A Brief Guide to Investment-Grade Bonds

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Investment-Grade Bonds Explained

An investment-grade bond represents a bond that carries a relatively low credit risk compared to other types of bonds.

This bond is a corporate and government debt that bond rating agencies regard as less risky and more likely to be paid back with interest, making it ideal for conservative investors looking to diversify or turn a profit.

The credit risk of investment-grade bonds ranges from lowest to moderate. This type of bond can generally meet interest payment obligations.

Bonds that are not investment-grade are known as junk bonds, which are risky debt that typically offers attractive yields and better chances that the issuer would be unable to repay your investment or meet their payment obligations.  

The Agencies

There are currently three major credit rating agencies that rate bonds, with each one of them having a minimum bond rank to be considered as investment grade:

  • Fitch denotes bonds rated BBB- or higher as investment grade.
  • Moody’s regards bonds with ranks Baa3 or higher as investment grade.
  • Standard & Poor’s considers bonds with a rating of BBB- or higher as investment grade.  

Benefits of Investment-Grade Bonds

Lower Risk

Investment-grade bonds are less risky than stocks, as they don’t experience the same volatility as stocks do. Such characteristic betters the odds of their value to remain steady regularly.

If, for instance, a company goes bankrupt, bondholders will be paid before the stockholders. That raises their chances of seeing a complete return of the amount they invested.

Steady Income Stream

Investment-grade bonds can offer retirees and income investors a steady income stream. Moreover, the interest payments with these bonds are guaranteed, compared to particular dividend stocks that are uncertain with the payouts.

Higher Yields

Investment-grade bonds often have higher yields than other fixed-income alternatives like treasuries and municipal bonds. The longer-term average yield for investment-grade corporate bonds stands at 2%, while municipal bonds are at 1.3%.

Factors to Consider Before Buying Investment-Grade Bonds

Returns

Returns for investment-grade bonds are lower than non-investment-grade bonds and stocks; therefore, you may not be able to earn enough to keep up with inflation. So if you’re looking to achieve your investment or retirement goals, you should avoid putting too much in bonds.

Liquidity

Bonds usually require to be held until their maturity date, which makes your money inaccessible for years.

Note that investing directly in bonds instead of holding shares of bond funds can keep you from selling your holdings when it is absolutely necessary. But if you do manage to sell your bonds on the secondary market, you may have to sell them at a loss.

Transparency

Many corporate bonds are traded over-the-counter (OTC), making their markets less transparent with the prices. That means you’re more likely to pay more than you need to. That is why financial advisors urge investors to choose bond funds over individual bonds.

Capital

Most bonds are not issued as partial shares. Instead, they are available in $1,000 increments, which may require you to have a large capital if you want to start investing in individual bonds.

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