One of the regular WorkGoesStrong readers has asked for some ways to get started in investment, some simple and safe strategies for a beginning investor.
It's a topic that I plan on discussing often in the next few months given the uncertainty of the markets. Here's the first installment.
If investing in stocks makes you queasy, then maybe you should consider bonds. Not James. Corporate bonds.
Bonds are considered a safer investment than stocks because if a company goes into bankruptcy court protection, bondholders are first in line to get repaid, and stockholders are last in line to get repaid. That's a valuable fact to know given what's been going on in the economy.
In other words, when Delta Air Lines recently went through a bankruptcy court reorganization, the people who owned its stock got nothing. Nada. Zip. Zilch. However, the bondholders got something. What would you prefer?
A bond is like a mortgage. The company that issues the bonds needs money for some reason, so it sells bonds, typically worth $1,000 each, to investors. In return, the company promises to pay the investor a certain amount of money each year. This payment is known as the coupon.
On a $1,000 bond with a 7 percent annual interest rate, the coupon is $70 each year. At the end of the time period of the bond, known as the maturity date, the company repays the bondholder the $1,000 plus the coupon.
Companies issue bonds because sometimes it can be difficult for them to go to a bank and ask the bank to loan them $400 million to build a new factory. Banks do not want to make such a large loan to one company because they fear that if the business is unable to pay the loan back, the bank itself will be stick. So instead, companies issue bonds and spread the risk around to hundreds and sometimes even thousands of investor.
When you're investing in bonds, check out the rating. The higher the rating, the safer the investment, according to the bond rating agency, which can be Standard & Poor's or Moody's or someone else.
Also, the higher the rating the lower the interest rate the bond pays. Companies with so-called hunk bond rating status — below BBB — typically offer higher interest rates to entice investors to purchase their bonds.
Bonds are also safer than stocks because the prices of corporate bonds do not fluctuate as much as the price of stocks. A bond that sells above its face value is considered to be selling at a premium. But there are many instances when the price of corporate bonds rarely moves despite large fluctuations in the company's stock price. And a corporate bond can sell close to its face value even when the stock price of the company falls dramatically.
To be sure, the opportunities for large gains are greater with stocks than bonds. If you're looking for something that can grow the same way stocks do, look for convertible bonds. These are bonds that can be converted into company stock and are often issued by small companies.
But if you're a first-time investor just beginning to dip your toes into the shark-infested waters of Wall Street, maybe you should start off with some bonds.