In the world of investing, there is a perception among the general public that bonds are not as appealing as stocks or unit trust funds. However, as any smart investor will tell you, bonds can be a crucial part of your investment portfolio. If you invest in a high quality bond, you will discover that potentially, they can provide a steady income stream and at a fixed coupon (interest) rate. By the end of this article, you will be able to identify the pros and cons of bond investing. In Malaysia, most investors seem to be more familiar with the term "bond fund" or "bond unit trust fund".
What is a bond?
When you are in need of a large sum of money, one of the easiest ways to fulfill your fund is by taking up a loan. Huge companies (and even the government too) sometimes need to take loans to fund their projects and ambitions but the funds they need usually out scale the amount that banks are able to offer. So the best way for them to gather their funds is by issuing bonds for the public.
A bond is a certificate or security showing that the investor has loaned funds to a company or to a government in return for fixed future interest income and repayment of principal.
Investors such as you will then lend these companies money by purchasing the issued bonds, and after a certain period, the company will pay back the amount borrowed. While waiting for the end of that period, the company will regularly pay you interest at a predetermined interest rate also referred to as coupon.
Some of the corporate bonds (in the form of loan stocks) in Malaysia are listed on Bursa Malaysia. However, most of these instruments are issued on a private placement basis and are traded on the over-the-counter basis. As these bonds are issued without prospectus, the intruments could only be issued or offered to a restricted list of investors as specified under the CMSA. For instance, such bonds could only be offered to individual investors with high networth of RM3 million or above.
Take note that when an investor buys a bond, he/she becomes a creditor of the issuer. However, the buyer does not gain any kind of ownership rights to the issuer, unlike equity investments.
So should I consider a bond investment?
- Bonds are a good option to consider if you need a steady and relatively dependable source of income. Bonds are also something to consider including in your retirement fund or plan because they provide a regular interest payments for you to live on.
If approaching retirement age, perhaps you could consider diversifying your investments by switching some assets from higher risk equity investments (e.g. stocks) into bonds. The general rule here is that unless you can afford to, you would probably want to reduce your investment risk as you approach retirement.