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Thursday, November 27th, 2014


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A Beginner’s Guide To Bond Investing

Paul Vogelzang has heard all the stereotypes about bond investing. Bonds are boring. Bonds are too conservative for college students. Bonds aren’t as sexy as stocks.

"Bonds may be boring, but they are safe," counters Vogelzang, executive director of education for the U.S. Treasury’s Bureau of Public Debt, in Washington, D.C. "Safety really matters to people these days. People like the fact that bonds are backed by the U.S. government and the U.S. Treasury."

If Vogelzang and the government have anything to do with it, college students will have a new impression of the "boring" bond market thanks to the launch of the U.S. Treasury Direct website.

"We want college students to think of bonds as not your father’s Oldsmobile," he suggests.

He has company from Tom Taulli, adjunct professor for the University of Southern California’s Marshall School of Business, in Los Angeles, and author of "Decoding Financial Statements."

"In the old days bonds were very boring, you just clip your coupons and fall asleep," explains Taulli. "But some bonds, such as junk bonds, are just as volatile as investing in equities."

Bond holdings can be as dull as watching paint dry or as extreme as snowboarding in the Winter X Games. It all depends on the risk you are willing to stomach and the type of bond you buy.< /p>

Bond Basics

Treasury Direct enables you to buy Series EE savings bonds, Series I inflation indexed-bonds, and take part in Treasury Auctions of bond offerings online. But if you are like most college students, you probably don’t know the difference between an iBond and an Izod. So, let’s take a look at the ABCs of buying bonds, and perhaps you will come away thinking, "You know what? Bonds are actually pretty cool."

First, bonds are debt instruments of the U.S. government, local governments, municipalities, foreign countries or corporations. Bonds have an inverse relationship between their price and interest rate. In other words, if the price of a bond rises, its interest rate falls. If the price of a bond falls, its interest rate rises.

A bond "rally" means declining interest rates, which is deflationary, and is generally good for bond investors. A bond "selloff" means rising interest rates, which is inflationary, and generally means bad news for bond investors.

U.S. government bonds and three-month long T-Bills are considered the least risky of investments. These types of bonds include Series EE savings bonds and Series I bonds (iBonds). Check out the Treasury Direct website for more information on the different bond types.

Investing Risks

Taulli cautions that the risk of interest rates going higher outweighs the risk of interest rates going lower off the current historic lows. If you want to buy bonds, he recommends college students purchase a bond mutual fund that spreads the risk across several types of bond investments. Be certain the fund has low fees. Otherwise, your return can be totally wiped out by a mutual fund’s expenses.

He also suggests college students that wish to purchase individual bonds look for bonds that have five years or less in duration, as the risk-reward ratio for long-term bonds is too high stakes in the current environment.

Taulli adds that even though you are young, you should not be so aggressive that you ignore bonds totally in your portfolio. If a major selloff happens in the stock market, investors often flock to bonds in a "flight to quality," to protect their capital.

In other words, safe can be sexy.

© 2008, Young Money Media, LLC. All rights reserved.

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