What are the Benefits of Investing in Bonds?
Today in the United States investors have a variety of choices in the bond market, including US government bonds, asset-backed securities bonds, high-grade corporate bonds, municipal bonds and also high-yield bonds. But what are the benefits of investing in bonds? In today’s blog we’ll take a look at exactly that. Enjoy.
First, an investor can enhance their current income with high-yield bonds. This is especially true when interest rates are on the decline. Astute investors will focus on the difference between the yields on, for example, high-yield bonds as well as the yields on US treasuries. This is called a “yield spread” and, during almost all of the 1980s and 1990s, the yield spread was between 300 and 400 basis points (i.e. 3% to 4%) for securities that had a comparable maturity. There is an increased risk however, so you need to be willing to accept the trade-off for higher yields.
Bonds give you capital appreciation potential. Things like upgrades, improved earnings reports, a company merges or gets acquired or they have positive product developments can reward the investor with an increase in their high-yield bond’s price.
Security is also an added benefit of investing in bonds. For example, if a company is liquidated, bondholders are more likely to get a payment than stockholders because they have priority in the capital structure of the company. In fact, even an investor who holds a low rated bond will get their share of company assets before both preferred and common stockholders. The reason is simple; during the bankruptcy distribution of corporate assets, holders of “secured debt” and “unsecured senior debt” will have the highest claim on a corporate assets left over.
Diversification is one of the major tenets of investing and, with high-yield bonds, investors get what’s considered a separate asset class, one that has different characteristics from other securities. Investing in high-yield bonds allows investors to spread their assets across many different segments of the financial market, which reduces their “risk concentration”, i.e. the amount of risk they take by putting too much of their money into one asset class in their portfolio.
Lastly, high-yield bonds usually have a very attractive “total return performance”, meaning they pay better dividends. This is especially true when the economy is booming and interest rates are either standing level or in decline. Total return performance includes any price changes that occur as well as the income an investor makes from reinvested interest.
As you can see, the benefits that investing in bonds gives an investor are various and, in most cases, potent. If you have any questions or need any advice about investing in bonds, or about personal finance in general, please let us know by leaving a comment or dropping us an email.
Filed under: Bonds
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