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What are Corporate Bonds?

A corporate bond is a way for investors to loan money to companies. A company will pay interest to bondholders regularly over a set period of time. When the bond matures, the company will repay the bondholder the full-face value of the bond. Corporate bonds are similar to government bonds in structure, but tend to offer higher coupon payments because are usually considered higher risk than a bond issued by the US Government.   

The bond itself is usually secured either by the company’s revenue or their assets. For example, a well-established company with a proven ability to bring in a steady revenue stream can offer attractive bond coupons and a measure of security to investors compared to a brand-new company with an unproven ability to earn money. 

Corporate Bonds versus Stocks

Corporate bonds and stocks are both used as a way for a company to raise capital. But stocks represent equity in the company, or ownership. This means if the value of the company rises or falls dramatically, so will the value of your asset. Stocks may offer a dividend, but are not required to.

A corporate bond, on the other hand, usually has a more stable value having less to do with how well the asset is performing and more to do with the demand for bonds. If all goes well, the bondholder will earn a constant return on their investment, even if the company’s stock triples in value. If all does not go well and the company goes bankrupt, bondholders have some protections under bankruptcy law and have a legal claim to be paid. However, this can take time and bond holders do not always get all of their investment back.

Corporate bonds are often used as a more predictable and stable balance to more volatile assets like stocks.

Bond Maturity and Rating

Corporate bonds offer interest payments for a set length of time, such as one year, five years, or ten years. After that period, the initial investment will be returned in addition to the last interest payment. In some cases, investors can redeem or sell their bonds early.

Often investors are not directly purchasing bonds, but investing in bond-based mutual funds. These investments may offer a steady dividend in the form of interest payments and fluctuate in value based the current interest rates. A fund of many different bonds lowers the chance of losing money even further by spreading out the expectation of return.

Another way that corporate bonds differ from one another is in how the bond is rated. Credit agencies calculate the chances that a bond will be defaulted on and assign a corresponding rating. An investment-grade bond has a lower chance of going into default, while lower rated bonds usually have a higher chance.

 The highest bond rating is AAA, which is considered prime investment grade bond. High grade (but not prime) investment bonds are those with ratings of AA+, AA, and AA-. Medium grade bonds rate at A+, A, and A-. The ratings continue through B, C, and D in the same manner, creating 20 different total ratings.

Bankruptcy

There are special rules about what happens to bonds when a company files bankruptcy. Bondholders, like all of the company’s other creditors, will have a chance to file a claim in the proceedings. Many bonds list in the terms exactly where a bondholder’s claim will sit if the company ever were to file bankruptcy, and this order of priority will also depend on the type of bond. If a bond were secured by company owned property, such as equipment or real estate, the bondholders could pursue seizing those assets.

These features of a bond offer some measure of security against losing money on your investment.

Corporate Bonds

Any company can offer bonds, whether or not they have a solid business plan and leadership. Like any other asset, it is important to perform due diligence before purchasing bonds. However, bonds are usually not as volatile as stocks and offer regular interest payments.

The Future Belongs to those who are Patient

 "The stock market is a device for transferring money from the impatient to the patient.” —Warren Buffet

 

As a child, we may have heard a story where ¨patience was a virtue”. ¨The Little Engine Who Could” and “The Tortoise and the Hare” are a couple of instances where consistency, perseverance, and patience paid off for the protagonists, and when it comes to investing, patience can pay off for us too. However, we will need one more thing.

Warren Buffet, a long-term investing expert, has said that ¨the stock market is a device for transferring money from the impatient to the patient, ¨ and where we can see this come into play in the stock market is within our decisions to sell, buy, or hold investments.

Sell too early, and the emotional thought of missing out on potential profits can impact decisions; wait too long, and the idea of shifting markets may preempt logical choices. So, how does patience pay off? Over the long-term, instead of constantly buying and selling, hold value-based investments, which despite short-term market volatility, can add value may do well over time.

In value-based investing we forgo the option to sell or buy in the short-term and have patience and hold our investments for the longer term. In short, holding a quality company in the long-term (with patience) can sometimes prove to be more valuable than continuous trading. Again, assuming we are not trying to make quick money from potential spikes in the market. There are times when our investing and strategy plans requires us to reallocate our investments. When we invest for long-term value, the key is patience (and time). However, changes in fundamentals of the assets in our portfolio or market conditions may require more frequent changes.

We also need a strategy and persistence. As mentioned before, it is important to plan our investment strategy: how much money is investable, how much money needs to be kept on hand, how much money needs to be held in savings, our personal allocation ratios as well as our goals and objectives.. Once we know all of the details about our portfolio, patience then becomes a valuable asset. It is not patience alone that will pay-off, but instead, strategic investment-moves paired with patience that will dictate our financial future.

What Makes the Market Rise and Fall?

The forces that move the stock market are complex, intertwined, and often daunting. To a casual investor, it can be difficult to make sense of what makes the market move. In fact, it is downright unsettling the first time you see an investment lose value.
 
Stock prices naturally rise and fall. Some industries are more volatile than others. Company news and corporate management can play a role in stock prices. Quarterly financial reports are also a contributing factor, whether they soared past expectations or fell short of production. But at the end of the day, the value of a company’s stock is based on supply and demand.

Supply and Demand

Every factor that influences a company’s stock value does so because it changes the number of investors who want to purchase the stock. When a company has a good quarter and exceeds expectations more investors may want to purchase their stock. At the same time, the people who currently hold the asset may be less likely to want to sell. The combination of people wanting to buy and not many people wanting to may sell can potentially drive the price higher if the fundamentals are strong.
 
The opposite may be true as well. When an event occurs that causes the stock to look less attractive, there maybe less people willing to buy. At the same time, investors might be ready to sell their shares. If a large number people are willing to sell their stock and there is a lack of buyers, the price may go down. 

Betting on Return

Taken as a whole, the stock market tends to have a better annual return than most savings account products. For example, the S&P 500 has a ten-year average return of slightly over 8%. (Past performance is not a guarantee of future performance.) If a savings account offered even 1% interest, it might be considered a high-yield savings account today. Many banks currently offer a fraction of a percentage point for interest on savings accounts. It is fair to say that an investor can potentially earn more money in the stock market than they can by putting their money into a low yield savings account over a long period of time. However the risk of investing in the stock market is higher than having the money in a bank savings account. 
 
The average return takes into account the performance of all the individual company stocks listed on the exchange. (Past performance is no guarantee of future performance.)  A individual company or combination of companies are not likely to have the same average return.  Investors build diversified portfolios to spread thier inestos out in order to shield themselves against potential losses. If a portfolio has many different stock holdings, then the performance of an individual holding may not have much effect on the portfolio as a whole.

Double Check Your Asset Allocation to maintain a Balanced Portfolio

If you take good care of your health, you understand the importance of scheduling an annual checkup for preventative health. The same concept holds true with investments: if you take good care of your portfolio, you understand the importance of checking to make sure your portfolio is balanced annually.

Buying and holding investments is the key to seeing a consistent return on investment. But even this strategy requires you to occasionally check in with your portfolio.

Investments that fit in the past may no longer suite your needs. Your goals, objectives and financial situation may have changed. You may want to make adjustments to your investment strategy as you move through your life. If you make regular contributions to your portfolio, as you should, your asset allocation might change due to the performance of different asset classes.   An annual checkup can help keep you on track.

If a financial advisor manages your portfolio, they should be monitoring your portfolio. However, ultimately it is your responsibility to monitor your investments. You should check in with your advisor on a regular basis. After all it is your money. If you manage your own portfolio, it is important to be aware of what classes of assets you own and how they may add value to your holdings and how both your objectives and markets conditions may change over time.

Balanced and Diversified

Every portfolio should contain holdings in different asset classes, such as stocks, bonds, real estate, mutual funds, etc. Your asset allocation, or the way that money is distributed over different types of investments, is a reflection of your investment strategy and depends on your specific goals and objectives.

For example, if you are young and setting aside long-term investments, you might consider putting more money into higher risk assets that may have a higher potential return. If you want to reduce the possibility of your investments losing value, you may want to invest your money in more conservative investments.

You need to check for balance within asset classes as well. You may want to consider purchasing assets in both domestic and international markets. You can diversify by purchasing stocks from different sectors or investing your assets into Mutual Funds or Exchange Traded Funds.

Over time, you will need to adjust your investment strategy and reconsider your portfolio holdings. Although it sounds like a daunting task, it comes down to three main steps:

Review Your Target Asset Allocation

What is your investment strategy? One investor may take an aggressive position and invest heavily in startup companies, while another might invest their money in more conservative investments. The first step to rebalancing your portfolio is redefining what your investment goals are and the best way to achieve them.

While there are many “quick” methods of calculating what your ideal mix of stocks, bonds, mutual funds, and other kinds of investments should be, the heart of your investment strategy lies in your relationship with risk. If you are not comfortable with the thought of losing money, you may want to keep a higher percentage of your money in more conservative investments. If you would rather take the chance of losing money for a higher return, you may want more money in stocks.

Your age may have an effect on how much risk you are will to take on. A young investor may be more attracted to the idea of risk because if they experience a loss, they have a longer time frame to recoup potential losses. As people get closer to retirement, they may want to avoid losing any money because they will need to begin drawing on it soon. Although not everyone feels the same in general the older you are, the less comfortable you may be with the idea of risk.

Look at Your Current Allocation

How are your assets currently allocated in your portfolio? If you keep all of your assets in one place, such as in your company-sponsored 401(k), it may be pretty easy to figure out your current asset allocation. In fact, that information can often be found on the dashboard of your portfolio account. But if your investments are spread out over different accounts, determining asset allocation is a little more difficult.

There are different tools online to help you with this task, but a simple spreadsheet can give you an overview of where your money is located.

Buy and Sell as Needed to Rebalance Portfolio

Once all of your investments are laid out, you can compare your current asset allocation to your ideal asset allocation. This often means you may have to buy and sell assets in order to rebalance your portfolio.

For example, a young investor is interested in taking on greater risk with the chance of higher returns, so he/she decides to allocate 80% of their money to stocks and 20% to bonds. His or her current portfolio has an asset allocation of 60% stocks and 40% bonds. In order to rebalance their portfolio along the guidelines of their new goals, they will need to sell 20% of their bond holdings and use that money to purchase stocks.

At the end of the day, it is a simple three-step process to bring balance to your portfolio. However, the number of moving parts in any given portfolio makes it easy to get confused and overlook things. An experienced financial advisor can help you decide which asset allocation works for you, determine your current allocation, and make recommendations for how to structure your portfolio.

The 5 C's of Credit

Lenders need to make smart choices when it comes to who to lend their money to. In fact, having a system for lenders to measure a borrower’s credit may make it less expensive to take out loans. Banks can offer lower interest rates to responsible borrowers in hopes of attracting more of them and charge higher rates for borrowers who are less likely to pay. 

Thy system used by financial institutions to determine your creditworthiness is called the 5 C’s of Credit, and they include character (or credit history), capacity, capital, collateral, and conditions. Together, they paint a picture of the borrower’s financial situation, whether or not they can afford to pay back a loan, and how likely the institution is to get their loan back if the borrower defaults. 

Character (Credit History)

Paying your bills on time every month and not letting any accounts go to collections is the first step to showing lenders you are creditworthy. The lender can see the details of your credit history on your credit report, although with any debt you have in collections or negative legal actions against you. A FICO score is a bird’s eye view of the information collected by each of the three major credit bureaus, and banks will start with your FICO score before moving through the details of your credit history. 

Capacity

Capacity refers to the actual ability to pay the monthly loan payment. To calculate a borrower’s capacity, the financial institution will look at all the debt the borrower currently has, their income, the stability of that income, and their debt-to-income ratio. A borrower is destined for failure if they get into a situation where they have to pay more on their debts each month than they have coming in as income. 

Capital

A financial institution wants to know that borrowers are serious about the loans they are being given. Capital refers to the borrower’s ability to contribute money toward the purchase price of the item requiring a loan. Placing a down payment towards a home is a common example. A larger down payment shows the financial institution that you are willing to do your part to finance the purchase. The more money you can pay up front, the more you stand to lose if you default on the mortgage and go into foreclosure. 

Collateral

A borrower is more likely to get a loan if they have some collateral to secure it. That means if the borrower is unable to pay back the loan, there is some item of value that the financial institution can claim in exchange. Collateral is fairly straight-forward when it comes to loans in exchange for purchases, such as cars or property. The loans are secured by the item. 

If you need to borrow money for something other than purchasing an item that can be used for collateral, it can be more difficult. Borrowers are sometimes able to take a second mortgage or refinance loans on the collateral they’ve built in their property. That is, borrowers can take loans on the difference between the value of their property and the amount they still owe on it. 

Conditions

Finally, the specific conditions of the loan play a role in whether or not it is a good fit for a particular borrower. This can refer to the terms of the loan, such as the length of time the borrower will pay back the loan and how much interest they will pay. But it can also refer to slightly more arbitrary conditions of the loan. For example, what will the borrower spend the money on? A mortgage for an individual’s primary residence will likely be more attractive than a signature loan with no specifications to how the money should be spent.