Bonds

A bond is a loan. You lend money to a government or company; in return you receive regular interest (the coupon) and your money back at maturity.

Where the return comes from

• Interest income — the main source of return over time.
• Price changes — when interest rates fall, existing bonds with higher coupons become more valuable, and vice versa.

Interest-rate risk

The longer a bond's maturity, the more its price reacts to rate changes. Long-term government bonds, such as those in TLT, can move almost as much as stocks: after 2020 they lost roughly half their value as inflation and rates rose. Short-term bonds and Treasury bills barely move at all.

Credit risk

Government bonds of strong countries carry very little default risk. Corporate bonds pay more interest because the borrower may not pay back — and they tend to fall together with stocks in a crisis.

Role in a portfolio

High-quality government bonds provide income and, in many recessions and crashes, rise while stocks fall. They are the classic stabiliser — with the important exception of inflationary periods, when stocks and bonds can fall together.

By Dr. Harry Hamann