VO:Your Money at Work. Insights that can help you build a more secure future. Brought to you by PIMCO.
People invest for many reasons. No matter what your personal financial goals may be, to reach them, you need to make sure your money is working hard and working smart. But with today’s complex global markets and so many investment choices available, it can be hard to decide what’s right for you. Understanding a few basic concepts can help you make more informed decisions about investing. This video will help you get started.
Bonds for Income. Earning income is an important goal for many investors, and they have often relied on bonds to help them achieve it. Bonds are issued by governments and companies to raise capital. When you buy a bond, you are lending money to the issuer who agrees to pay back your original investment, known as the principal, at a specific time, and in most cases, to make regular interest payments along the way. Those payments can provide a valuable source of income for investors at all stages of life. Retirees may use the income for living expenses. Younger investors may keep the income or reinvest it to help build their wealth.
The most common ways to think about a bond’s income potential are coupon rate and yield. Let's talk about coupon rate first. Coupon rate is the fixed amount an issuer promises to pay each year. For example, a treasury bond with a face value of $1,000 and a coupon rate of 2% would pay $20 per year. The prices of bonds can rise and fall, but the coupon rate remains constant. That brings us to yield, which is often more meaningful to investors.
A bond’s yield is the rate of income it pays based on its current market price. Think about that treasury bond again. Let's say the price of that bond dropped from $1,000 to $800. The coupon rate is still 2%, so the bond still pays $20 per year, but a $20 interest payment on a bond that costs $800 equals a 2.5% yield. What if the price of a bond rises? Let's say the price of the bond went from $1,000 to $1,250. The investor would still earn $20 in interest, which equals a yield of just 1.6%. Given the choice, would you rather invest in a bond with a low yield or a higher yield? It’s natural to want the most return from an investment, so it may be tempting to choose bonds that offer the highest yield, but it’s important to consider the risks.
Bonds that pay higher yields typically carry greater risks. These risks can include default, which means that the issuer is unable to pay the interest or original amount invested when it’s due. Another risk is volatility, which is how much the bond’s price and yield fluctuate. Investors who choose bonds solely for high yield may be taking on more risk than they had anticipated, so careful research is important in selecting bonds with the right risk return balance for you. Right now, yields on U.S. Treasury Bonds are near record lows, and this challenging environment may be forcing investors to look beyond this traditional source of income. Fortunately, they have plenty of options. Income-generating bonds are issued by governments all around the world and by companies in every industry sector. In fact, U.S. Treasury Bonds only make up about 13% of the 90-trillion-dollar global bond market.
If investing in bonds for income seems like a good idea, what’s the best way to go about it? For many people, a mutual fund that invests in income-generating bonds makes sense. A professional portfolio manager will research and select bonds on your behalf, seeking income opportunities while managing risk throughout the global bond market. An income fund can help you pursue the potential for higher yield while also preserving capital.
Helping your money work harder and smarter while you achieve your financial goals.