Bond Strategies

Investing in stocks can be exciting, with the possibility of big rewards (as well as the accompanying risks). Bonds generally appeal to those who are less adventurous. But, John Finneran, CFA, in a June 20 article ("MarketAxess: The Archipelago of Bonds?") on the Motley Fool Web site (www.fool.com), makes the point that bonds as an asset class are back, chiefly as a result of rising interest rates. For example, he notes, "there's more value in taking corporate credit risk, as credit spreads-the difference between corporate bonds and risk-free U.S. Treasuries-rise."

Bond basics
In a balanced investment portfolio, bonds may provide stability. Bond prices generally are less volatile than stock prices, and bond interest payments are generally higher than dividend payout rates. Those who need to live on their portfolio income like the predictability of bonds, and many of those who feel burned by the stock market in recent years have shifted more and more to fixed-income securities.
But bonds are not without their own risks. In particular, bond investors need to be concerned about interest rate risk. When interest rates are rising, as they have been, the prices of outstanding bonds must fall, and, conversely, as interest rates fall, bond prices go up. What's more, bonds with longer maturities generally respond more sharply to interest rate changes. That's why longer-term bonds typically offer higher interest rates than shorter-term obligations.

Purposeful diversification
In times of economic uncertainty, there is a strong temptation to park assets in the relative safety of money market funds, waiting for a better time to invest. That's not often the best approach. One problem is successfully identifying that "better" time to invest, and another is the still relatively low income being paid by money funds these days. Bond investors may turn to three strategies to increase their income while managing interest rate risk.