Quite frankly, a bond is a loan. You are not investing in the company and getting a share, you’re letting a company or government entity borrow your cash. Some bonds really are safe, but others are far riskier, however different types of companies and entities command higher or lower interest rates based on their perceived safety.
Some government bonds, such as German or US sovereign bonds, are about as safe as they come, for the simple fact that it is very difficult for a stable government to perish, therefore the interest rate, in the bond is quite low.
On the other hand smaller companies or governments that are known to be volatile pay a higher rates, but there’s less of a guarantee that you’ll get your money back. If the entity defaults, most or all of your money will be lost.
You can invest in bonds by buying individual bonds directly or putting your money in bond funds, such as ETFs or mutual funds. A bond fund is a basket of bonds of a certain type.
Because there are multiple bonds in the fund, if one bond ends up in default, there are plenty of others in the fund to soften the blow. You don’t have that protection with individual bonds.
On the other hand, bond funds involve management fees: Any time you invest in a fund, you have to think about fees. Every fund has an expense ratio: the amount of money taken from your earnings to manage the fund. Sometimes it’s very little; other times it can take a huge bite out of your earnings.
Bonds issued by investment grade companies are considered safe but safety can mean they don't yield much. In fact, if the interest rate isn’t higher than the rate of inflation, your investment is actually losing you money; therefore note that there is such a thing as being too safe. With that, consider inflation whenever you’re evaluating how to put your money to work.
Disclaimer: This article was issued by Steve Diacono, for Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view and opinions provided in this article is being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri & Co. Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.