Are you looking to invest, but don’t know where to start? Perhaps the Bond market could be your next new venture. Bonds may seem unfamiliar even to experienced stock investors. Don’t sweat it. It is actually quite simple. A Bond is a fixed instrument with a fixed return. It is an undertaking between the bond issuer and an investor, with clearly defined terms, payback dates and interest rates. Simply put, a bond is a fancy term for an IOU – a loan is made to the bond issuer by the investor, who pays the investor an interest for the loan.
Bonds – A Safe Haven for your Money
Bonds can play a critical role in an investor’s portfolio. Bond ownership helps diversify the portfolio, as the bond market usually doesn’t rise or fall alongside the stock market. Bonds are generally less volatile than stock and are usually viewed as a “safer” investment. In effect, bonds are attractive because of the comparative certainty of a fixed rate of return over a defined period of time.
Is that the limit of the safe haven? Not at all. Bondholders also enjoy a measure of relative legal protection. In the event of a bankruptcy or liquidation of a company, bondholders are front-line to shareholders for pay-back. This means, come worst, bondholders have a greater chance of recovering investment as they rank higher in the re-payment waterfall.
Not only this, Bonds come in different attires, to fit a variety of investor preferences. You may pick from treasury bonds, corporate bonds, green bonds etc.
Every Rose has its Thorn
Despite its reputation for safety, bonds come with certain risks. Investors need to be aware of the pitfalls and risks to holding bonds in their investment portfolio. Bonds are subject to interest rate risk. Bonds and interest rates have an inverse relationship. When interest rates fall, the price of bonds trading in the market generally will rise and vice versa. Say for instance, if you buy a bond and hold it until maturity, fluctuation in interest rate and subsequent impacts on bond price will not impact you. On the flip side, if you want to sell the bond before maturity, the par value of the bond will depend on the interest rate in the market.
Bonds are also price sensitive to credit rating. Credit rating is an independent evaluation of the credit risk of a prospective debtor, predicting their ability to pay back the debt and a forecast of the likelihood of the debtor defaulting. An unanticipated downgrade will cause the market price of the bond to fall.
The Bottom Line
Despite the apparent complexity of the bond market, it is really driven by the same risk return tradeoffs as the stock market. Investments in bonds is an essential ingredient for a successful and diverse investment portfolio.
So are you ready to take a step forward to build your investment portfolio? I don’t know if you have heard about this before, but the stock exchange of Maldives currently has bond listings on its market. Keep an eye on https://infinity.mv/ for new offers in the Maldivian market, and the order book of the exchange https://stockexchange.mv/ for the latest trading orders in the secondary market. You might just find your first opportunity to take a dive in to the bond market.
DISCLAIMER: All views and expressions in the article are that of the author and in no way represent the professional advice offered by Maldives Stock Exchange.