Understanding Asset Classes

Fixed Interest & Bonds

Overview

Bonds are a type of fixed term investment, similar to term deposits in that capital invested is scheduled to be returned at a known future maturity date.

When a SMSF invests in a bond it is effectively providing a loan to another party – typically government or corporations such as large companies. The bond is issued for a set amount – ‘face value’, for example $1,000 and the issuer agrees to pay interest on specified dates and at specified rates with repayment of the face value of the bond at maturity.

There is a very large bond market that enables bonds to be traded with other investors seeking to buy or sell. This market provides liquidity for bonds in much the same way as does the stock market for equities.

Direct access to the bond market can be difficult for SMSFs, as while the face value of a bonds is relatively small, to participate in the market, the size of bond transactions can amount to several hundred thousand dollars.

However, SMSFs are able to access bonds in smaller transaction sizes using ‘packaged’ solutions where specialist bond managers will access the bond market, acquire a large parcel of bonds and split into smaller investment parcel sizes – say, $100 face value. In this way SMSFs can access the liquidity of the bond market in smaller amounts.

Depending on the credit rating of the issuer, the rate of return offered on the bond will vary accordingly. A well rated issuer can offer a lower rate of return based on a higher likelihood that the bond holder will receive their money back at maturity.

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