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A Time-Tested Investment Strategy Geared For Increased Predictability, Control and Performance.
How A Bond Ladder Works
To build a ladder, simply divide your investable dollars evenly among bonds or CDs that mature at regular intervals, for example, every six months or once a year.
In the example below, we divide $50,000 into five $10,000 investments with the first bond maturing in one year and the fifth in five years.
When the first bond matures, the principal is reinvested in another bond at the long end of the ladder. This process is continued year after year, as long as the investors goals remain the same.
As you can see, the fundamental idea behind a bond ladder is diversification by maturity. Diversification is one of the cornerstones of sound investment management.
The bond ladder strategy offers you many benefits:
Higher Average Yields
More Consistent Returns
Less Reinvestment Risk
More Peace of Mind
Market risk is simply another way of describing the inverse relationship between bond prices and interest rates. If interest rates are rising and you dont want much fluctuation in your bond portfolio, stay short-term. Although rising interest rates push all bond prices down, in general, the longer a bonds time to maturity the greater its price sensitivity. By concentrating on short-term bonds, you may be less exposed to market risk a comfortable posture for many.
On the other hand, if interest rates are falling from currently high yields, income-oriented investors may want to purchase longer-term securities. This strategy enables you to own an attractive yield that may not be available in the future. Because interest rates are difficult to predict with accuracy, you may want to own short- or intermediate-term bonds (up to 10 years) and simply hold them to maturity. Bond ladders can be structured with short-, intermediate-, or long-term bonds. The bond ladder concept is a strategy many investors to follow with a goal to minimize market risk. Credit risk is the risk that the issuer wont make timely interest or principal payments. If you are concerned about default, construct your bond ladder with Treasury securities, high-quality or insured municipal bonds, or corporate bonds. Although you may sacrifice some yield, youll have peace of mind knowing you own high-quality securities.
In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks. Any fixed income security sold or redeemed prior to maturity may be subject to substantial gain or loss. The bonds are subject to availability. Bonds are subject to interest rate, market, inflation and credit risks. Bonds that are rated by Moody’s at Ba or below are considered to have speculative elements and the repayment ability of the issuer is not assured.
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