If you are disappointed by the current yields on bank accounts and money market funds, you may be interested in bond investing. Yields are a bit higher: Morningstar puts the average yield on general bond funds at 3% now.
However, bond fund investors risk a loss of principal. If interest rates rise from current levels and never return to today’s historic lows, bond fund shares will lose value. Therefore, you might choose to invest in individual bonds and hold on until maturity, when you’ll get a specific payout.
If you decide to invest in individual bonds, consider a bond ladder. Say you prefer tax-exempt municipal bonds. You might buy a muni that matures in 2013, another muni that matures in 2014, one maturing in 2015, and so on, through 2017 or 2018 or even longer, depending on the total you want to invest.
What does this strategy accomplish? You’ll earn bond-type yields yet you’ll be protected against interest-rate risk. Each year, one of your bonds will mature; if rates have moved higher, you can reinvest in a bond with higher yields. Every year, you’ll take the proceeds from a maturing bond and reinvest in a five- or six-year or longer-term bond, keeping the rungs of your bond ladder in place.
