You may have heard about stocks and mutual funds as a way to invest your money. Bonds are another way to invest, and they’re a good way to diversify your portfolio.
Bonds are less risky than stocks, but generally pay lower rewards. Financial experts recommend that near retirement age, more of your portfolio should be in bonds. That’s because as you age, you have less time to recover from a crash in riskier stocks. Many bonds are seen as safer than stocks or equity funds.
Ways to Make Money with Bonds
If you are at all interested in making money through bonds, you should first understand what they are and how you can make money through them.
Let’s take a look at the ways you can make money with bonds.
1. Earn interest on a bond
One way to earn interest on a bond is through interest. Most bonds are issued with a “coupon” noting the interest rate that the issuer will pay you on an annual basis. That’s generally based on the prevailing interest rate as well as the viability of the company or organization.
The most basic thing to understand about bonds is that bond prices have an inverse relationship to interest rates. If interest rates go up, the bond becomes less valuable and its face value goes down.
Here’s an example to explain why. Let’s say you buy a bond with a face value of $1,000 that pays a fixed 7% interest per year (7% is its coupon rate). If the prevailing interest rates rise and new bonds are paying 8%, buyers won’t want to pay $1,000 for your 7% bond. You’ll have to lower the price enough that the bond will offer 8% for a buyer.
Another thing to know when you think about investing in bonds is that some bonds have floating interest rates. That means the coupon rate will change as prevailing bond rates rise or fall. Floating-rate bonds are more popular with buyers when interest rates are expected to rise. But they come with a risk. If interest rates fall, then your coupon rate will fall too.
Bonds with fixed interests rates are often considered more stable due to the fact that you know what you are getting into when you buy the bond. However, they also have a risk. If prevailing interest rates rise, your coupon rate won’t rise with them and you’ll lose out on potential income you could be earning elsewhere.
2. Sell your bonds for a profit (capital gains)
If you sell your bonds before their maturity date, then you may experience a capital gain. It is also possible to experience a capital loss. Whether or not you are able to earn money through this method will depend on what the market interest rates are and the status of the bond issuer.
If the market interest rates have increased since you bought your bond, then you will likely lose money on the sale of your bond. Investors will have no incentive to buy your bond if it is less valuable than other bonds on the market.
However, if prevailing bond rates have fallen, then your bond will be more sought after by investors and you will likely be able to sell it for a profit.
Also important is the bond issuer’s credit quality. If it has deteriorated, then you will likely lose money on the sale of the bond. No investor will be willing to take the risk without a significant decrease in the bond price.
However, if the bond issuer has gained credibility over time, then you may be able to sell your bond for a profit.
How to Invest in Bonds
As with most investments, you can buy bonds through a broker. Today, many brokers have online platforms to make the process smoother. But know that you also have the ability to buy the bond directly from the issuer.
If you are looking for a brokerage to work with, then check out a few of our favorites below. All of these are based online, and you can remotely buy and sell bonds from the comfort of your home.
If none of these options work for you, then check out our complete guide to the best free investing apps of 2018. You may just find the perfect fit for your bond trading needs.
Worthy Bonds is one way to invest in bonds. It’s not only an investment platform that works to optimize your returns, but it also helps small businesses throughout the country. When you invest in Worthy bonds, it uses that money to provide loans to small businesses. The interest it earns on those loans goes back into your portfolio as your own interest earned.
The platform offers 5% fixed annual returns on bonds purchased through the site. Worthy Bonds advertises that its small-business loans are “fully secured by liquid assets having a value significantly greater than the loan amount.” The implication is that the loans, and therefore your bonds, are safe.
One drawback to Worthy Bonds is that it only offers bonds — not stocks or mutual funds — through its platform. That limitation can be acceptable if you are only interested in buying bonds or if you can buy other types of investments through another brokerage account.
However, if you’re more interested in simplifying your accounts, then you may want to find a brokerage account that offers you all of the investment options.
One benefit to the service is that you can work with Worthy Bonds through an app. That means you can buy and sell bonds at any time.
Ally Invest is one online trading platform that allows you to buy and sell both bonds and stocks. The platform offers one of the lowest trade fees available.
It also has a very friendly interface that allows you to buy and sell bonds easily. One of the best features of Ally Invest is that it gives you access to award-winning customer service. It’s always good to have someone who can answer your questions. Plus, there’s a mobile app so you can keep track of your investments on the go.
If you are interested in learning more, then check out our full review of Ally Invest.
M1 Finance is designed to make building an investment portfolio easier. Through the platform, you’ll be able to create a portfolio that includes bonds.
The goal of the platform is to allow you to automate your investment strategy. Once you let the platform know what you are trying to build, then you will need to add money.
If you are looking to build a diverse portfolio that includes bonds, then this may be a good option.
Tips for Investing in Bonds
Investing in bonds is a good way to diversify your investment portfolio.
As we said before, bonds are generally considered a less risky investment than stocks. However, bonds are not entirely risk-free, and it is dangerous to assume that bonds will automatically earn you money. In fact, some bonds are very risky investments. Before you decide to purchase bonds, you should learn more about the ins and outs of bonds.
How Do Bonds Work?
One important thing to remember is that not all bonds are created equal. Bond issuers — the organizations that are borrowing the money — may be trustworthy, or not.
The riskiest bonds are called junk bonds. The stability and credibility of the issuer affect the interest rate of the bond.
For example, when the U. S. government issues a bond, the interest rate is relatively low because the investors generally trust the U. S. Treasury to pay out the value of the bond.
However, when a less trustworthy investor issues a bond, it is forced to offer a higher interest rate. It is more likely that the less trustworthy issuer will default on the bond, so the higher interest rate is meant to compensate for the higher risk of the investment.
What Impacts Bond Prices?
The price of a bond is significantly impacted by several factors. The following three are the most important factors that investors should look at before purchasing a bond. Make sure you are getting a fair deal based on the current market values.
Interest rates. Interest rates fluctuate over time. If overall interest rates are high, then bond prices will generally be lower. As mentioned before, a bond has an inverse relationship to its interest rate.
Issuer’s credibility. If the company or organization issuing the bond is not performing well, then you would expect a higher interest rate. Although the higher interest rate is appealing, the bond would generally be considered riskier than a bond with a lower interest rate.
U.S. Treasury bonds, known as T-bills, are considered very safe because the U.S. government is unlikely to default on its payments.
Maturity date. If the bond issuer requires you to commit your money for a long period of time, then you will earn a higher interest rate. The bond issuer will be forced to pay for the fact that it is using your money for several years, or even decades.
Bond prices fluctuate as the market experiences ups and downs. As you are looking for bonds to purchase, you should expect to see bonds available at a variety of prices. The price is determined by a variety of factors including the current interest rates, the credibility of the bond issuer, and more.
You are unable to make money on bonds unless you actually start buying and selling bonds. Of course, you should think about your bond purchases before you make your investments. However, remember that you will eventually have to pull the trigger and make the investment.
Make sure to find the best investment platform for you. Then go start making money with bonds! They may be a great way to diversify your investment portfolio and build your savings or retirement accounts.