By Bob Child, President
“You get what you pay for.” I’m sure everyone has heard this phrase; usually referring to some used car, cheap jewelry, or discount airline ticket, and typically referring to a deal that went south. But in the Financial, Bond Market, the phrase, “You get what you pay for,” is actually a positive remark. Allow me to explain.1 Safety of Investment Grade Bonds, Asset Dedication White Paper Series, http://assetdedication.com/public/uploads/pdf/Asset_Dedication_White_Paper-Safety_of_Investment_Grade_Bonds.pdf (February 2011).
You purchase a bond at a fixed interest rate and you will receive a semi-annually payout equal to that interest rate annually, depending on the structure of the bond. Most bonds pay semiannually, some may pay quarterly or monthly. That may sound over simplistic; however, the reality is, as long as you hold onto the bond until maturity, the income generated from the interest payments is generally considered more conservative and somewhat more predictable by fixed income experts. As of February 2011, the occurrences of default for high quality municipal and corporate bonds are generally very low. “99.97% of all Aaa and Aa rated municipal bonds and 98.96% similarly rated corporate bonds have generated coupon payments and redemptions as promised over the past 40 years without a single missed or even late payment.”1 The beauty of bonds is that while the principal value of bonds may fluctuate with the markets, most bonds, by definition, pay a predetermined amount of interest for a set period of time AND assuming you hold it until maturity, it should pay off at its original face value.
Why is this important? It’s important for two reasons: The market is unpredictable and a portfolio mix should reflect a balance of risk. I tell my clients to think of the famous “Tortoise and the Hare” story. The “Hare” in this example could be equities, mutual funds, or any number of investment products. The “Tortoise” would be the bond market. Your returns from investment products or equities are constantly fluctuating, jumping up and down; while your returns with bonds may have a high probability that the bond will yield the expected return projected.
In today’s unpredictable markets, it’s not enough to think only of the potential upside to any investment idea. Today, you must also think of the downside. People often make this mistake and do not consider what may happen if things take a tumble. With corporate bonds and tax-free bonds, you’ve bought it at a fixed interest rate resulting in cash flow. So when that race is over, you know exactly where your returns are with bonds.* It’s anyone’s guess where your equities might be. So, if the investors suitability or investment objective are in line, the investor may consider bonds as part of their portfolio, and go with the “Tortoise”… you might just get what you pay for.
*Assuming no defaults.
Securities offered through vFinance, Inc., member FINRA/SIPC. Accounts are carried by National Financial Services LLC, Member NYSE/SIPC, a Fidelity Investments ® company. Investment Advisory Services offered through National Asset Management, Inc., a Registered Investment Advisor and affiliate of vFinance, Inc. Member FINRA/SIPC. vFinance, Inc. and National Asset Management is not an affiliate of Child Group Wealth Management.
Disclaimer: There are risks involved with investing, including loss of principal. Past performance does not guarantee future results. By investing in bonds you may be subjected to price volatility based on fluctuations in issuer and credit quality. When investing in bonds, you are subject, but not limited to, the interest rate, inflation and credit risks associated with the bonds. Bonds may be worth less than original cost upon redemption or maturity. ** Fixed Income investments may limit a client’s risk exposure by receiving consistent cash flow on their investment depending on the terms and rating of the investment, no matter what the market value of the bond is at that time. So, even thru volatile times, as we have seen these past few years, while the principal value of bonds will fluctuate with the markets, most bond investments are locked in at a fixed interest rate of return.
* Interest payments are determined by the interest paying ability of the underlying guarantor. Principal for fixed income products are generally paid upon maturity date unless called prior to maturity by the underlying guarantor. Investments in Fixed Income products may lose principal value if sold prior to maturity. ** Please discuss your specific investment objectives, time horizon and risk tolerance with your investment professional prior to investing.
© Child Group Wealth Management 2012