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Become an expert in bonds so you can save smarter

Become an expert in bonds so you can save smarter
Become an expert in bonds so you can save smarter

This week I asked my Twitter followers where they would invest $10,000 to get a good return over 12 months.

Almost two-thirds said they would invest into just three asset classes: property, shares, or a savings account.

The glaring omission was “bonds” – just 4% of respondents thought to invest in them.

Simply, bonds are debts. When called a “corporate bond”, they represent a borrowing made by a company, which offers an interest rate so that you lend the company money.

A “bank-issued bond” is when banks borrow from big investors by issuing bonds.

High-quality bonds offer stable returns with relatively low risk.

For example, today you can get nearly 6% per annum on a senior-ranking, variable-rate bond issued by one of the major banks. And many are liquid: you can put your money in and take it out when you want.

The rate of return you get on the bond is usually tied to how “secure” it is, or the risk that you won’t be paid your interest.

So why are you not offered bonds?

The financial regulations say that the normal minimum investment in a bond is $500,000, which means they are limited to the big end of town.

This is supposed to protect “mums and dads” from bad decisions. But it’s actually unfair: none of you are stopped from buying far riskier bank shares via an online stockbroker.

The difference here is between debt and equity, a point you need to understand: almost all businesses are made up of “debt” and “equity”. If you put your own money into starting a new business, your holding is your equity. But you may also borrow money from the bank, which is your debt. If the business fails, you bear most of the risk – the banks get their money first.

The same applies to a home: when you buy a house your deposit is your equity. But you also typically take a loan from the bank. When your home’s value rises and falls, so does the value of your equity. In contrast, the bank’s return is the comparatively secure interest rate on its loan.

Now that you understand this, why shouldn’t you be allowed to get access to the lower risk returns associated with high-quality bonds?

It’s easy for you to buy shares in Westpac, but nearly impossible to invest in Westpac’s AAA-rated covered bonds.

ANZ recently listed one its bonds on the ASX so you can buy and sell small parcels of it while getting 7.1% per annum return.

This is going to be a big topic in the years ahead because retirees, near-retirees, and even people in the “accumulation” phase of their lives need an alternative to low returning bank accounts or the high risks of shares. Super funds haven’t helped by putting 60% 70% of default options into volatile shares rather than stable bonds.

My advice: take expert advice and become educated about bonds so you can save smarter.

Mark Bouris is executive chairman of Yellow Brick Road, a financial services company offering home loans, financial planning, accounting and tax, and insurance. He runs a Q&A session on Twitter every Monday afternoon at 4pm for small business owners using the hashtag #bizQandA.

 

Mark Bouris

Mark Bouris

Mark Bouris is executive chairman of Yellow Brick Road, a financial services company offering home loans, financial planning, accounting and tax, and insurance.

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