Whether we like it or not, fixed income investments are a necessary evil when it comes to investing for any long term goal, namely retirement. At current rates, however, the prospect of investing in bonds or any other type of fixed income investment is made difficult. As well, the media has been extremely vocal about how this specific asset class is doomed to fail in the coming months and years.
As level headed investors, once we realize that this asset class is likely to be around for decades into the future, we see that while there are few opportunities for growth in this field at the moment, the long term prospects for bonds and fixed income instruments remain fairly strong. In addition to being the best performing asset classes of the past decade, bonds offer steady income at reduced levels of risks. But if you are looking into buying into this asset class in the near future, here are three things you need to consider:
1. Coupon Rate. This is the amount of income you can expect to earn on your bond or bonds, representing the cash flow. In periods of low interest rates, coupon is arguably the most important factor when deciding to buy a bond. With rates expected to increase, it is important for the purchaser to ensure that the coupon is sufficient to offset rising rates.
2. Price. Although it is difficult to purchase a bond at a premium, for many investors the benefits of a higher coupon rate will offset the capital loss at maturity. As well, if an investor knows that he or she will have gains from other assets (due to liquidation as an income or cash replacement technique), the buying at a premium could have positive tax implications. Likewise, for long-term investors who would prefer to see a capital gain rather than incurring interest income from coupon payments, purchasing a bond at a discount will make the most sense. Consider your tax and income needs before buying.
3. Maturity. Knowing your bond's maturity is essential to ensuring that you are not going to be caught off guard at maturity time. Since the income will need to be replaced, a decent understanding for the interest rate climate is vital before you can match your income needs to the right maturity options available.
These are three of the key things you will need to consider when buying bonds. Although there is no escaping the fixed income component of any investment portfolio, you can opt to make the best decisions not only for the current day, but for the years that the investment or investments are expected to last.
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Chris has more than 17 years of financial services experience. As a regular contributor to the Mutual Fund Site, he recently wrote about Gold Funds and the Franklin Gold and Precious Metals Fund in particular.
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