Junk bonds are corporate bonds that are high-risk but could potentially offer high returns. They have been rated as non investment grade by Standard & Poor's, Moody's, and Fitch Ratings because the company that issues them is financially distressed. ... That is why they are also called high-yield bonds.
High yield bonds are not intrinsically good or bad investments. ... The bonds' higher yield is compensation for the greater risk associated with a lower credit rating. High yield bond performance is more highly correlated with stock market performance than is the case with higher-quality bonds.
Bonds are used by companies and governments to raise money by borrowing from investors. The basic features of a bond are: Principal – The face value of the bond.
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The Cons
High yield bonds – defined as corporate bonds rated below BBB− or Baa3 by established credit rating agencies – can play an important role in many portfolios.
The main disadvantage of junk bonds is their risk. They have a higher risk of default than most other fixed-income securities. Junk bonds can be quite volatile, especially in times of uncertainty regarding the issuer's performance.
High yield bonds perform tend to perform best when growth trends are favorable, investors are confident, and defaults are low or falling, and yield spreads provide room for additional appreciation.
What would cause a bondholder to sell a bond before it reaches maturity? It interest rates have risen since the bond was purchased, the value of the band will have declined. ... If the bonds are held to maturity, bondholders get back the entire principal, so bonds are a way to preserve capital while investing.
Bonds are often touted as less risky than stocks -- and for the most part, they are -- but that does not mean you cannot lose money owning bonds. Bond prices decline when interest rates rise, when the issuer experiences a negative credit event, or as market liquidity dries up.
Inflation Risk
As bonds tend not to offer extraordinarily high returns, they are particularly vulnerable when inflation rises. Inflation may lead to higher interest rates which is negative for bond prices. Inflation Linked Bonds are structured to protect investors from the risk of inflation.
If you buy bonds in funds, most bond funds do not guarantee principal return. ... This means low-interest earning bonds can lose principal because they're not worth as much when interest rates rise, and they can be sold before hitting their maturity dates in bond funds.
You may search for and purchase high yield bonds at Fidelity.com, where you can choose the credit rating levels appropriate for your portfolio and risk tolerance.
Some investors worry that an increase in bond yields and longer-term interest rates will end the market's runof steady gains. ... These gains could be threatened because higher yields make it more expensive to borrow money, and that tends to slow down economic growth, which could be bad for stocks.
Stock investors also often turn to high-yield corporate bonds to fill out their portfolios as well. This is because such bonds are less vulnerable to fluctuations in interest rates, so they diversify, reduce the overall risk, and increase the stability of such high-yield investment portfolios.
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