Investing

What is a Bond? Are They a Better Investment Than Stocks?

what-is-a-bond-are-they-a-better-investment-than-stocks

What is a Bond? Are They a Better Investment Than Stocks? – Highest Rated?

When companies need to borrow money, they can borrow it from banks, or they can borrow it from regular people like you and me. That’s where bonds come into play.

Bonds are debt instruments issued by companies, as well as municipalities like cities, states, and counties. The U.S. government also issues bonds – Treasury bonds.

When you buy bonds, you’re essentially agreeing to lend the issuer a certain amount of money for a preset period of time. The issuer, in turn, agrees to pay you a certain amount of interest over the life of your bonds, and then return your principal investment once the bonds mature, or comes due.

Let’s imagine you buy $10,000 worth of Company X’s bonds at 4% interest for a 10-year term, and you hold those bonds until maturity. That means you’ll collect two $200 interest payments each year for a total of $400, and then, you’ll get your original $10,000 back after a decade.

But collecting interest isn’t the only way you can make money from bonds. Bond values can fluctuate based on how the market or a given issuer is doing, so you might have the option to sell your bonds above face value, or for a price that’s higher than what you paid for them, and profit as a result.

Now some people like to lump bonds and stocks into the same general “investing” category, but the two are very different from one another. When you buy bonds, you’re lending the issuer money, and it’s obligated to pay you interest and return your principal later on.

When you buy stocks, you’re actually getting an ownership stake in the issuing company. If that company then does well, it might share its wealth in the form of dividends. You might also get voting rights that give you a say as to how that company operates. With bonds, you get paid regardless of whether the issuer is profitable – but you don’t get a say in how it manages its money. And remember, some bonds are issued by the government itself – and the government certainly doesn’t want your opinion on how it should run.

There are plenty of good reasons to add bonds to your portfolio. First, though there’s no such thing as a risk-free investment, they’re a relatively safe one compared to stocks because their values don’t tend to fluctuate quite as rapidly. And the better a job you do of vetting bond issuers, which you can do by looking up their credit ratings, the less likely you are to lose money on a bond investment.
Bonds are also a good way to secure a steady stream of income in the form of the semiannual interest payments we talked about earlier. Stock dividends, by contrast, aren’t guaranteed, because corporations aren’t contractually obligated to pay them the same way bond issuers are required to pay interest.

Furthermore, usually, when you collect dividends or interest, you’re required to pay taxes on that money. Some bonds, however, allow you to earn interest without owing the IRS taxes. Municipal bonds, for example, are always exempt from interest at the federal level. And if you buy municipal bonds issued by your home state, you’ll avoid state and local taxes as well. Treasury bonds, meanwhile, are always exempt from state and local taxes.

On the other hand, bonds do have their drawbacks. First, they require you to lock your money away for a potentially lengthy period of time, so if you’re the type who fears commitment, you might have some issues with that. From a financial perspective, tying up your money for what could be 10 years or more exposes you to something called interest rate risk.

We just learned that bonds pay a certain amount of interest, depending on what their contracts call for. But what happens if you buy 10-year bonds paying 4% interest, and a month later, that same issuer offers bonds at 4.5% interest? Suddenly, your bonds lose value, and you lose out on the added income that higher interest rate would’ve given you.

Furthermore, while bonds are considered safer than stocks, they’ve historically delivered lower returns. If you load up too heavily on bonds, you might limit your portfolio’s growth over time.

Ultimately, if you’re going to buy bonds, you might consider an approach called laddering. All that means is buying bonds that mature at different intervals rather than sinking a bunch of cash into bonds with a single maturity date. That way, you get access to your money along the way, leaving you free to reinvest it in other places or snag higher bond interest rates as they become available.
————————————————————————
Subscribe to The Motley Fool’s YouTube Channel:
http://www.youtube.com/TheMotleyFool

Join our Facebook community:
https://www.facebook.com/themotleyfool
Follow The Motley Fool on Twitter:
https://twitter.com/themotleyfool

Thanks for watching the What is a Bond? Are They a Better Investment Than Stocks? video!

Watch the What is a Bond? Are They a Better Investment Than Stocks? video on Youtube

23 Comments
Share

23 Comments

  1. Sharon Kennedy
    July 16, 2021 at 11:23 pm

    Thank you.

  2. Justifiablebeliever
    July 16, 2021 at 11:23 pm

    Depending on how hands-on you’ve chosen to be with investing in stocks, you’ll either set up your investment accounts through a broker online or through your financial advisor as I do with Mr Eddy Bruke.

  3. My Investing Journey
    July 16, 2021 at 11:23 pm

    Thank you!!!

  4. Bryson B2008
    July 16, 2021 at 11:23 pm

    Excellent explanation of bonds!

  5. CorruptedCoder
    July 16, 2021 at 11:23 pm

    Finally all the confusion has been addressed…thanks

  6. EC
    July 16, 2021 at 11:23 pm

    Best explanation of Bonds that I’ve heard 👍🏻

  7. Sir Copperfield
    July 16, 2021 at 11:23 pm

    Great host!

  8. Howard Hofer
    July 16, 2021 at 11:23 pm

    very nicely done. Great info.

  9. tamsinwood2
    July 16, 2021 at 11:23 pm

    Great info, thanks

  10. C. Lincoln
    July 16, 2021 at 11:23 pm

    You said there was no exchange for bonds, where do you buy municipal & corporate bonds then?

  11. Rich
    July 16, 2021 at 11:23 pm

    If it feels good, do it!!!

  12. Mr. Berry
    July 16, 2021 at 11:23 pm

    Bonds are great for older investors, 50-65. Otherwise, it is only good once a recession is expected soon.

  13. Bill landrey
    July 16, 2021 at 11:23 pm

    I like this way of obtaining information

  14. Carolyn Miller
    July 16, 2021 at 11:23 pm

    I can see that putting some of my money into bonds could help me psychologically through the recent extreme volatility of owning stocks. Thaks

  15. Dave Todd
    July 16, 2021 at 11:23 pm

    Thanks ! Well done.

  16. rahul sharma
    July 16, 2021 at 11:23 pm

    Nice one! I would love to see some video explaining investing for salaried people and how can get tax benefits investing (apart from 401k, ira)

  17. Vernon Mauldin
    July 16, 2021 at 11:23 pm

    Nicely done…..thanks for the information!

  18. Ni Tian
    July 16, 2021 at 11:23 pm

    Thank you for making this informative video. You didn't have to and people are more educated for it. Thank you.

  19. Aaron Ramsden
    July 16, 2021 at 11:23 pm

    Bonds right now unfortunately don't seem like a good investment with interest rates so low

  20. Prince Ataya
    July 16, 2021 at 11:23 pm

    Simple but thoughtful insight

  21. Dave White
    July 16, 2021 at 11:23 pm

    Great info!

  22. TenaciousC
    July 16, 2021 at 11:23 pm

    No. Simple

  23. Shane Hummus - The Success GPS
    July 16, 2021 at 11:23 pm

    Knowing more about bond is a good thing after that evaluate yourself if it is suited to you or not. If yes, then invest on it if not then don't.