Misconception – Steady Income
Some people might argue that bonds have their advantages, such as the benefit of a steady stream of income it gets from coupon(interest) payments. This is an erroneous train of thought to have. Buffet (2018) says that although bonds do provide a steady return, the income from the bond is very insignificant under current rates. According to his calculations, the returns bond investors can expect today, is a little over half a percent a year. This ridiculously low return cannot be sufficient for long term retirement. Buffet (2018) recommends investors to stick with productive businesses or other assets that produce satisfactory returns. Mackintosh (2020) backs this claim by discussing how well American Businesses have performed despite the headwinds such as the coronavirus. He says investors who buy and hold these well-known American Businesses and ignore the market fluctuations will earn significant returns in the long haul in contrast to bonds that provide close to nothing at this point in time.
Misconception – Low Credit Risk
Another misconception most people would have is that bonds have low credit risk. However, this is only partially true*. According to Philips (2018), there are government bonds, who do seldom default on their bond payments and, there are corporate bonds that are issued by companies who can default on their payments as companies may go bankrupt. He says currently, there has been an increase in corporations defaulting in their bond payments. The degree of risk issued by a company’s bonds is measured by Credit rating companies who rate them from AAA, which is considered the safest, to CCC, which is extremely risky and speculative. However, Banerji (2019) reminds us that sometimes credit ratings can be inaccurate and faulty. He says that the inaccurate credit rating along with a bunch of folly was one of the many reasons for the financial meltdown in 2008, as a myriad of banks and companies defaulted on their bond payments affecting millions of people causing, one of the biggest and prominent, recession in the U.S history.
*There are 3 main types of bonds 1) Government Bonds 2) Corporate Bonds 3) High-Yield Bonds. Generally speaking, when people say bonds, they refer to Government Bonds as it is most common. However, bonds are more complex and esoteric than that.