possible, as they are backed by the full strength and credit of the United States government. There is also the added benefit of the interest income from these bonds is not taxable for state income-tax intentions.
Why are bonds less risky to buy? These investment instruments are still subject to market-rate risk if they have to be sold prior to maturing, although they are the safest bond investment.
A Corporate Bond is issued by a corporation and can be of a high credit quality – AAA or Aaa – fair credit quality – BBB or Baa – or poor credit quality referred to as Junk Bonds – CCC or Caa or below. These bonds are subject to both market rate and credit quality.
You may also choose to invest in Municipal Bonds, which are issued by states and municipalities, and similar to corporate bonds, carry credit ratings. You can also invest in Mortgage-backed Bonds which operate differently than regular bonds, but are as safe as US Treasury Bonds.
There are many factors to consider when investing in bonds, and your unique investment situation will dictate what percentage of bonds you should hold in your portfolio. Online broker ETrade offers tools and services to assist you in deciding which bond investment strategy is right for you.