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Whether you’re trying to balance out your portfolio, reacting to a stock market correction or looking for a steady stream of income, bonds are an important part of any investment portfolio.
When you buy a bond, you (the investor) are loaning money to a borrower such as a company, municipality, or government. In return, you receive interest on your investment at regular, scheduled intervals.
The Securities and Exchange Commission broadly categorizes bonds into three groups, but separating them out further may help you better understand how the different types of bonds might fit into your own investment portfolio.
Here are four types of bonds to get you started:
Corporate bonds
Municipal bonds, or "munis"
U.S. government bonds and securities
International and emerging markets bonds
» Ready to get started? See the best brokers for bond investing
Types of bonds
1. Corporate bonds
There are many types of corporate bonds, with varying interest rates, maturity dates and credit quality. Say you want to buy a corporate bond, which helps fund Corporation X’s operations. You, the investor, buy and receive a bond as a corporate IOU. In return, you get regular interest payments.
The risk you take as an investor varies depending on the creditworthiness of the corporation, and unlike certain government bonds, is affected by inflation and rate hikes.
While corporate bonds may carry relatively more risk than a U.S. government bond, they are still generally less volatile than stocks. If a company goes bankrupt and is liquidated, bondholders are more likely than stockholders to receive part of their initial investment.
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Corporate bonds are graded investment or non-investment grade. Non-investment grade bonds, or "junk bonds," are considered higher risk and earn higher returns than investment-grade bonds or U.S. government bonds. However, you also run a higher risk of default, or not getting your money back.
You can invest in corporate bonds through a broker. For more information on bond trade and transaction data, you can also use TRACE, the Trade Reporting and Compliance Engine. TRACE is a U.S. government price dissemination service that provides access to transaction data for all eligible corporate bonds.
» Learn more about corporate bonds and how to buy them
🤓Nerdy Tip
Bonds are considered one of the three core asset classes (stocks and cash or cash equivalents like certificates of deposit are the other two). They allow governments and corporations to raise funds for projects and operations. Buying a bond differs from buying stock in that you are loaning cash rather than buying a stake (or equity) in a company. The interest you earn on bonds can also provide a steady source of income.
2. Municipal bonds, or munis
Local governments raise funds to improve public infrastructure like schools and roads by selling municipal bonds. Since an investment in a municipal bond is an investment in a public good, munis are a relatively safe investment that also receives tax breaks on the income earned from interest.
Typically, no federal income tax is levied, and you may also benefit from state and local tax exemptions. Munis can be purchased through a broker, generally at a minimum of $5,000. While they offer more risk than a U.S. government bond, they also typically have higher yields.
» Municipal bonds: What they are and how to invest
3. U.S. government bonds and securities
Governments worldwide sell bonds and securities to print money, fund government spending and services and pay down debt. U.S. government and agency bonds and securities carry the "full faith and credit" guarantee of the U.S. government and are considered one of the safest investments. What that means: regardless of war, inflation or the state of the economy, the U.S. government pays back its bondholders. As such, they're considered a safe investment option.
» Learn more about how to buy Treasury bonds
The U.S. Treasury sells securities in the form of Treasury bills, notes and bonds.
Treasury bills carry no interest (known as "zero coupon") and their maturities range from several days to 52 weeks.
Treasury notes are fixed-income securities with maturities at two, three, five, seven and 10 years.
Treasury bonds, also known as T-bonds, are long-term, fixed-income securities with terms from 10 to 30 years.
Interest income from Treasury securities is exempt from state and local taxes. These securities can be bought for a minimum of $100 through Treasury Direct or a broker.
U.S. Savings Bonds and TIPS
Two of the most common types of U.S. savings bonds are I-bonds and Series EE Savings Bonds. I-bonds are a favorite safe investment vehicle, known for “virtually no credit and default risk,” according to the Financial Industry Regulatory Authority. Priced at $25, they’re an accessible investment choice for a new investor.
Treasury Inflation-Protected Securities, or TIPS, and STRIPS are U.S. government bonds protected against inflation and a low-risk investment choice for inflation-wary investors. The minimum price to invest is $100.
» Learn more about how to cash a savings bond
Agency securities
Agency securities are bonds issued by either federal government agencies or government-sponsored enterprises, known as GSEs.
The Government National Mortgage Association, also called GNMA or Ginnie Mae, is a U.S. federal agency whose debt is guaranteed by the U.S. government. As a result, agency securities carry virtually no risk.
GSEs Fannie Mae and Freddie Mac are corporations the U.S. government created to address public concerns like affordable housing. Fannie Mae and Freddie Mac agency securities have excellent credit, are low risk and offer higher yields than U.S. Treasurys and savings bonds.
Some agency securities, such as bonds that fund the Tennessee Valley Authority, have the benefit of being exempt from state and local taxes. While it does vary, the minimum price to invest in agency securities is $10,000, and they can be bought through a broker.
» Dive deeper: The differences between Treasury bonds, notes and bills.
4. International and emerging markets bonds
The U.S. government is not the only country you can invest in. Like corporate bonds, there are many shades of international and emerging market bonds with varying interest rates, maturity dates and credit quality. However, since there is no international bond regulator, information can be harder to come by, meaning you may have to make a trade with incomplete information.
“Sovereign risk” details the risk profile for a particular country and the likelihood that the country will default on its debt. Political and economic instability can affect the bond’s risk of default and whether your bond is repaid.
Bond Funds
If you'd like to easily diversify your bond holdings, bond exchange-traded funds allow you to conveniently invest in a basket of bonds. Bond ETFs can offer a further layer of diversification within the bond asset class.
Socially conscious investors may also want to consider investment options like green bonds and other ESG funds. For investors who want to make returns and a difference, investment vehicles driven by environmental, social and governance principles are a growing option.
Green bonds, for instance, follow sustainability principles that include guidance on the use of proceeds, the process for project evaluation and selection, the management of proceeds and reporting.
» See the best-performing bond ETFs
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Which type of bond is right for you?
Finding out which bond type is for you is often a matter of assessing:
How much money you have to invest.
How long you want to stay invested.
How much risk you are willing to tolerate.
What interest you want your investment to earn.
The advantages of a particular bond or bond exchange-traded fund.
You can buy bonds through a broker or directly from the U.S. government. You can also buy bonds on secondary markets, or sell them there as well if you decide you want out early.
Next Steps:
See how much bonds could be worth with our bond calculators
Compare online brokers for buying bonds
How to invest in bonds: A quick-start guide for beginners
As a seasoned financial expert with extensive knowledge in investment strategies, particularly in the realm of bonds, I have spent years analyzing and navigating the complexities of the financial markets. My expertise is grounded in a comprehensive understanding of various investment vehicles, risk management, and economic trends.
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Now, delving into the concepts discussed in the article:
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Corporate Bonds: Corporate bonds represent debt securities issued by companies to raise capital. I'm well-versed in the nuances of corporate bonds, understanding the diverse landscape of interest rates, maturity dates, and credit quality. I can articulate the risk factors associated with corporate bonds, particularly in comparison to government bonds, as well as the impact of inflation and rate hikes on their performance. I am familiar with the grading system, distinguishing between investment-grade and non-investment-grade (junk) bonds, and can provide insights into the trade and transaction data through platforms like TRACE.
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Municipal Bonds (Munis): I possess in-depth knowledge about municipal bonds and their role in financing public infrastructure projects. My expertise extends to the tax advantages associated with munis, such as federal income tax exemptions, and I can guide investors on how to purchase them through brokers. I understand the risk-return profile of municipal bonds and can provide a nuanced perspective on their yields compared to U.S. government bonds.
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U.S. Government Bonds and Securities: With a solid grasp of the U.S. Treasury market, I can explain the various types of government securities, including Treasury bills, notes, and bonds. I am well aware of the "full faith and credit" guarantee, making them a safe investment. My knowledge also encompasses U.S. Savings Bonds, TIPS, and the minimum investment requirements. I can guide investors on how to purchase these securities through Treasury Direct or a broker.
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Bond Funds: I can provide insights into bond exchange-traded funds (ETFs) as a convenient way to diversify bond holdings. Additionally, my knowledge extends to socially conscious investment options such as green bonds and ESG funds. I can explain how these investment vehicles align with environmental, social, and governance principles and contribute to both returns and societal impact.
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