Understanding bonds

If you're looking to diversify your portfolio with investments that offer a steady stream of income, then consider fixed income securities such as bonds. 

Definition of bonds.

When you invest in a bond, you are a company's lender and the bond is like a note of debt—a promise to pay back the money you've loaned, with interest. Cities, states, the federal government, government agencies and corporations issue bonds to raise money for purposes such as building roads and improving schools or technology.

Take a closer look at the benefits and considerations.

There are four key features to fixed income securities that make them desirable to investors: diversification, capital preservation, income generation, and potentially favorable tax treatment. Each feature provides a unique set of benefits that vary depending upon the type of fixed income security.

Take a closer look at the benefits and considerations.

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    Diversification

    Fixed income securities, specifically high-credit-quality bonds, can help smooth out the highs and lows in a stock portfolio. That’s because stock and bond prices have historically tended to move independently and with different magnitudes at any given time. However, diversifying with bonds does not ensure a profit and does not protect against a loss in a declining market.

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    Capital preservation

    Fixed income securities are ideal when preservation of capital is a priority. Specifically with bonds, principal is usually returned at a set maturity date. Higher-quality fixed income investments, like Treasuries, have the best potential for protecting principal. Though preserving capital is a key feature of fixed income securities, there is still the risk that the issuer of the bond will not make good on paying back the principal.

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    Income generation

    Fixed income securities are typically designed to provide a regular, predictable stream of interest payments on set dates. Keep in mind that there is a risk that the issuer will not make good on the promise to pay interest income.

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    Tax exemptions for U.S. expatriates

    Some fixed income securities have preferential tax treatment where coupon payments may be exempt from federal and state income taxes. Most debt securities are also not subject to U.S. estate tax for non-U.S. persons

    Keep in mind that potential tax advantages are generally factored into the price of any bond (and therefore its yield). Schwab recommends consulting a qualified tax advisor for specific individualized tax advice.

Common types of bonds.

Whether your goal is to diversify your investments, save for the future, receive dependable income, or minimize taxes, fixed income investments may have a place in your portfolio.

Schwab offers an extensive selection of fixed income investments, including individual bonds, Treasuries, and bond ETFs.

Treasuries

  • What are they?

    Treasuries are issued through the U.S. Department of the Treasury and are backed by the full faith and credit of the U.S. government. Because of their high credit rating, Treasuries are often the benchmark against which other debt securities are measured. 

    Examples of Treasuries include Treasury bills (t-bills), Treasury notes, and Treasury bonds.

  • Why consider Treasuries?

    Treasuries are considered one of the safest investments for protecting capital while also creating a predictable income stream. Additionally, Treasuries offer a wide range of maturity dates to choose from and are relatively easy to buy and sell, and interest payments are generally exempt from state and local income taxes.

Corporate bonds

  • What are they?

    Companies issue corporate bonds to raise capital for activities such as expanding operations, purchasing new equipment, or building new facilities. The issuing company is responsible for making interest payments and repaying the principal at maturity. Corporate bonds are senior to stock, so interest and principal must be paid before dividends are paid to stockholders.

  • Why consider corporate bonds?

    Corporate bonds typically have higher yields than those of similar fixed income investments, such as Treasuries. They can also provide a steady, predictable income, have a range of diversification choices, and are relatively easy to buy and sell in the secondary market.

Contact us to learn more about how these types of bonds can fit into your overall portfolio.

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What to know about trading bonds.

Interested in bonds but not sure where to start? These four steps can help you narrow your search.  

  • First, learn which types of bonds may be right for you by deciding your investment goals. 
  • Second, consider how long your investing horizon is. 
  • Third, determine the level of credit risk you’re comfortable with. 
  • Finally, determine how involved you want to be in managing your investments. 

With that information in mind, you should be ready to start your search for the bonds right for you.

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Why invest in bonds with Schwab?

Schwab offers multiple ways to invest in bonds so you can choose the method right for you. 

  • Tools & research for self-directed investors.

    Use Schwab BondSource® to screen more than 80,000 bonds from close to 200 dealers.1

  • Timely market analysis through expert insights.

    With timely analysis focused on what matters for investors, Schwab's insightful perspective and practical advice can help you make better investment decisions.

Common questions

Start investing in the U.S. today.

Have more questions? We're here to help.

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