Bonds are somewhat like stocks. In general, they are fixed securities. So, they are backed by the value of the issuer. However, if you’re just getting started in the world of investing in bonds, you may be wondering what all the different types of these investment vehicles are and how they all work. Here’s what you need to know about the different types of bonds available on the market today.
Treasury Bonds – Treasury bonds are issued by the United States government, making them some of the most secured bonds in the world. After all, with the US government in charge, the bonds are backed by the incredible power of Uncle Sam. As a result, these bonds are generally considered to be no-risk bonds. However, it’s always a good idea to keep in mind that no investment is ever no risk. At the end of the day, it would take a lot, but there are circumstances under which payments from the government would be delayed.
Municipal Bonds – Municipal bonds are issued by local and state government municipalities. As such, these local and state governments secure the bonds purchased. Once again, because they are secured by government entities, municipal bonds are regarded as incredibly low risk investment options.
Investment Grade Bonds – Investment grade bonds are issued by companies. Essentially, these are used as financing vehicles for companies with strong balance sheets. These companies also carry ratings of at least a triple-B from Standard & Poor’s, Moody’s Investor Services, or both. While these bonds come with a higher level of risk thank municipal or treasury bonds, they are generally considered to be safe investments. Also, because of the higher level of risk, they tend to come with higher return rates.
High Yield Bonds – High yield bonds are very much like investment grade bonds. The difference is who they are issued by. While both types are issued by companies, high yield bonds are issued by companies with relatively weak balance sheets. Due to these weak balance sheets, the risks associated with high yield bonds are relatively high. However, with high risk comes the potential for high rewards, and high yield bonds are some of the biggest earners in the bond space.
Foreign Bonds – Foreign bonds are issued by foreign entities. In general, foreign bonds are a choice among those looking to take advantage of exchange rates for the creation of higher returns. When it comes to risk, the level of risk depends on the company, government, or other entity issuing the bonds. Nonetheless, when purchasing foreign bonds, it’s always advisable to do your due diligence.
Mortgage-backed Bonds – Mortgage backed bonds are just as the name suggests. The funds used to purchase these bonds is backed through a pool of mortgages. As the mortgages perform, the bonds perform. While these bonds come with general risks associated with investing, there is also the pre-payment risk. Ultimately, when the mortgage holder is paid in advance, the bond matures, not allowing it to reach its total value.
Other United States Government Bonds
Finally, there are various bonds out there that are considered to be agency bonds. These bonds are issued by federal agencies like Fannie Mae, Ginnie Mae, and Freddie Mac. In general, returns on agency bonds are higher than returns on treasury bonds. While these bonds are backed by government agencies, they do not have the full backing of the United States government.