Recently, the stock market price fell hard, causing investors huge losses and pushing many to seek safer investment options in a bid to cut their losses and reduce the effect of stock market volatility on their portfolios. In such situations, bonds become a haven for low-risk profile investors to preserve their capital, and earn stable returns, while balancing their portfolios. These benefits will be discussed later in the article.

…But first, what are bonds?

Bonds are debt instruments used by Government and corporations to raise funds from external sources, which they can use to finance long-term projects or expenditure. Bonds are debts like bank loans where the borrower owes the investors (lenders) periodical interest payments over the life of the bond including principal repayment at the maturity of the bond. Unlike stocks, bonds have an ending date. There are three kinds of bonds available in Nigeria: corporate bonds, FGN bonds, and state bonds. Bond issuers are obligated to pay their bondholders (lenders) the principal and interest agreed as and when due.

Why should you buy bonds?

1. Offers A Stable Source of Income

A bond portfolio provides steady streams of income earned from interest payments paid by issuers to bondholders prior to maturity. Bonds tend to offer the most stable cash streams. Even when bond rates are low, there is always a variety of bond options you can use to build a portfolio that meets your income needs. Among these are high-yield bonds or emerging market debts.

A strong bond portfolio can provide decent yields (returns) with a lower level of volatility than equities (stocks). They also can make more income than money market funds or bank instruments. In all, bonds are a good option for those who need to live off their investment income.

It is important to note though, that bonds are only a suitable option, if income and capital preservation are your main investing objectives. On the other hand, if you’re a younger investor with a longer time horizon who wants to maximize capital appreciation, having more stocks may be your best option.

2. Offers a means of diversification

Smart investors understand never to put their eggs in one basket. Throwing some bonds in your portfolio can be a smart investment move because bond issuers (borrowers) reimburse the full capital invested to the bondholders on maturity. Although bonds offer lower returns than stocks, they can help preserve capital and protect against significant losses when other asset classes suffer, e.g., during a stock market downturn.

3. Less or tax-free

Although income on bonds and government treasury bills investments are exempted from tax in countries like the US, they became taxable in Nigeria in January this year. For investors looking to invest in bonds outside Nigeria, these can be an added advantage.

Click here to read more about stocks vs bonds.

4. Preserve Your Principal

For older investors, Fixed income investments are very helpful as they will have need for invested cash within a shorter frame of time. For instance, someone who is close to retirement or a parent whose child is starting college. For this reason, it may be a good idea to increase your allocation to fixed income and decrease your allocation to equities as you move closer to your goals