How to Generate Monthly Income With Bonds

With the market near all-time highs, there probably aren’t many investors who should have ALL their money in the stock market.

Ron and Bro are back to reveal one of their favorite non-stock income plays.

You’ll find out how to use this strategy to generate a reliable, steady stream of income month after month and year after year.

Plus, you’ll discover the little-known way you can actually use this strategy to generate income completely tax free.

What’s more, Bro will break down how some of President Trump’s policy proposals could mean BIG changes for this conservative strategy.


View the transcript of this video.

Total Income Special Report: Bonds

Most investors don't pay as much attention to bonds as they do to stocks. But bonds have some attractive features that stocks can't match, and so most investors should have at least some bonds in their portfolios.

In this report, we'll tell you how bonds can help you generate the monthly income you need. You'll learn the different types of bonds there are and how you can use them to meet your financial goals. You'll also find out about the risks of bonds. Finally, we'll show you how you can use a simple bond investing strategy to boost your overall income while keeping access to your money.

Without further ado, let's jump right in with why bonds deserve a place in your portfolio.

What's good about bonds?

The best thing about bonds is their simplicity. Even the definition of what a bond is shows just how simple the concept is. A bond is what an investor receives from the bond's issuer in exchange for lending that issuer some money. In exchange, the issuer promises to pay interest at regular intervals, and after a certain time, the issuer must pay back the investor.

If you invest in bonds, you'll always know exactly when you'll receive income from the bond issuer. You can even make a calendar in advance that shows when you'll get each interest payment, along with the date on which you'll get your full investment back. Many bonds pay interest twice a year, while others make more frequent payments on a quarterly or monthly basis. With most bonds, you'll even know exactly how much each interest payment will be. That can make it a lot easier to plan for your expenses, especially if you know how much money you'll need to pay them.

Contrast the predictable nature of bonds with stocks. Stocks don't mature, so you're never assured of getting a certain amount of money back at a particular time. Whenever you decide to sell, the price of the stock will depend on the particular value that investors give to those shares. Also, although some stocks pay dividends, companies aren't required to keep paying those dividends, and they can reduce or eliminate dividend payments at will. It's therefore a lot harder to count on stocks providing regular income.

Bonds also come with a wide variety of terms that let you match up your specific needs with an appropriate investment. Long-term bonds pay interest for anywhere from 10 to 30 years before returning principal, making them appropriate for those who expect to need predictable income for a long time. Short-term bonds can have maturities of just a few months to three years, and that makes them useful for investors who have short time horizons that make stock investing too risky. In between are intermediate-term bonds, with maturities of three to 10 years, that which offer a balance between shorter and longer maturities. Most of the time, the longer the maturity of the bond, the higher the interest rate it will pay as a reward for agreeing to lock up your investing capital for a longer time.

What risks do bonds have?

Contrary to what many people believe, bonds are not risk-free. It's true that their predictable nature makes them safer than stocks in some ways than stocks. However, bonds have their own unique risks that investors need to understand before they buy bonds.

The most important risk to consider with bonds is whether the issuer will be able to repay the bond when it matures. The more credit-worthy the issuer is, the less likely it is that the issuer will default on the bond. However, bonds from more credit-worthy issuers tend to offer lower interest rates than those from issuers that have more credit risk. Investors therefore have to weigh their appetite for income against the tolerance to of the risk of losing everything if the bond issuer can't repay them at maturity.

Bonds also carry interest rate risk. Although many individual bond investors buy bonds with the expectation of holding them until they mature, there is a secondary market for bonds, and some investors buy and sell bonds regularly. If prevailing interest rates in the market move higher, then the price of your bond in the secondary market will fall, and the longer the bond has before it matures, the greater the price drop will be. That's because new investors can take advantage of higher rates on new bonds, and so they have to get a discount to be willing to buy your lower-rate bond instead. Bond prices can also go up if interest rates rise, and the general downward trend in bond interest rates over the years has been a boon for those investors who buy and sell individual bonds frequently or who invest in bonds through mutual funds or exchange-traded funds.

Another big risk that bonds have is that they're vulnerable to inflation. With most bonds, the amount you receive at maturity is roughly equal to the amount that the investor paid for the bond initially, and that amount isn't adjusted for inflation between purchase and maturity. Especially for long-term bonds, the purchasing power of the money you lend to the bond issuer can fall dramatically over the term of the bond. Consider that a typical basket of items most people buy every day that cost $100 30 years ago would cost almost $220 today, and that's during a period of relatively low inflation. That's the primary reason why investing only in bonds is usually ill-advised and why riskier investments like stocks deserve a place in all but the most conservative of portfolios.

What types of bonds are there?

There are many different categories of bonds, and you can divide bonds into groups based on whatever characteristic you like. We already looked at the distinctions between short-term, intermediate-term, and long-term bonds, but there are other common ways to categorize them.

One of the most popular ways to break down bonds into groups is by looking at who issues them. Treasury bonds come from the federal government and are seen as having no credit risk, because the government has the power to issue money to repay their bonds if they so choose. Bonds issued by certain government-sponsored enterprises, such as the Government National Mortgage Association, are known as agency bonds, and they're often seen as being nearly but not quite as safe as government bonds. Municipal bonds are issued by state or local governments, and although those governments don't have monetary powers, they do have tax- levying power that makes most municipal bonds relatively safe. Private companies issue corporate bonds, and those bonds rely on the continued success of the business enterprise to generate cash flow to repay them.

Credit risk also distinguishes various bonds. Investment-grade corporate bonds refer to bonds issued by companies that have less chance of defaulting on them, according to bond ratings assigned by specialized rating agencies whose job it is to assess their credit-worthiness. High-yield corporate bonds, which are also known as junk bonds, have higher default risks but typically compensate investors for that added risk by paying higher interest rates than investment-grade bonds.

There are also two categories covering the way that bonds set interest rates. Fixed-rate bonds establish the interest rate upfront, and it doesn't ever change between issuance and maturity. Variable-rate bonds, on the other hand, have interest rates that are tied to certain rate benchmarks, and the terms of these bonds establishes how often the interest rate that investors receive changes in response to moves in those benchmarks.

Finally, there are some specialized types of bonds that you should be familiar with in your investing. Zero -coupon bonds don't pay interest like regular bonds. Instead, you buy zero -coupon bonds at a discount to what they'll eventually pay at maturity. The "interest" is essentially built into the price. So, for instance, you might pay $900 for a zero -coupon bond that will pay $1,000 when it matures in five years. The $100 increase in value represents the interest. This is similar but not identical to a traditional bond for which you pay $1,000 and that pays $20 per year in interest for five years before paying your $1,000 back.

The other common type of specialized bond is known as an inflation-protected or inflation-indexed bond. With these bonds, the amount you receive in interest and at maturity is adjusted for rises in the Consumer Price Index between issuance and maturity. So, for instance, if you buy a five-year inflation-protected bond with a value of $1,000 and inflation rises 20% over that time period, then you'll get $1,200 back at maturity. This aims to reduce or eliminate the inflation risk that traditional bonds carry.

What's the difference between a bond and a bond fund?

Investors buy bonds in two ways. Some buy individual bonds from particular issuers. Others buy mutual funds or exchange-traded funds that own a large portfolio of bonds.

Buying bond funds carries different advantages and risks different from those of owning individual bonds. Because funds own many different bonds, the default risk from any one issuer is less than with an individual bond. In addition, a bond fund manager can invest small portions of the portfolio in riskier bonds to boost overall income without taking on as much risk as an investor who commits a relatively large portion of their his or her portfolio to a riskier bond.

On the other hand, most bond funds don't have a set maturity date, so there's no guarantee that you'll ever get your initial investment back. If interest rates move higher, then the value of the bond fund can go down — and bond fund owners don't have the option that individual bond investors have to wait out the rate rise and get full repayment at maturity.

A simple bond investing strategy: the bond ladder

Bond investors who have a lump sum to invest run into a problem: what type of bond should they buy? If you put all your money in a short-term bond, then you'll be able to get at it more often, but the interest rate will typically be low. If you choose a longer-term bond, the rate will be higher, but you'll have to lock up your money for a longer period of time. To get the best of both worlds, a bond ladder strategy uses a diversified approach.

How bond ladders work is pretty simple. To set up the bond ladder, divide the money you have into five equal amounts. Then buy five bonds with each block of money: one with a maturity of one year, one with a maturity of two years, and others that mature in three, four, and five years.

When you first start a bond ladder, the immediate results you'll see are a compromise between maximizing income and keeping your money readily available. Some of your money is locked up for a long time and pays high income, while some will be available sooner but pays relatively low interest.

However, the beauty of the bond ladder comes in subsequent years. At the end of the first year, the one-year bond will mature, making one-fifth of your original investment available. If you need the proceeds of the one-year bond to pay living expenses, then you can use it that way while still getting income from the remaining four-fifths of your money. If you don't need the money, then buy a new five-year bond with it.

If you proceed along these lines for four consecutive years, then at the end, you'll have a bond ladder that looks essentially identical to what you started out with: equal amounts that mature between one and five years from that time. However, because each of those investments will have started out as five-year bonds, they'll all carry the higher interest rates that a five-year bond pays compared to a one-year bond. In other words, you'll get rewarded for your patience with higher rates — and you'll still be able to count on accessing at least a portion of your money on an annual basis.

You can also take the bond ladder concept a bit further if you have a need for monthly income. Rather than buying five bonds with annual maturities, you can divide your investment capital into 60 equal parts. With some types of bonds, such as Treasuries, you can find bonds that will mature in each discrete month, and so you can immediately set up a bond ladder with maturities ranging from one to 60 months. With other types of bonds, you might have to set up the ladder gradually, investing in five different bonds with maturities of one to five years each month, and repeating that process over a 12-month period in order to implement the strategy fully.

Use bonds to get the income you need

Bonds aren't as exciting as stocks, and bonds don't offer the growth potential that stocks can provide. But that's precisely why you need bonds as part of your portfolio, because the risk factors involved in owning stocks aren't appropriate for 100% of most people's investment capital. Whether you have immediate income needs or simply want an asset class that is more predictable and less volatile than stocks, making bonds a part of your overall investment strategy is a move that will pay off in more ways than one.