If you’re new to investing, chances are, you’re gearing more toward stocks, which about 60% of Americans own. While they’re undoubtedly a wise choice, you shouldn’t put all your eggs in one basket.
Instead, you should explore other investment media, including secured bonds. With these, you can diversify your portfolio, reducing your risks of losses due to volatility.
But what exactly do secured bonds offer that makes them smart investments?
Read on to discover what’s so special about them and why they deserve a spot in your portfolio.
Secured bonds are debt investments secured by assets owned by their issuers. The assets serve as collateral or security to the loan. They can be physical, such as real estate or equipment, or an income stream.
If an issuer defaults on the bond, the title of the asset they pledged as a security gets transferred to the bondholders.
That backing makes secured bonds lower-risk investments. Because even if the issuer fails to pay back their debt, bondholders get first rights to the collateral. This reduces the investors’ odds of losing all their investments since they can recoup their money through the asset pledged by the issuer.
By contrast, unsecured bonds don’t offer the same level of security since no collateral backs them. The same goes for stocks; a drop in their value means you’ve already lost money. The only way to recover some of your losses is if their value increases again.
The downside to secured bonds is that they offer lower returns due to their higher safety. Conversely, unsecured bonds and stocks often have higher returns because of their higher risk. This is why diversifying your portfolio with a mix of low- and high-risk options is one of the wisest investment strategies.
Many secured bonds come from reputable entities, including government agencies. A perfect example is the U.S. government, which offers EE and I savings bonds. The government backs these investments, meaning you can invest in them confidently.
Many municipalities also offer secured bonds. So do established companies such as Goldman Sachs, Vanguard, and McDonalds.
Various Types of Secured Bonds Available
Government entities often issue secured bonds to raise capital for building infrastructure. They may also “borrow” money from investors to finance government-backed mortgage loans. As for corporations, they offer these investments to fund operations, expansion, and equipment purchases.
Those goals typically dictate the type of secured bond investors can buy. Here are some of the most common ones you may want to consider investing in.
U.S. Treasury Bonds
A U.S. Treasury bond, or T-bond, is a secured bond from the U.S. Treasury Department. These include the savings bonds mentioned above. When you buy these bonds, you help the U.S. government finance its borrowing and spending needs.
While they’re not risk-free (no investment is), experts regard U.S. Treasury bonds as one of the safest investments.
Mortgage bonds often come from government agencies like Fannie Mae and Freddie Mac. These investments help finance government-backed mortgage loans. Mortgage payments made by homeowners then fund the interest payments earned by bondholders.
State or local governments and agencies issue these bonds to finance public projects. For example, they may use the money to build hospitals, schools, bridges, and roads. The income earned by these structures then helps repay the bondholders.
Secured Corporate Bonds
Corporations issue these bonds to raise capital for their operations or future expansion. For example, they may use it to improve their facilities, buy equipment, or construct a new building.
The assets that secure corporate bonds can be the same things the issuer used the funds for (e.g., the purchased equipment). In other cases, they can be inventories, patents, or trademarks.
Another good reason to invest in secured bonds is that they’re among the most affordable investments. For example, you can buy U.S. savings bonds for as little as $25! That’s about the same price as a mid-range restaurant meal.
A Predictable Source of Income
With a secured bond, you’ll often earn money through monthly interest. You may receive the payments quarterly, bi-annually, or yearly, depending on the issuer’s terms.
Some secured bonds also have fixed interest rates. This means you’ll receive a predictable income throughout the year.
Long-Term Interest Earnings
You can buy secured bonds that let you earn interest for up to 30 years or more. This makes such investments among the best ways to build generational wealth. Because if you invest in them now, you could double or even triple your money by the time you cash in on them after two to three decades.
Also, the longer the term is, the higher the interest payments secured bonds offer.
The income earned through most investments isn’t tax-free. For example, if you sell your stocks for profit, you may have to pay up to 20% capital gains tax. You may also have to pay taxes for any dividend from your investments.
By contrast, the interest payments you earn from many secured bonds from U.S. governments are tax-exempt. For instance, if you buy U.S. Treasury bonds, you won’t have to pay state or local taxes. You can also defer paying the federal income tax on these bonds when you cash them out.
Secured bonds issued by municipalities are also typically exempt from federal and state taxes. However, this often only applies to bonds purchased in the investor’s home state. If you buy one from a state other than your home state, the latter may tax your bond’s interest income.
Diversify Your Portfolio With Secured Bonds
While secured bonds often offer lower yields than unsecured bonds or stocks, they’re safer and more reliable than either. Plus, they’re affordable and can give you a steady source of income. Lastly, they offer many tax advantages you won’t enjoy from other higher-risk investment media.
All that should be enough reason to use secured bonds to diversify your portfolio.
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