A Few Things on Buying Individual Bonds
The above chart illustrates what approximate total return fixed income investors will earn by buying treasuries as of Sept 1st 2022.
a) We see the curve is downward sloping from the 2 yr to the 10 yr. (Inversion) This has happened in the past as a precursor to a recession. We are in a technical recession in terms of slowing GDP.
b) The 30 yr rate is also below every bond maturing in five years or less. Why would you want to tie up your money for 30 years if you could yield higher over a shorter time period?
Here are a few things that can effect overall yield (total return) when bond investing:
1) Coupon Rate - This is the rate of interest to be paid on a bond each year. This amount is shown as a percentage of $1000 which is the maturing value for most bonds.
For example, a corporate bond with a 4% coupon rate will pay $40 annually per bond of $1000. 10 bonds, with a maturity value of $10,000, will generate $200 every six months for a total of $400 every 12 months until the maturity date.
2) Discount/Premium - Bonds in the secondary market do not usually trade at $1000 per bond.
Many factors effect bond prices such as coupon rate, default risk and the time to maturity. Be careful selecting bonds. This price of a bond will effect the total return of the investment.
For example, the coupon rate of newly issued bonds will affect the prices for existing bonds in the market. A bond with a 4% coupon will most likely trade at a discount (<1000/bond) if similar bonds that are newly issued have a 5% coupon rate.
Vice versa, a bond with a 5% coupon will trade at a premium (>1000/bond) to similar bonds with a 4% coupon.
3) Callable bonds - This is a feature where the issuer of a bond could prepay your principal before the stated maturity date.
For example, to refinance at lower rates, reduce their interest expense, or reduce their debt to equity ratios. Bond issuers will be able to Call Away a bond based on a schedule of dates with rates.
This can effect when you receive your money back and at what price. Both of these factors will affect your total return on the investment.
4) Puttable bonds - This is a feature that enables the investor to redeem (put) their bonds earlier than the stated maturity date. There will be a schedule with the puttable dates and the rate that a bond could be redeemed. This could affect the total return but is not forced.
Rising rates can be bad for existing bond holdings but can present buying opportunities for retirees looking for more income or those looking to balance their holdings. Bulldog Financial Planning can offer you a second opinion or periodic investment advice on your bond investments.
BFP also offers discretionary fixed income investment management under a cost effective managed expense. This means reviewing opportunities and building bond ladders as a way to help balance your portfolio or help you with an income stream in retirement.