Almost every corporation and government in the world issues bonds. The bond market dwarfs the stock market, when measured in dollar volume. In addition, while stocks are issued solely in the private sector, both corporations and governments can issue bonds. For governments, issuing bonds or other similar securities is the only way they can borrow money.
Emphasis added.
Yet most people, including investors and traders, often don’t know much about bonds, and to complicate things more, bonds come in a multitude of often confusing types.
If you’ve thought about investing in bonds or are just curious about them, Bonds: The Unbeaten Path to Secure Investment Growth provides a clear explanation about how the various types of bonds work, what to invest in, and what to avoid.
Their somewhat controversial thesis is that a 100% bond portfolio is less risky and ultimately more profitable than stocks. They do repeatedly say they are talking about “plain vanilla” bonds, not high risk corporate debt or mortgage-backed securities, advising that investors buy such bonds and hold them to maturity.
The bond market has a huge if sometimes indirect effect on the stock market and interest rates. It’s finally dawned on me that to really understand the financial crisis we are in, you need to understand bonds. This book helps do that, and also details a logical, well-thought-out method to make money by buying and holding them long-term.
Even with “vanilla paper” you need to be alert. With pension and health care obligations, bond insurors in trouble, even “vanilla paper” can have problems. Look at Vallejo, CA and Jefferson County, AL.
Any investment is a balance between risk and return. Bonds are, on the whole, much less risky than stocks. And this includes corporate bonds. Why are corporate bonds less risky than their stock counterparts? Simple–in case of bankruptcy, equity holders (i.e., people with stock) are last in line to be repaid. In such a circumstance, bondholders may unfortunately end up with pennies on the dollar, but stockholders end up with zilch.
So why invest in stocks? Because there is no limit to the upside–which their definitely is with bonds. With a bond, you are stuck with the yield to maturity you started with–the bond will never pay you more than that. (I’m excluding such floating rate bonds like TIPS from this discussion.) Whereas with a stock, you never know when the return is going to take off for the stratosphere–or sink like a stone. You take extra risks with stocks, but have the possibility of much greater return.
Jefferson County was doing exotic swaps and apparently had no idea what they were doing. Vallejo just flat ran out of money. Scary stuff.
I prefer stocks and options too, but if you don’t want to actively manage investments and say, want to insure you have enough money in ten years for something, then long-term buy plain vanilla new issues and hold until maturity bonds seem a great way to go.