If you are looking for an alternative to conventional deposits that offers attractive interest payments and portfolio diversification, then bonds should be on your radar. Bonds are what's called 'Fixed Income securities' and ideal if who want regular income and capital appreciation.
What Are Bonds?
They are types of debt issued by companies (corporate bonds), governments (treasury bonds), utility providers (like DEWA) for raising long-term finance, to fund projects, for operations or expansion on a fixed cost basis. It could also be Junk bonds i.e. debts of companies in financial difficulties.
Terminologies to Know
It's important to know a few key terms. When you buy a bond, you are loaning money for a period to the issuer. In exchange, the borrower promises to pay (IOU) interest and return the principal at "maturity", when the loan comes due, in the future or at "call" if the bond permits that. The length of time to maturity is called the "term." A bond's face value, or price at issue, is known as its "par value." Each bond issued has a fixed interest payment rate known as a "coupon". It is paid at regular intervals over a tenure from 1 month to 30 years based on the bond. Upon maturity, the issuer repays the 'face value' of the security in full along with any outstanding coupon payments.
Based on the type of bond, interest is paid monthly, quarterly or annually. The interest rate (or coupon) is a percentage of the face value. The maturity date is the date in the future on which the investor's principal will be repaid and can range from one day to 30 years or more.
Do note, the bond-holder does not share actual profits or ownership, as its not shares/equity you are purchasing.
Citibank offers over 1000 types of International bonds to choose from the US, Eurozone, Middle East and Asia, across industries, currencies issued by reputable organizations.
Types of Investment Bonds
There are various types of bonds. Fixed Rate (they pay the same amount of interest for their entire tenure). Floating Rate (have a variable interest rate that fluctuates to market interest rates through an index); Zero Coupon (no periodic interest payment, but offered at a discount from its face value).
Bond pricing is based on the credit rating of the issuer - because when you buy/sell a bond, you are in effect buying/selling the debt in the underlying loan relationship. Ratings are done by firms such as Moody's and S&P and expressed as AAA-A (all investment grade), BAA/BBB (investment), BB, B, CCC-D and D (junk).
Benefits of Investing in Bonds
- Good for diversification
Since 1926, large stocks have returned an average of 10 % per year; long-term government bonds have returned between 5% and 6%, according to investment researcher Morningstar. True, stocks have returned more than bonds, but they are also more volatile. Even with short and medium dated bonds, the risk is lower than that of equities (stocks). Thus, bonds are generally viewed as safer investments than stocks. Combining stocks with bonds will is recommended for a more stable portfolio.
- Provide steady Income
Bonds provide a worry-free stream of income and among the most valuable tools in your investment kit. Because they pay interest regularly, they are a good choice for investors - such as retirees - who prefer a steady stream of income. Short-term bonds are good to buy a house or send a child to University that you have planned in the coming years.
- Based on your risk appetite
If your objective is to achieve capital gains, concentrate on longer term bonds. When interest rates fall. Long-term bonds - especially zero-coupon bonds - will suddenly be worth a lot more. On the flip side, it is a disadvantage if interest rates rise; your portfolio drops in value.
If your objective is a steady, secure stream of income, stick to shorter term bonds. Even 1-10 year maturity bonds yield more than shorter-term bonds, and less volatile than longer-term issues. A bond that matures in one year is more predictable and less risky than a bond that matures in 20 years. In general, the longer you keep your bonds, the higher the annual returns.
- Bonds offer flexibility
Previously issued bonds can subsequently be sold (traded) to other investors during its lifetime in a 'secondary market'. This gives the flexibility to adjust if their view of interest rates subsequently changes. You could say bonds have a easy resale value. As a thumb-rule, when interest rates fall, bond prices rise. A fixed time deposit does not offer this opportunity.
Remember, the interest payments you will get from owning a bond are "fixed", your return is not necessarily so. You must consider possible risk related to inflation, changing interest rates, price fluctuations, change in credit ratings of the bond, liquidity and market risk. You cannot eliminate risks, but you can reduce their impact.
Tips:
- Look at the 'total return' as that is what matters. This includes all the money you earn off the bond: the annual interest and the gain/loss in market value if any.
- Invest in a variety of bonds with different maturities, either by buying a bond fund or many individual bonds to created a 'laddered portfolio'.
To get started, apply for an Investment Account, by visiting your nearest Citibank branch or request for a callback. Citibank’s relationship professionals will assist you, including assessment of your investor profile, knowledge and experience.
Once the Investment Account is set up, fund your current/savings/checking account and you are all to set to begin buying and selling bonds.
Image credits: CC BY-SA 3.0 by Nick Youngson