Sunday, April 18, 2021

Considering Foreign Bonds for Your Compound Interest Portfolio

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When you put together a compound interest portfolio, you do not have to limit your investment securities to high-yield savings or certificates of deposit. Plenty of investors who believe in the power of compounding manage stock portfolios; one of the most famous in this regard is Warren Buffett, co-founder of Berkshire Hathaway. A few instruments are not recommended to compound interest investors; for example, futures contracts because of their highly speculative nature.

Bonds and Investment Portfolios

Bonds are more adequate instruments for a compounding portfolio; similar to savings accounts, bonds pay out interest periodically, and many of them do so on a monthly basis, but they do not compound interest paid for you. When you purchase bonds, you are, in fact, lending cash to the issuer, which is why you get interest payments, but they have an additional feature in the sense that their value fluctuates according to market conditions.

Sovereign bonds are more likely to be sought by compound interest investors because they can trust that central banks will always pay as promised; should they ever run into difficulty, they can always extract more money from taxpayers in order to pay bondholders. The interest you receive can be reinvested right back into your portfolio in order to purchase more bonds.

Holders of foreign bonds came out ahead in 2020 because the U.S. dollar exhibited weakness

In 2020, American investors did not see too much in terms of interest returns from domestic bonds. The coronavirus pandemic forced the Federal Reserve to slash rates, thus lowering bond yields. Other countries, however, fell into very deep deficits that forced them to issue risky bonds paying much higher interest. Holders of foreign bonds came out ahead in 2020 because the U.S. dollar exhibited weakness.

You do not have to hold onto foreign bonds forever; in fact, investors should always monitor the value of their bonds in case of a plunge. When the bond reaches maturity, investors are repaid their principal investment, but the value may be lower. Foreign bonds can be riskier than they appear; the best approach is to consult what kind of ratings they are receiving, and you should not assume that they will always be less volatile than stocks. Geopolitical issues such as instability and armed conflict could get you stuck with highly depreciated bonds.

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