Who Is a Bond Broker and How Do Bonds Work?
What do you know about bond brokers? People who aren’t familiar with bond brokers might ask, “Who is a bond broker?” Let’s find out! Relax; we are here to help you!
It is desirable to remember that a bond broker executes over-the-counter (OTC) as well as listed bond trades. Interestingly, the above-mentioned broker carries out OTC and listed bond trades on behalf of investors or traders. They serve as intermediaries between buyers as well as sellers of debt securities. Importantly, one of the responsibilities of a bond broker is to protect the personal information of buyers and sellers. Bond brokers earn a commission for their services.
Interestingly, you don’t need a bond broker in order to purchase Treasury securities. It is possible to buy Treasury securities through the online Treasury platform called Treasury Direct.
Nevertheless, it is impossible to purchase municipal as well as corporate bonds without a bond broker. As a reminder, a bond broker serves as a liaison between buyers and sellers or sellers of bonds.
A bond broker trades bonds on the trading floor of an exchange. They might also trade bonds in the OTC markets. The above-mentioned broker buys and sells bond securities on behalf of investors in exchange for commissions.
As we already discussed the role of a bond broker, we can discuss one very important topic. Do you know what a bond is?
What you need to know about bonds
First of all, do you know what a bond is? To put it mildly, it is a loan from an investor to a borrower. A borrower might be a government or a company.
The government or the company utilizes the money it borrowed from an investor in order to fund its operations. Of course, the investor wants to make money. The investor who gave money to the government or company receives interest on the investment. It is desirable to remember that its (bond’s) market value could change in the future.
Many portfolios include at least some bonds. Why? Because bonds help to stabilize the situation. For example, if something goes wrong with the stock markets, bonds have the ability to help to stabilize the situation.
Types of bonds
Now, let’s focus on the types of bonds. Firstly, bonds, as in the case of the vast majority of investments, balance risk, and reward.
Let’s start with U.S. Treasury bonds. Unsurprisingly, you don’t have to worry about them as they are issued by the federal government of the country. However, U.S Treasury bonds aren’t perfect. Do you know what their problem is? Low-interest rates.
We also need to mention that there are a number of types of Treasury bonds. For instance, bills, notes, and bonds.
Now, we can move on to corporate bonds. Companies have the ability to issue bonds in order to earn money.
What about municipal bonds
What you need to know about municipal bonds is that municipal bonds are issued by counties, cities, etc. They are kind of similar to corporate bonds.
The purpose of municipal bonds is to earn money for various projects. For example, authorities want to build a new school. They can issue bonds in order to earn money for the above-mentioned project.
When it comes to municipal bonds, we need to mention tax benefits. For instance, those who buy municipal bonds may not have to pay federal taxes on the interest.
Do you know how bonds work?
They work by paying back a regular amount to the investor and are therefore referred to as a type of fixed-income security.
Advantages and disadvantages of bonds
We can start with advantages. Bonds have the ability to create a balancing force within an investment portfolio.
For example, if you invested a lot of money in stocks, it makes sense to add bonds. Why? It is important to diversify your portfolio in order to reduce risk factors.
Without a doubt, bonds are also somewhat risky. However, in most cases, bonds are less risky compared to stocks. So, it makes sense to add bonds. Importantly, they are a form of fixed income. Notably, bonds pay interest on a regular basis.
If you are looking for a regular income, then bonds are for you. Also, in the case of retirees, bonds can be a great asset to own.
We can’t forget about the disadvantages as well.
First of all, we need to mention interest rates, more precisely, low-interest rates. You need to keep in mind that long-term government bonds have historically earned about 5% in average annual returns. The situation is different in the case of the stock market. As a reminder, in the case of the stock market, we are talking about 10% on average.
As stated above, bonds aren’t risk-free. Compared to stocks, they are much less risky. However, the risk is still an important issue in the case of bonds.
For instance, you might find it hard to sell a bond you own, especially if interest rates go up. Furthermore, the bond issuer may not be able to pay the investor the interest as well as the principal they own on time. Let’s not forget about inflation as well. It can also significantly reduce your purchasing power over time. As a result, the fixed income you receive from the bond that you own might become less important to you.
Investors and potential benefits
As you already know, stocks earn more interest compared to bonds. However, they are riskier than bonds.
Another major difference between stocks and bonds is one very important topic, tax breaks. However, tax breaks apply only to certain kinds of bonds. One example is municipal bonds. As stated above, bondholders of municipal bonds may not have to pay federal taxes on the interest.
Furthermore, many investors invest in a bond fund that pools various bonds in order to diversify their portfolio. However, the above-mentioned funds are far more volatile as they don’t have a fixed price or interest rate.
You already know who is a bond broker. Moreover, you learned about various types of bonds. Furthermore, you are aware of the advantages and disadvantages of bonds. Feel free to read more articles about various types of bonds in order to gather more information about the subject.
Last but not least, it is very important to diversify your portfolio. So, feel free to add bonds to your portfolio.
Agencies
We can’t finish an article about bonds without mentioning one very interesting detail: agencies. It is desirable to remember that the most popular bond rating agencies are Moody’s Investors Service, Standard & Poor’s, and Fitch Ratings.
The above-mentioned agencies rate a company’s ability to take care of its obligations. As a reminder, ratings range from AAA to aaa when it comes to high-grade issuers to D for issuers that are in default at the moment.
It makes sense to remember that bonds rated BBB to bbb or above them are called investment grade. Why should you pay attention to ratings?
For example, Bonds rated BBB to bbb or above are unlikely to default. So, it isn’t surprising that investors are looking for such bonds. On the other hand, bonds rated BB to bb or below have a higher chance of default; they are called junk bonds.
