Before you jump straight into buying a high risk bond it is important to understand the basics of the risk factors of bonds and then use this to work out your next move. As with all investment there is a risk that you need to consider before you make a purchase and that is the amount of capital that you can afford to lose if the bond was to fall to a D rating. This means that you will not be paid any interest and is relatively worthless until the rating is restored through an improvement in the company’s performance.
Bonds are classified into rating as per their risk of default and the best classification is the AAA rating and these are associated with the least risk, like government bonds. They are guaranteed, the capital will be repaid plus the interest agreed upon. The high risk options are those that are characterised as a medium risk with a BBB or Baa rating or lower, these are going to be the high yield bonds because there is a greater risk that these bonds will not repay the capital or the interest payments that were agreed upon at the start of the bond.
Buying a high risk bond
There are two different main ways of buying a high risk bond, the first option is less risky because you invest in a mutual fund and this can spread the risk into the different options that the mutual fund purchases a stake in. The idea here is that the investment is spread limiting the potential loss of the capital.
The other option is to make the choices yourself and purchase a bond that you have researched. This is the more risky option, but if the risk pays off you will get a higher return for your money than if you purchased through a mutual fund. This is because you will only get a proportion of the return because you will need to share it between the whole of the mutual fund.
If the company that you invested money into in a high risk bond does happen to fold then you will be placed at a higher position in regards to the liquidation of a company and this can mean that you get a higher percentage of return than if you had just invested in shares of the company.
Therefore if you are looking at growing money quickly and getting the most for your return then a high yield bond might be one of your options to consider. But it is important that you are fully aware of the risks that are involved in the investment and the potential amount of loss of capital that you might lose if the bond does drop to a junk bond.
If you chose to go it alone or work with a mutual fund work out the best options for you. Make a long term investment plan that takes account of market fluctuations giving your capital the best chances of growth.