Called the credit or debt market, the bond market is the biggest securities market in the world, offering investors endless investment alternatives. Bonds, which help you preserve capital while earning interest, have developed into a $109 trillion global marketplace, offering attractive returns and other possible benefits to investment portfolios. It is essential to know what are bonds and how investing in bonds helps you attain your financial objectives.
What are bonds?
Bonds are a type of borrowing that helps companies and government organisations raise funds for capital. By investing in bonds, you lend money to the issuers of debt instruments for a fixed return and period of time. Bonds are technically a type of IOU, which investors trade between them, and are legally binding. An individual lends money to the government or a company issuing bonds and signs a contract promising to repay it with interest on a specific date.
How do bonds work?
Typically, bonds are known to provide a consistent income stream throughout their lifespan, which is called a coupon. The principal sum, commonly referred to as the ‘par’ or ‘face’ value, is generally represented as a percentage of coupon rates. The bonds are redeemed when they reach maturity, and you are paid at par or face value.
Your returns include:
- Interest income: Investors get coupon payments as interest income.
- Capital gains: If you sell the bonds for a price higher than you have incurred, you will earn capital gains.
The bond prices may change while the coupon rate is mostly constant throughout the bond’s life. To determine the return on a bond, you need to take into account:
- The coupon you will be given over the life of the bond
- The capital gains or losses in case of the increase or decrease in the price of the bond
The coupons, which are paid quarterly, half-yearly, or yearly, are a regular source of income for investors. Usually, you should receive a higher coupon amount for the greater risk you face when lending your money to a borrower with a lower credit rating. Bonds with longer loan terms also typically have higher coupon rates. The bond issuer is legally obligated to refund the principal amount invested in the bond at the maturity date.
Benefits of investing in bonds
If you want to know why you should prefer bonds in your investment portfolio, read the benefits of investing in bonds.
1. Provide fixed income
Although many assets yield some income, bonds typically give the highest and most consistent income stream. You can create a portfolio that satisfies your income needs, even when interest rates are low, using several options available. They include emerging market debt and high-yield bonds.
Bondholders receive regular coupon payments and have first dibs on the bond issuer’s cash flow, provided the latter is in sound financial standing.
Above all, a solid bond portfolio may offer respectable yields with less volatility than equities. They also have a higher potential for profit than bank instruments and money market funds.
2. Offer tax advantages
You can reduce your tax burden by investing in bonds like Singapore Government Securities (SGS) and securities issued by the Monetary Authority of Singapore (MAS), for they attract competitive tax rates. Further, the interest income on MAS Bills, SGS, and MAS Floating Rate Notes (FRN) under the Qualifying Debt Securities scheme is exempted from tax for individuals. You do not have any capital gains tax too.
3. Ensure principal amount repayment
Bondholders can get their principal amounts back on maturity, provided the issuer is financially strong.
4. Offer diversification
The guarantee of eventual repayment of the principal and fixed income during the period is a stabiliser and essential diversification tool for bonds when compared to equities, which undergo greater price changes in the market. High-quality bonds are reliable investments for investors reaching or approaching retirement, for they preserve the principal amount while producing a steady income stream.
5. Impose legal obligation on issuers
Bondholders should receive regular coupon payments from bond issuers before any dividend payments to shareholders. The bond issuer must pay bondholders first before giving shareholders any remaining funds in case of corporate failure.
Get to know different types of bonds
Some of the popular investment options in bonds in Singapore are:
Singapore Saving Bonds (SSBs)
Among various Singapore Government Securities (SGS), they are one of the bond types offered to retail investors by the Singaporean government.
You can earn a higher interest rate on these 10-year-tenor SSBs with the ‘step-up’ interest feature if you hold them for a long period. These SSBs can be redeemed before the maturity period, earning pro rata interest and without incurring any capital loss. You can invest as little as SGD 500 in SSBs. The SSBs have a minimum investment commitment in multiples of $500, with interest paid every six months.
With these ETFs, you can diversify your investments in the Singapore government and Asian corporate bonds. They can be bought in board lots of 100 pieces. Starting a regular savings account with a minimum investment of SGD 100 every month, you can invest in a Singapore bond ETF.
As an alternative, investors can purchase corporate bonds, commonly referred to as bonds issued by companies. In Singapore, there are two ways to trade corporate bonds. Retail bonds, which are exchanged in smaller lot sizes for a minimum of $1,000, are one method.
To purchase, you would require a securities brokerage account, which you may open through the online banking portals or ATMs of nearby banks. You can sell these retail bonds on the Singapore Exchange (SGX) site.
Investors in Singapore have access to a wide range of unit trusts that invest in various bond market segments, including high-yield bonds, investment-grade corporate bonds, and government bonds. Unit trusts are available for just SGD 1,000 in a single payment or SGD 100 each month through a savings plan.