Your Questions About Investing In Bonds

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James asks…

What is the best way to invest in bonds in a taxable account?

My goal is long-term growth because I have a stable and highly paid job. I want to use bonds to diversify my stock portfolio. Quality (low default rate), low cost, and tax efficiency are the most important to me.

I’m considering Vanguard or Fidelity bond index funds for their low cost and diversification.

I’m also considering IBond (US Saving Bond Series I at TreasuryDirect.gov) for its tax deferral, tax-exemption when redeemed for my education, and guaranteed principal plus interests at maturity.

How do you invest in bonds in your taxable accounts? Why?

Justin answers:

Tax-free municipal bonds. There are some Vanguard funds that have these.

David asks…

investing in Bonds vs Stocks?

What is the better investment today?

Justin answers:

The toughest thing about investments is the answer is different for certain people in certain situations. Bonds are considered safer and stocks are considered riskier. Yields (money made) on bonds tend to be a lot lower then yields on stocks. The reason that bonds are safer is because if a company fails and has to start liquidating itself then the creditors and employees get first access any money left available. Next in line is the bond holders, and very last is stock holders. Sometimes bond holders will get paid in a default and someone who owns the stock might not get anything.

I think bonds are good to have in a portfolio as a safety. But if you are young and looking to expand your capital then the risks and rewards of stocks are better suited for you.

Mark asks…

how much money is invested in bonds and how much is invested in certificates of deposit?

Susan purchased municipal bonds which yield 7% annually and certificates of deposit which yield 9% annually. If Susan’s initial investments amount to $13,000 and the annual income is $950, how much money is invested in bonds and how much is invested in certificates of deposit?

Justin answers:

.07x + .09(13,000-x) = 950
.07x + 1170 – .09x = 950
-.02x = -220
x = 11,000

.07(11,000) = 770
.09(2000) = 180

180 + 770 = 950

Paul asks…

Investing/Trading Global Bonds (Small Fries)?

Why does it appear that small time investors have such difficulty getting to trade/invest in bonds of Sovereign countries? If I think the bond sell off in Ireland is over done and I want to load up on Irish Bonds, where can I go to snag a few bond issues?

It seems like only Bonds are off limits to small investors. We can all buy Stocks, ETFs, Options, Trade Forex, etc.. But when it comes to Bonds of Sovereign nations, it seems like getting your fingers on any is few and far between,

Justin answers:

Sovereign debt is usually held by large institutions and central banks. It isn’t economical for nations to issue small denominated bonds that would be attractive to a retail investor. You can seek out ETF’s or mutual funds that may have positions in these type credits.

As to Ireland, there is lots of Irish bank paper out there to invest in. Since many are on the verge of nationalization, and/or bk, you could play it that way if you are a risk taker.

Michael asks…

What is the best way to invest savings bonds?

My kids have well meaning grandparents who send savings bonds for birthdays and holidays and I have no idea what to do with them. I have thought about putting them in a mutual fund at some point. Does anyone know what amount of money you have to have to start one up?

Justin answers:

Most mutual funds require minimum amounts of around $2,000 to $3,000 to open an account. If you’re thinking of redeeming the savings bonds and using the money to open a mutual fund account, beware of the early redemption penalty on the bonds (3 months interest). And they cannot be redeemed until they are at least 12 months old. If your kids are under 18, the mutual fund company will want you or another parent to sign the account papers, since the kids won’t be old enough to enter into legal contracts themselves.

If the savings bonds are small amounts (like $25 or $50), and the total is nowhere near $2,000 or $3,000, there’s nothing wrong with just letting the savings bonds accrue interest. While the interest rates aren’t high, they are reliable (because the U.S. Government stands behind the bonds). In 15 years time, they’ll probably compound into a nontrivial value. Remember the power of compounding (see the webpage listed below). Maybe the bonds can help the kids cover their college expenses.

Steven asks…

need direction on how to start investing in stocks and bonds etc?

Justin answers:

Standard investment advice is that you should invest in a diversified mix of stocks, bonds, and money market funds. If you are like most people you will invest part of your money aggressively in stocks, and part conservatively in money market funds and bond funds. However, some young people will go all stocks, and some very conservative people will go all money markets. The links below have on-line questionnaires which will give you an idea of how to do “Asset Allocation,” determining how much to put in each type of investment.

You want to buy a diversified portfolio of stocks as individual stocks are too risky. Highly knowledgeable people can buy a properly balanced portfolio, but most folks have a difficult time balancing things on their own. They will misbalance their portfolio by buying all small stocks or all growth stocks, or some other misbalanced assortment of stocks. Back in 2000, Some people bought all Internet stocks; they got burnt when they all crashed together. You have to diversify across industries. Unless you know what you are doing, it is best to buy mutual funds that will diversify for you. Buy no-load, low cost funds. Mutual funds should have expense ratios of less than 0.5%.

If your company offers a 401K plan at work, try to invest the most you can. The money grows tax free, and some companies will match your contribution. Investing in a mutual fund IRA is also a good idea. If you have children, you may want to consider a 529 plan or other college savings plan that grows tax free.

I like index funds. Because of their broad diversification, you are less likely to have a dramatic drop in value. They also have the lowest expenses. For stock funds, I would suggest putting ~70-80% of your money in the Vanguard Total Stock Market Index Fund. And ~20-30% in a foreign stock index fund. The Vanguard Total Bond Market Index Fund is good for a bond fund. The Vanguard Target Retirement funds can be good all-in-one stock and bond funds for an IRA. However, there are many different opinions out there on what the best mutual funds are. Read the links below and form your own opinion.

If you have high-interest debt, like credit cards, it is best to pay this off first before trying most of the investment ideas above. You should also have 3-6 months of salary saved up as an emergency fund in a bank or money market fund before trying more risky investments.

I will warn you that there is a tremendous amount of stock investing books and websites that teach stock investing strategies that don’t work. Particularly bad are people that teach “technical analysis” systems that sound impressive, but don’t work.

Believing advice you get on Yahoo answers can be risky, so read these websites for further information. If you find it too confusing, contact a professional financial advisor. They will charge you significant commissions, however.

Daniel asks…

What are the risks and rewards associated with investing in stocks and bonds?

Justin answers:

The reward is that you can make money, the risk is that you can loose money
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Let’s look at bonds. Bonds are rated by rating services as to how likely the rating’s service thinks the bond is likely to pay out as advertised. Standard and Poors has a ratings system. “AAA” is the highest rating. AAA bonds are extremely likely to pay the interest and not loose your principle. “AA” are a little less likely, “A” less likely than “AA”, Then you have “BBB” bonds as the next level down. “BBB” bonds are reasonably likely to pay interest and maintain your principle. Below “BBB” bonds are speculative or more plainly unlikely to pay a return as promised. Now here is the problem: AAA bonds pay the lowest interest rate because they have lower risk. As the risk of default increases the interest rate the bond issuer pays increases to entice people to buy their bonds. So the greater the risk the greater the reward. But it can be quite risky buying high interest bonds, because its likely you have nothing but a pile of worthless bond certificates from a company that went out of business.

Ken asks…

How to invest in the stock market?

I am looking for reputable guides and books on investing. I am starting to have a bit more cash these days and I have people I know who have been doing very well in the stock market. I know nothing of these and would really like to learn how to trade stocks, invest, bonds, derivatives, etc. I was looking at books on Amazon but there are so many and I want to books that take into account what has happened during the recession and such for good measure. Any suggestions?

Justin answers:

An introductory book like _Stock Markets for Dummies_ is a good place to start.

Investors Business Daily (IBD) is a solid daily resource (and its complement, www.investors.com ). It’s a better newspaper than the Wall Street Journal and it is built around a particular approach to trading. You could read _How to Make Money in Stocks_ by William O’Neil too–he’s the founder of IBD.

Search your local library for other books on stock investing. Try to absorb as much knowledge and understanding as you can. Eventually, you should open a brokerage account and paper trade for a while–this is practice (not real money), which you should do extensively before you put any real money at risk.

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