Types of Bonds

Bonds are crucial to any financial investing plan. If you're starting an investment plan, learn the basics of bond investing before you get started. A bond is type of debt security. When you buy a bond, what you're really doing is lending money to the government or another federal or corporate agency. In return, you get a specified amount of interest that you will receive when the bond matures.

There are different types of bonds to choose from: U.S. government securities, municipal bonds, corporate bonds, mortgage and asset—backed securities, federal agency securities and foreign government bonds. Since there are so many types of bonds to choose from, it helps to talk to an investment advisor.

Most individual bonds are sold over the counter, in $5,000 denominations. The bond price usually includes a markup to cover the dealer’s costs and profit. Bond funds are another way for someone to invest in the bond markets. Bond funds are similar to stock funds, and as an investor you can diversify risks.

Money market funds refer to pooled investments in short term securities. These include U.S. Treasuries, municipal bonds, certificates of deposit issued by major commercial banks, and commercial paper issued by corporations. They usually have maturities of three months or less.

Bond unit investment trusts give you a fixed portfolio of investments in government, municipal, mortgage-backed or corporate bonds. These are professionally selected and remain constant throughout the entire life of your trust. Many people like unit trusts, because you know exactly how much you will earn while you’re invested in it.

What Are High-Yield Bonds?

High-yield bonds are issued by organizations that do not qualify for “investment-grade” ratings by credit rating agencies. Credit rating agencies evaluate all bonds issuers and give them ratings based on their ability to pay interest and principal. Think of it this way: if an untrusted company offers you a bond, how are you to know that you will get your money back? Organizations with a higher risk of defaulting on their interest or principal get a lower rating, so they may pay a higher interest rate to attract investors to their bonds.