Along with a bear market for stocks, 2022 has, according to Morningstar, been the worst year ever for the bond market. Bond values have fallen up to 30% this year, putting a bigger dent in many retirement accounts that hold bond ETFs. Fortunately, in the current, higher interest rate world, you can invest safely in bonds with attractive yields and eliminate the potential for any losses.
But what goes down often comes back up. And 2023 is looking like a great year to invest in bonds.
So, let’s take a look at the best way to invest in bonds for growth and income in 2023…
In their recently released 2023 global outlook, Morgan Stanley said, “…we think that high grade bonds, one of the biggest losers of 2022, will be one of the biggest winners of 2023. Real and nominal yields have risen materially across a wide range of high grade markets. Less growth, inflation, and tightening make stable returns more attractive.”
But bond investing requires a different set of knowledge and skills than stock investing. Here is the short course on how to do it.
A bond will have a fixed maturity date and pay a fixed yield. For example, if you buy a $10,000 bond with a 6% coupon rate, the bond will pay $600 per year of interest and return the $10,000 when the bond matures. The important point is that if you hold a bond until maturity, you will get the face value back.
Bond prices change due to changing interest rates. If rates go up, bond prices go down, and the opposite for falling rates. Because of varying rates, a bond is unlikely to be priced at face value. Your broker will provide a yield-to-maturity rate, which takes in the current bond price, the face value, and the coupon rate. If you buy a bond and hold it until it matures, you will earn the yield to maturity as the annual rate of return.
An important concept: Bond funds and ETFs do not buy bonds and hold them until maturity. A fund constantly buys and sells bonds to maintain a targeted average maturity in the portfolio. Because of this, bond funds are more of a bet on the direction of interest rates and not stable income investments.
To invest in bonds safely, you want to be able to buy and hold until maturity. One way is to purchase individual bonds through your broker. U.S. Treasury Notes and Bonds are easy to buy for almost any face amount. If you have a seven-figure brokerage account, your broker will be happy to show you other types of bonds, such as corporate or municipal bonds.
I recommend getting bond exposure through the Invesco BulletShares series of bond ETFs for my Dividend Hunter subscribers. BulletShares are different than other bond investments. They are a series of funds with all of the bonds in a specific fund maturing in a single year. As far as I know, BulletShares are the only bond ETFs that hold bonds until maturity. As I noted above, this guarantees a return of the principal amounts, and you can count on earning the quoted yield to maturity.
For example, the Invesco BulletShares 2024 Corporate Bond ETF (BSCO) has a current yield to maturity of 5.19%.
Different BulletShares funds are available maturing from one to ten years. There are investment-grade bond ETFs, high-yield (“junk”) bond ETFs, municipal bond ETFs, and emerging market debt ETFs in the series. BulletShares pay monthly dividends, which will boost your final average yield if you put them on automatic reinvestment.
In this era of higher interest rates (thank you, Federal Reserve Board), you can put money safely to work and earn a reasonable yield. Just make sure you understand how the bonds or funds you choose function.
— Tim Plaehn
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Source: Investors Alley