Investing 101: Updated and Expanded

Chapter 7. INVESTING IN BONDS

Many investors consider bonds to be the dowager aunt of the investment world. Nice, but boring. After all, this is an investment with an average annual return in the 5 percent range— 5.4 percent for long-term government bonds and 5.9 percent for long-term corporate bonds. That's the type of return that will make you rich ... well, someday when you're really, really old, if you're really, really thrifty.

Yet bonds—or at least some type of fixed-income investment, ranging from long-term corporate bonds to shorter-term government notes, bills, money markets, and certificates of deposit—are a must for every investor's portfolio. There are two reasonswhy.

First, fixed-income instruments address certain financial goals better than any other investment. And despite the urge to act as if investing is a high-stakes contest in which the winners are the people who post the highest gains, remember your mantra. Having the amount of money you need when you need it is the name of this game.

The fact is, while U.S. stocks have posted higher average annual returns than any other type of financial asset over long periods of time, they're a miserable place to put short- and medium-term money. That's because stock prices gyrate wildly in short periods of time. And sometimes stock prices can stay down for periods ranging from five to fifteen years. If the money you're investing is aimed at satisfying an important goal in the meantime, you're out of luck.

Fixed-income instruments ...