What are Bonds?
Bonds are investments that are sold and traded on the market.
Essentially, they are a type of loan that businesses and governments use to finance projects and pay off business obligations.
How Do Bonds Work?
A bond is like an IOU from a corporation, the federal government or a municipality, such as a city or state. When money is needed, it’s borrowed from individuals through the sale of bonds.
Bonds have a maturity date – the time when the issuer must repay the investor. Depending on what type of bond it is, the maturity date can be under a few years or up to 30 years. Interest is paid to the bond holder at regular intervals until the bond reaches maturity.
Benefits
Issuers benefit by having the investor’s cash to finance projects and build businesses.
Investors benefit when they receive interest payments and are repaid in full.
Risks
Investment always comes with some risk, but most bonds are relatively safe. The greatest risk involved is when the issuer is unable to pay back the bond holder at the time of maturity. Therefore, it is necessary to do some research before purchasing a bond.
U.S. Government bonds would be considered the safest, while corporate bonds carry the greatest risk of the common bond types. Typically, the higher the risk, the higher the interest payments.
Rewards
Bonds are often combined with stocks in a portfolio to balance out the risk/reward scenario in an effort to maximize investment growth.
While bonds typically deliver lower interest and have less growth potential than stocks, there is usually far less risk involved.
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