The bond market, one of the last bastions of institutional exclusivity, is becoming friendly to the online investor. Up until early 2000, the NASD worked to keep bond prices, especially corporate bond prices, a mystery. That's because their markups are a source of great profit. But the way bonds are traded is slowly changing. The SEC has made it clear that it wants to open the bond market to more transparency, so more online information is becoming available.
Purchasing bonds can be very straight forward if you are a trusting individual - simply march down to a full service broker and they will set you up with any type bond they think you need. Your investment will likely be made without the benefit of being able to look a chart of recent prices and without comparing competitive rates for bond markups. In other words, you will have to do a little footwork to make sure you are getting a fair deal.
Below, we've listed a number of methods for investing in bonds, beginning with bond funds and then moving into each individual type of bond. If you are unfamiliar with the specific bond types, be sure to check out our Credit Market Basics article.
Bond Funds
Unless you are buying new treasury issues, bond funds are in many respects the easiest and best way to invest in fixed-income securities.
Investors with limited capital (less than $25,000) might consider bond funds as an alternative to buying individual bond issues because of high transaction costs and limited liquidity issues. Bond funds are available any of the major categories of bonds, including treasury, government agency, municipals and corporate.
Purchasing less than $25,000 in bonds (or even less than $100,000 in many cases) can be expensive due to the markup that brokers charge to get into the bond and the markdown they may charge to sell out of it. Bond funds can offer the advantage of lower transaction costs, but you have to shop around.
Bond funds usually pay out dividends monthly, as opposed to bi-yearly. They also offer the liquidity to trade in and out of the fund with more liquidity. Investors should check the stipulations of front-end or back-end fees for trading in or out of the fund before making the initial investment. Morningstar has some powerful research tools to find bond funds at www.morningstar.com
Momentum Investor will be doing a feature article on bond funds soon, be sure to look for it.
Buying Treasury Bonds
Treasuries are perhaps the easiest bonds to purchase for an individual investor with limited capital. In fact, maturities ranging from 3 months up to 30 years can be purchased directly from the government without an intervening broker, in amounts as little as $1000.
New Treasury bond issues are auctioned commission free by the government by contacting Treasury Direct at www.publicdebt.treas.gov
Traditional brokers and some online brokers can also buy and sell bonds in the secondary markets for you.
Yields are listed in many locations for treasuries. Momentum Investor lists yields and prices here at this site every day. Prices for treasury bonds are also listed in financial publications like the Wall Street Journal.
Buying Government Agency Bonds
Freddie Mac, Ginnie Mae and Fannie Mae are the three government agencies that bundle mortgages for resale as bonds. (See our Credit Market Basics article section for more details.) Agency bonds are not available through a program like treasury direct, they are traded on electronic secondary markets through broker/dealers. Agency bonds have a higher yield than treasuries because the U.S. government does not back them, but the bonds often do have guarantees from the agencies.
Agencies can be purchased in amounts ranging from $1000 to $25,000 as a minimum investment. The two primary classes of bonds available are pass-through and Collateralized Mortgage Obligations (CMOs). Pass-through bonds simply collect the mortgage payments and pay them out to bondholders monthly. CMOs are somewhat more complicated. In a CMO, weighted average cash flows of the underlying mortgages are computed and then the agency bond is divided in classes of maturity length that are sold separately. As mortgage payments roll in monthly, the payments are distributed first to the short-term classes, then the intermediate term classes, etc. The idea behind a CMO is to match the investor's desired maturity of the security with an equivalent cash flow.
Bond funds are also available to track agency bonds.
Buying Municipal Bonds
Muni bonds are sold mostly in $25,000 lots, so unless you have a large sum of money, the best bet may be a fund if you are looking for a tax-free income investment. Be sure to check on the location of the bonds because they may be subject to state and local taxes.
Individual bond issues can be purchased and sold through broker dealers, who trade the issues over an electronic exchange. Yield quotes for typical muni bonds can be found at http://cnnfn.cnn.com/markets/bondcenter/rates.html. Also be aware that muni bonds are considered to have more risk than treasuries or agency bonds, so their credit is rated by the large rating agencies, including Moody's and Standard & Poors.
Buying Corporate Bonds
The highest yielding bond type, corporates range in risk from investment grade to junk bonds. Yields have a wide range as well. Corporates can be bought from broker/dealers. About 2000 bond issues are traded on the NYSE exchange, but the vast majority is traded over electronic exchange because liquidity is very thin.
NASD broker dealers usually Markup a corporate bond when an investor purchases it and they Markdown the bond when it is sold. Because NASD dealers are only required to charge a "fair" markup, you have to be careful that the markup is not overly excessive. The Bond Market Association has said that markups typically range from 1% to 3.5% of the face value of the bond. Any corporate bond purchase less than $25,000 is likely to have such a high markup that the yield will be adversely affected to a degree that a corporate bond fund would make more sense.
Because the SEC has recognized that corporate bond transactions have been difficult to ascertain for the individual investor, the commission has pushed the NASD to report corporate bonds in an online format. The result is www.GOVPX.com which reports transactions of institutional buyers and sellers on and end of day basis.
Be sure to check on credit ratings, call provisions, etc, when buying any bond, especially corporate bonds.
Resources for Bond Info
There are lots of sites which report bond information, some better than others. Check out www.bondmarketassociation.com and www.investinginbonds.com to get a great deal of information about the basic details of bond investing.
Other sites, including www.bondsonline.com and www.cnnfn.com offer bond market quotes. The www.GovPX.com site, sponsored by the bond market association, offers recent transaction data for corporate and treasury issues.
Other bond information is available in publications such as the Wall Street Journal, The Journal of Commerce, and Investors Business Daily.
For those interested in Bond Funds, check out www.morningstar.com
Online trading in bonds is growing rapidly as well. The Bond Market Association recently did a study showing that online trading in bonds is up to 65 firms based in the U.S. The link to the study is http://www.bondmarketassociation.com/research/ecommerce/InfoOnSurvey.shtml
A number of e-trading firms are actively engaged in various forms of bond trading. A good article on companies which offer bond trading capabilities can be found at
http://www.thestreet.com/basics/bondsonline/756640.html
Good Luck!
