Why Corporate Bonds Are Your Best Friends to Protect That Retirement Nest Egg
There’s no shortage of potential investment vehicles out there today that promise to help you build a nest egg for retirement. However, you cannot neglect the need to protect that nest egg while building it, and after retirement.
Corporate bonds remain the single best option for investors hoping to hedge against the future and secure their financial situation well into retirement
Why Consider Corporate Bonds?
According to Walter Updegrave, writing for Real Deal Retirement, “There are plenty of reasons to be skittish about bonds. But a diversified portfolio of US Treasuries and other high-quality bonds remains an effective way to diversify against the risks of the stock market.”
Updegrave mentions skittishness, and we need to address that first. Why would investors be wary of using these financial tools?
Simply put, the yield can vary. When bond prices are up, yields go down. When prices are down, yields go up. Moreover, the yields on the government-issued bonds have been sinking lower and lower, even reaching 0 or even lower in some nations.
So, why consider bonds? Well, first, understand that there’s a significant difference between government bonds and corporate bonds. While government-issued bonds might be struggling to provide a yield, corporate bonds have not. There’s also the fact that the overall bond market has returned roughly 3% per year during a time when most experts were predicting a massive meltdown.
Another reason to ensure that you’re protecting your portfolio by investing in high-quality bonds is that when the stock market drops, and it always does eventually, bonds rise in value.
For example, when the Standard and Poor’s 500 index tanked by 37% back in 2008, the bond index rose by over 5%. That gives you the ability to offset losses in stock value with increases in bond value.
Ensure You’re Investing in High-Quality Corporate Bonds
Now, we need to differentiate a bit between government-issued bonds and corporate bonds. While both fall into the same asset class, they’re not identical, and they’re not both worth your time.
Let’s take a look at government bonds first. These are treasuries offered/released by a national government. Their value is, like cash, based on confidence in that national government and its ability to pay back the money borrowed (a bond is pretty much just a way to lend money to an institution or agency in exchange for a return).
Governments the world over are struggling with liquidity and debt. The US national debt continues to grow by leaps and bounds, and other nations are in the same boat. This is one reason that the yield of the Germany’s government issued bonds dropped into the subzero range not long ago.
That’s not a risk you can take when planning for your retirement. You need confidence that comes from knowing your bond investments will be stable in order for them to protect your other investments.
Corporate bonds allow you to do just that.
What makes corporate bonds different from government-issued bonds? Well, it’s really all about the source. Government bonds are issued by governments. Corporate bonds are issued by businesses. They also pay a higher yield than government bonds, while not being affected by debt or confidence issues.
As a note, I only recommend investing in high-quality corporate bonds. For instance, in May 2017, Apple issued $7 billion in corporate bonds. It’s difficult to think of a corporation with more earning potential and stability than Apple. Moreover, this is just one example of the corporate bonds available to those interested in protecting their nest egg from market fluctuations.
Will investing in corporate bonds help you get rich quick? No, they will not. These are not fast-growth investment vehicles, and if that’s your sole goal, you would probably be better off playing the market only, and cashing out as quickly as you can.
Bonds are ideal for those investing for the long term, for individuals and families hoping to ensure that they have a stable nest egg on which to draw during their retirement years.
How Should You Invest in Corporate Bonds?
There are many ways that you can add bonds to your investment portfolio, but they’re not created equal. For the long-term planner, my recommendation is to create a laddered portfolio of individual bonds.
What’s a bond ladder? Simply put, it’s nothing more than an investment strategy that creates a “ladder” of bonds that mature at alternating points. It can stretch for a few years, or it can be created to last for many years.
The result is the same (other than duration): you’re able to create a series of known payouts that will last for a long time to come. This gives you several crucial benefits:
- Bonds offset the volatility of the stock market, protecting the value of your nest egg.
- Bond ladders give you the ability to plan effectively, because you know exactly how much you’ll be receiving, and when those amounts will be paid.
- You’ll benefit from coupon payments during the interim between now and bond maturity.
What about rising rates? Yes, the Fed has announced that it will be raising rates, perhaps two or even three times in 2017. Doesn’t that mean that the situation will change, and stocks are the better option?
Not at all. In fact, I’d go so far as to say that a rising rate environment benefits those who invest in individual bonds rather than bond funds.
Not only does this provide you with additional purchase options, but it eventually leads to higher payouts in the end. And, ultimately, isn’t that what retirement saving is all about?