Investors can diversify their investments by laddering fixed-income bonds of different maturities. Investors lend money to the issuer for a specified length of time in exchange for quarterly, semi-annual, or annual interest payments at a set rate. Laddering bonds reduces interest rate risk and liquidity risk for many investors.
Spreading bond purchases across maturity lengths helps investors manage cash flow and protects against interest rate swings. Purchase a $10,000 bond with a 5-year maturity and 9% coupon rate. The bond issuer pays $225 every trimester (9% of $10,000 face value = $900 per year). After five years, the bond issuer will return your $10,000 investment.
First, pick how long you want to invest and how often you want cash (trimestrial, yearly, etc.) to establish a laddered bond portfolio. You’ll then choose bonds with sequential maturities to simulate ladder rungs. You can cash out or “re-ladder” to buy a new fixed income bond after bonds mature.
Consider investing $50,000 in a laddered bond approach over five years and wanting cash each year? Instead of a $50,000 five-year bond, you may diversify by buying five $10,000 bonds with escalating one-year maturities. For instance:
The investor buys five bonds with one-year maturities, starting with Bond A, a 5.5% coupon bond. Bond E, a five-year bond, with a 9.5% coupon rate.
Bond A matured in year two, repaying the investor $10,000. The investor opted to re-ladder and use the proceeds from Bond A to buy Bond F, a five-year fixed income bond at 11%. Bond F becomes the new top step, and when the next bond expires, the investor can keep the money or invest in a five-year bond.
Bond ladders and rates
If you can get 9.5% on a five-year bond but only 5.5% on a one-year bond in year one, why not invest all $50,000 into a five-year bond to get higher interest? Liquidity and interest rate risk are involved. Unless you sell the bond on the secondary market, a $50,000 five-year bond locks you in for five years. Interest rate swings may make selling the bond a loss. Laddering Bond F allowed the investor to take advantage of the 9.5% interest rate over five years.
Bond ladders have credit issues
Bond transactions involve risk. Credit risk affects bond investors. Credit rating agencies evaluate company bonds. Rating agencies assess a company’s financial health and determine its likelihood of meeting bondholder commitments.
AAA is these agencies’ highest rating. After then, ratings may slip to D, suggesting that a corporation is likely to default on bondholder payments. Investment-grade and non-investment-grade bonds fall between these two extremes. Non-investment-grade bonds are riskier than investment-grade bonds, which are financially stable. Non-investment-grade bonds offer higher interest rates to compensate investors for the higher risk.
Expat Wealth At Work only builds bond ladders with investment-A grade bonds. If a high-risk bond defaults, your fixed-income plan will be thrown off.
We conduct comprehensive market research and vetting to give the expertise you need and collaborate with our clients to focus on areas of interest and construct selection criteria around that. Real Estate, Oil & Gas, Lending/Receivables, and Green Energy are fixed income bond asset classes. Our fixed income bonds are senior secured, capital insured, or asset-backed because we work with the best. We only work with listed products with competitive coupons and ISINs from major European or global stock exchanges. Products are unrelated to financial markets.