Bonds are often used as a safe investment or as a diversifier to an established portfolio. Bonds can be among the safer forms of investment, and they're usually used for long-term investing plans, as you should ideally keep hold of them until maturity.
What is a bond?
A bond is a financial instrument that represents a loan made by an investor to a borrower, typically a corporation or government. They are usually issued to fund their activities, and when a company or government issues a bond, it’s called ‘raising debt’.
In exchange, the borrower, i.e. the company or government, agrees to repay the original investment amount, known as the face value or par value, when the bond reaches its maturity date. Until then, the investor typically receives regular interest payments. How safe or risky a bond is depends on who you’re lending to and their ability to pay you back.
How do bonds work?
With bonds, you're essentially lending money to either a company or to the government at a fixed interest rate for a fixed amount of time. But some bonds are safer than others, so before you buy any, you need to know what you're getting into.
Not all bonds carry the same level of risk. Government bonds are considered the safest because, as the name implies, they’re backed by the government. Corporate bonds can offer higher returns, but they may also carry more risk, especially those from less-established companies.
It’s important to understand what kind of bond you’re buying and how much risk you're willing to take. Speaking to a financial adviser can help in making sure you're on the right track.
Apart from the face value, your bond will also have a coupon amount, which is the interest you'll receive each year. Generally, the interest is paid every quarter or half-year.
If you buy a bond at the start of its term and hold it until it matures, then the process is straightforward. But you can also buy and sell bonds partway through their term on the secondary market.
These are known as exchange-traded or listed bonds. Bonds like these can give you flexibility, whether you want to cash out early or take advantage of changes in bond prices or interest rates.
How your bonds are valued
The capital value of your bonds rises and falls with the prevailing market interest rate and also the interest that is accrued since its last coupon payment. If you buy a bond with a $1,000 face value that pays interest annually, you'll pay more if you buy it several months after the last coupon payment because you'll also be buying the interest. It could be more prudent to buy listed bonds shortly after they've paid out their interest if you can.
How bond interest rates work
Fixed rate bonds
A fixed rate bond’s interest rate is set at issue (as a percentage of the face value) and stays constant throughout the term. The interest payment will not be affected by changes in market rates.
Variable rate bonds
Variable, or floating, rate bonds have an interest rate that varies alongside a benchmark rate, such as the RBA cash rate. Your coupon payment will be different each time as a result, and can sometimes change quite dramatically. To find out more about the bond's rate, you should read its prospectus, which will tell you when the floating rate is calculated.
Below is a table comparing the benefits and risks of the two types of bonds:
|
Type of Bond |
Benefits |
Risks |
|---|---|---|
|
Fixed-Rate Bonds |
|
|
|
Variable-Rate Bonds |
|
|
Interest rates also affect your bond's value
If you were to buy a five-year bond with a fixed interest rate of 6% p.a. and then the market interest rates fell to 3% suddenly, your coupon income would effectively double, making the bond more valuable.
On the other hand, if market interest rates rocket up to 12% (you never know), the income from the bond halves and the value of the bond falls. This is an intrinsic feature of bonds, where as interest rates rise, the value falls and vice versa.
Types of bond issuers
In Australia, there are several types of bonds available, each with different issuers, risk levels, and features. Here’s a quick guide to some of the most common types of bonds:
|
Type of Bond |
Issuer |
Key Features |
Risk Level |
|---|---|---|---|
|
Australian Government Bonds (AGBs) |
Federal Government |
Backed by the Commonwealth; very low risk. Includes Treasury Bonds and Indexed Bonds. |
Very Low |
|
Semi-Government Bonds |
State and Territory Governments |
Issued by state governments (e.g., NSW Treasury Corporation); slightly higher yield than federal bonds. |
Low |
|
Corporate Bonds |
Companies |
Pay higher interest than government bonds but come with more credit risk. |
Medium to High |
|
Floating Rate Notes (FRNs) |
Corporations and financial institutions |
Pay interest that adjusts with market rates (e.g., based on the RBA cash rate). |
Medium |
|
Inflation-Linked Bonds |
Government or corporations |
Payments adjust based on inflation, preserving purchasing power. |
Low to Medium |
|
Exchange-Traded Treasury Bonds (eTBs) |
Federal Government (via ASX) |
Listed on the ASX; easier for retail investors to buy/sell. |
Very Low |
|
Exchange-Traded Corporate Bonds (XTBs) |
Various Australian corporations |
Traded on the ASX; gives retail investors access to individual corporate bonds. |
Medium to High |
How to actually invest in bonds
Getting into bond investing can seem out of reach for everyday people. Buying individual bonds directly often isn’t practical. Many government and corporate bonds come with high minimum investment amounts and are typically bought and sold in large volumes by big institutions or fund managers.
Unlike shares, individual bonds aren’t as easy to trade, making them harder for regular investors to access without specialised brokers or wholesale market connections.
Despite these barriers, there are still ways for individuals to get exposure to bonds. Some accessible ways to invest include:
Superannuation funds
Most super funds invest a portion of your money in government or corporate bonds as part of a broader, diversified strategy. You may already have some bond exposure without realising it. If you're looking for more stability in your portfolio, you can usually choose a more conservative investment option within your super, which will likely include a higher allocation to fixed-income assets like bonds.
Bond ETFs
These are investment funds that hold a basket of bonds and trade on the stock exchange, just like shares. You can buy and sell them through any online broker, often with just a few hundred dollars. ETFs offer instant diversification, transparency, and liquidity, making them a practical choice for everyday investors.
Listed or exchange-traded bonds and hybrids
Available via the stock market, these are debt instruments issued by companies or institutions that trade like shares and often come with lower entry points than traditional bonds. While easier to access, they still require careful research. It's important to understand the terms of the investment before buying in.
Bond managed funds
Bond managed funds are run by professional fund managers and are available either directly or through investment platforms. They usually require a higher minimum investment than ETFs, but still less than what you'd need to buy bonds outright on the wholesale market.
Online investment platforms
Online investment platforms have made bond investing more beginner-friendly by simplifying the process and lowering barriers like high minimums. Some offer fractional access to bond portfolios, meaning you can invest small amounts and still benefit from professional management and diversification.
So, are bonds a smart idea?
Bonds may be suitable for investors looking for a low-risk investment to back up their savings and term deposit accounts. As the market value of bonds can rise and fall, they can offer more flexibility than term deposits, and you can sell them when they're worth more. If you cash out a term deposit account early, you'll face penalties, sometimes as much as the entire amount of interest earned, which doesn't happen with bonds.
In addition to this, government bonds tend to do well when other markets are more turbulent. This makes them potentially a good defensive investment and also a good source of regular income if they're fixed.
However, one of the main hurdles is their accessibility. As mentioned above, you usually can’t just contact a company and directly buy their debt - the same goes for a government. Many options have high minimum investments, though, as also mentioned above, there are more democratic ways to indirectly invest in bonds.
Bonds can be less volatile than shares
You can choose from very safe bonds all the way through to riskier ones, which may pay lots of interest or may not pay you anything at all. In general, however, investing in bonds is safer than investing in shares - i.e. equity in a company, not debt - because you should at least get the face value returned to you at maturity.
You might be able to look at the credit ratings of your preferred bonds, but some are only available to advisers and wholesale investors. If you can't find the rating of a company bond, you should ask a licensed adviser for their assessment.
You can use them in your super fund
Many super funds invest in bonds - both government and corporate - particularly in more conservative portfolio options. In a balanced super option, they often let you use a mix of the more conservative (or defensive) vehicles like cash and bonds with some slightly racier (growth) investments like shares and property.
An investment manager can take care of your bonds
If you choose a managed fund, your investment professional can decide which bonds to buy and then take care of them until they mature or you decide to sell them. However, investment managers usually charge fees that can eat away at your returns.
Bonds can give you a dependable and regular income stream
How much income, of course, depends on which bonds and on how they perform, which is why you need to do your homework first. No matter how much each payment is, though, you can usually rely on it if you choose the right bonds.
