Investments >> Bonds

One guaranteed way to make sure that your money continues to grow regardless of any external threats to your wealth – such as a falling stock market, lower property prices or a recession - is to invest in bonds. Once the preserve of the super rich, nowadays someone with as little as €1,000 to spare can take advantage of the fantastic profit opportunities and cast-iron security they offer.

What exactly is a bond ? When governments, companies and other big organisations (such as the World Bank) need to borrow money they often do so by selling or ‘issuing’ bonds. Each bond has a:

- ‘Maturity date’. This is the date when the investors get paid back their capital. This might be in 5, 10, 20 year’s time, or more

-‘Face value’. This is the amount the bond cost when it was first issued. Typical face values would be €1,000, €5,000 or €10,000.

Most bonds entitle the holder to a fixed amount of interest, referred to as the ‘coupon’. The coupon is usually paid quarterly, bi-annually or annually. On the maturity date the bondholder will then be paid back the face value.

For example, if you purchased a newly issued €10,000, 20 year bond paying a 5% coupon you would receive an annual income of €500 for 20 years, and then you would get your original €10,000 back.

Some bonds, however, known as ‘zero coupon’ bonds, don’t pay out regular interest but instead guarantee you a larger, fixed amount on maturity. Either way, one of the most important features of bonds is that they can be bought and sold any time between when they are issued and the maturity date.

After a bond has been issued it may be worth more, less or the same as its face value. This means that in addition to earning interest from your bonds you can choose to buy and sell them for profit.

The value of a bond will depend on a variety of factors including, interest rates, inflation, the level of risk (a bond issued by the Chilean government, for example, would be considered riskier than a bond issued by the Irish government), the size of the coupon and the length of time until the bond reaches maturity.

As an investor, bonds offer you three extremely valuable benefits:

1.    Income Bonds provide a regular income until the maturity date - making them one of the few investments that pay a guaranteed return for a fixed period of time.

2.    Diversification. Wise investors divide their money up between different types of investment – property, a pension, stocks and shares and so forth – in order to reduce their risk and optimise their profits. This is called diversification. Bonds are an ideal way to diversify. One reason for this is that when other markets are doing badly, the price of bonds tends to rise. Another is that they offer a high level of security.

3.    Protection. Historically bonds have protected investors from many of the problems that can beset the economy including inflation, deflation, recession, falling property prices and a weak stock market. This is because bonds offer investors the security of a guaranteed income without any risk to their capital.

The secret to investing in this sector is to build up a portfolio of bonds offering different maturity dates and different rates of return. If you want to boost your profits further then re-invest both your coupons and, on maturity, your capital back into new bonds. There is plenty of choice, including:

- Government bonds. Issued by national governments such as the USA, UK, Germany and Ireland. These are virtually risk-free – hence the expression ‘gilt-edged’ investment.

-Emerging market bonds. Issued by countries with developing economies such as Russia or Thailand. These carry slightly more risk but pay a higher return.

-Local government bonds – known in the US as ‘municipal bonds’ – which are issued by local governments primarily in Europe and America.

-Corporate bonds. Issued by larger companies and multinationals.

-Mortgage-backed and asset-backed securities. The process of securitisation, whereby banks and other financial institutions ‘bundle’ up their customers’ debts (including mortgages) and sell it on, has led to a new sort of bond.

-Junk bonds. Issued by companies that are considered to be high risk. The return can look attractive – but, of course, you may never receive your coupons or capital on maturity.

There is a thriving market in bonds (estimated at being worth as much as $118 trillion) and no one who is serious about making money can afford to ignore the huge potential for profit. You can buy bonds direct from the issuer or you can go to a specialist bond manager. Naturally, before investing you should take professional advice.

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