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Investing in Bonds: A Comprehensive Guide by O1ne Mortgage

Bonds are considered safe, low-risk investments. By purchasing a bond, you’re effectively loaning money to whoever issued it—usually a corporation or government agency. Selling bonds allows these organizations to raise capital to fund different projects and initiatives. The upside for investors is receiving regular interest payments during the bond’s term.

Choose the Type of Bonds You Want to Buy

There are four main types of bonds, which are technically considered debt securities:

Treasury Bonds

Issued by the federal government, Treasury bonds are stable, low-risk investments. T-bonds, as they’re called, dole out a fixed interest payment every six months until the bond matures—and it’s highly unlikely that you’ll lose money. Investment gains you receive through T-bonds are subject to federal income tax but exempt from state and local taxes.

Municipal Bonds

These bonds, issued by states, cities, and counties, help fund all types of local projects—like maintaining highways and building schools. They’re exempt from federal taxes, and state taxes too in most cases. Because of these tax perks, interest rates tend to be lower than corporate bonds with similar maturity periods. Municipal bonds typically pay interest semiannually.

Corporate Bonds

These bonds are issued by companies, so they carry more risk than government-backed bonds. Corporate bonds have credit ratings associated with risk level. AAA-companies are considered financially stable, while D-rated companies are seen as less secure. High-yield bonds (aka junk bonds) have a much higher chance of default. Interest rates also tend to be higher on callable corporate bonds that the issuer can retire before the maturity date.

Bond Funds

Investors aren’t limited to individual bonds. You can also buy into a bond fund, such as a bond exchange-traded fund (ETF). Bond funds provide access to a large swath of different bonds in one trade. That provides built-in diversification, which can help balance your investment portfolio.

Where to Buy Bonds

Through the Government

You can purchase Treasury bonds and other government bonds directly through the federal government at TreasuryDirect.gov. An auction process determines the offer price and coupon rate for T-bonds. You can also purchase Treasury bills, Treasury notes, and savings bonds through the same website.

With a Broker

Many types of bonds are available for purchase through an investment account, which involves working with a brokerage firm. You can do this online through a brokerage account or robo-advisor. Working with a licensed broker allows you to buy bonds on the secondary market from other investors. That includes municipal bonds, corporate bonds, and some government bonds.

Through an ETF

Analyzing and buying individual bonds could get time-consuming and expensive. That’s where ETFs come in. These funds pool money from investors to buy a variety of different assets, including bonds. They trade on major stock exchanges and can bring some diversity to your investment portfolio. Bond ETFs can include a mix of corporate bonds, municipal bonds, government bonds, and international bonds.

Tips for Buying Bonds

1. Gauge Your Risk Tolerance

While bonds are considered relatively safe investments, there’s always some degree of risk. It’s unlikely that the federal government will default on its bonds. The same goes for local governments, but it is possible for municipalities to become insolvent. Corporate bonds involve the most risk, especially junk bonds that offer high returns. When investing in bonds, gauge your risk tolerance and see how bonds may fit into your overall portfolio.

2. Review the Rate of Return

Bonds generally produce modest returns, especially when compared with the stock market. From 1950 to 2022, the S&P 500 had an average annual return of 11.1%, according to J.P. Morgan. That number was only 5.5% for bonds. Building a bond-heavy portfolio could cut you off from future returns. Your age often plays an important role. Financial experts generally advise investing more in stocks while you’re younger, then gradually shifting your portfolio to a more conservative asset allocation as you get closer to retirement.

3. Consider When You’ll Need the Money

Bonds have different maturity periods. Investing in a 30-year Treasury bond probably won’t make sense for money you’re setting aside for a short-term financial goal. When researching bond options, consider when you’ll need access to your funds, and then create a financial game plan that can help you get the best returns.

4. Look at Credit Ratings

Credit ratings are there for a reason and can help you evaluate the risk associated with different bond issuers. These ratings reflect the likelihood that they’ll default on a bond. Interest rates may be higher with lower-rated bond issuers, but it’s wise to proceed with caution.

5. Consider a Bond Ladder

Bond laddering involves buying a variety of bonds with different maturity dates. This can provide an ongoing stream of predictable interest payments. As each one matures, you can either reinvest in new bonds or use that money however you like. Staggering your bond investments can also allow you to take advantage of rising interest rates as they come.

The Bottom Line

Bonds are low-risk investments that can provide reliable gains. In the end, it’s all about diversification. Including them in your portfolio can help complement high-risk investments like stocks. You can purchase bonds from the U.S. government or on the secondary market through brokerage firms and ETFs.

For any mortgage service needs, call O1ne Mortgage at 213-732-3074. Our team of experts is ready to assist you in making the best financial decisions for your future.

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