Basics Of Bond Investing

When you buy a bond, you are loaning your money for a certain period of time to the issuer. In return, bond holders get back the loan amount plus interest payments.


Bonds are not turbo-charged CDs. Though their life span and interest payments are fixed; thus the term "fixed-income" investments ; their returns are not. With a bond, you always get your interest and principal at maturity, assuming the issuer doesn't go belly up. With a bond fund, your return is uncertain because the fund's value fluctuates.

When interest rates fall, bond prices rise, and vice versa. If you hold a bond to maturity, price fluctuations don't matter. You will get back the original face value of the bond, along with all the interest you expect.

Inflation erodes the value of bonds' fixed interest payments. Stock returns, by contrast, stand a better chance of outpacing inflation. Despite the drubbing stocks sometimes take, young and middle-aged people should put a large chunk of their money in stocks. Even retirees should own some stocks, given that people are living longer than they used to.

Tax-exempt municipal bonds yield less than taxable bonds, but they can still be the better choice for taxable accounts. That's because tax-frees sometimes net you more income than you'd get from taxable bonds after taxes, provided you're in the 28% federal tax bracket or higher.

When interest rates are high, gamblers who want to bet that they'll head lower should buy long-term bonds or bond funds, especially "zeros." Reason: when rates fall, longer-term bonds gain more in price than shorter-term bonds. So you win big - scoring a large potential capital gain in addition to whatever interest the bond may be paying. If rates rise, on the other hand, you lose big, too. Via

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