Chapter 7 -Risk Analysis – Business Finance Essentials

Published Nov 09, 20
5 min read

Bonds Vs. Stocks: A Beginner's Guide

When bonds are called in a declining interest environment, investors may not be able to obtain new bonds that offer the same yield. Interest earned on a corporate bond is generally taxed as ordinary income at your applicable federal and state income tax rates. If you sell or redeem a bond for more than you paid, the difference would be taxed as a capital gain.

Treasury and backed by the full faith and credit of the U.S. government. They include intermediate- and long-term Treasury bonds. Intermediate-term bonds mature in three to 10 years, whereas long-term bonds generally mature in 10 to 30 years. Among the lowest risk of all bond investments, these bonds have low credit risk because they are backed by the full faith and credit of the U.S.

A government bond does present market risk if sold prior to maturity, and also carries some inflation risk — the risk that its comparatively lower return will not keep pace with inflation. Treasury bond interest is fully taxable at the federal level but it is exempt from state and local taxes.

These bonds are indirect debt obligations of the U.S. government issued by federal agencies and government-sponsored entities. Examples of such organizations are the Federal National Mortgage Association (FNMA or "Fannie Mae") and the Government National Mortgage Association (GNMA or "Ginnie Mae"). Agency and entity bonds are widely seen as having low credit risk due to their association with government-chartered entities.

government, they are not necessarily backed by its full faith and credit. In addition to the risks inherent in government bonds, agency bonds run the risk of going into default, although such an occurrence is generally considered unlikely. Because of this added risk, however, these bonds generally offer higher yields than government bonds.

Risk And Return

Gains on sale or redemption are also taxable. Municipal bonds, or "munis," are issued by a U.S. state, county, city, town, village, or local authority to raise funds for general use or particular public works projects Munis fall somewhere in the middle of the credit risk spectrum. The risk of default can vary depending on the creditworthiness of the issuer and the type of debt obligation.

Gains on sale or redemption are taxable. Income from some municipal bonds may be subject to the alternative minimum tax. Know the risks associated with bonds — The risk that a bond's issuer will go into default before a bond reaches maturity — The risk that a bond's value will fluctuate with changing market conditions — The risk that a bond's price will fall with rising interest rates — The risk that a bond's total return will not outpace inflation Individual bonds vs.

As a result, many bond investors find it impractical to assemble and manage a diversified bond portfolio. One alternative to individual bond investment is bond mutual funds. Using pooled investment resources, mutual fund managers can create a diversified bond portfolio for investors. Shares of these funds offer investors the opportunity to add a fixed-income element to balance out a portfolio of other investments.

Sometimes mutual funds also incur sales commissions or redemption fees. Investing in fixed-income securities may involve certain risks, including the credit quality of individual issuers, possible prepayments, market or economic developments and yields and share price fluctuations due to changes in interest rates. When interest rates go up, bond prices typically drop, and vice versa.

Asset Allocation By Age: Rule Of Thumb, Portfolio AllocationUnderstanding Risk & Returnl Fund

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Investing Basics: Frequently Asked

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Regardless of the type of investment, there will always be some risk involved. You must weigh the potential reward against the risk to decide if it's worth putting your money on the line. Understanding the relationship between risk and reward is a crucial piece in building your investment philosophy. Investments—such as stocks, bonds, and mutual funds—each have their own risk profile and understanding the differences can help you more effectively diversify and protect your investment portfolio.

Still, the risk with other types of investments with the potential for high reward is that you could lose everything. Only you know your comfort level for the following scenarios: Individual stocks or high-yield bonds could cause you to lose everything. Your investments could rise in value slower than prices.

Risk-free Rate Of Return (Definition, Example)- What Is Rf?Catalytic First-loss Capital

There is a real chance your investments don't earn enough to cover your retirement needs. Expensive fees on mutual funds can make it tough to earn a good return. Beware of actively-managed mutual funds or ones with sales loads. The Different Investment Risk Profiles Three main investment vehicles are readily available to most investors: stocks, bonds, and mutual funds - Why Retirement Investing is Different.

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