Episode # 124 How Bonds Work – SOOO Simple To Understand

Are CDs at the bank difficult to understand? No. Everyone knows how they work.

You drop $100k into the bank. The bank pays you 3% (or whatever) a year interest. In 5 years (or whatever) you come back when the CD matures and collect your $100k.

Pretty cut and dried, no?

Well, bonds work the EXACT SAME WAY. You loan a company, or government, $100k, they pay you 3.06% in interest for the entire life of the loan. When the bond matures you go back and collect your $100k…unless the issuer went bankrupt.

Thus, inherently, there is NO growth. So, if you need MORE income from your investments than the bond interest pays, you must dip into principal. And when you do that with bonds you inherently get less interest going forward.

Secondly, unlike a stock, you can’t sell FRACTIONAL shares of a bond. You only sell the entirety of the bond. So, if you NEED access to your principal to meet your income needs a bond isn’t going to work, because you simply can’t tap into principal unless you sell the whole thing.

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