A Look at Premium Bonds08-26-2014 |
When I was being interviewed for a recent Bond Buyer article about investment tools that are available to deal with rising and falling interest rates, one of the questions that I was asked was about how investors typically use premium bonds for. Here’s a quick look at what they are and how they work, based on that conversation:
- Premium bonds, quite simply, are bonds that investors pay a premium for. The reason for the premium is that they tend to have higher coupon rates, which can mean higher yields. The other unique characteristic to know about premium bonds is that they have shorter durations than par or discount bonds of the same maturity.
- Interest rates, which are the product of supply and demand, have the opposite effect on bonds than they do on many other types of investments experience – bond values fluctuate inversely to changes in interest rates. That means, when supply and demand combines to produce low interest rates, bonds tend to thrive.
- Since the duration of premium bonds tends to be shorter than par or discount bonds of the same maturity and since the call date for premium bonds is priced as though it were the maturity date, there is a natural flexibility built into premium bonds that make them less sensitive to interest rates changes – especially when interest rates begin to rise.
Remember, any investor assumes risk – potentially losing the principal amount – and past financial performance doesn’t guarantee future returns. Investors should work with a professional financial advisor when looking at the different investment tools available to determine what investments combination works best for their needs. Premium bonds are one option out of many that, together, they may explore.
The information provided is not an invitation to invest in any products or services or otherwise deal in any of these or enter into a contract with Hennion & Walsh or any other company. The information provided should not be relied upon in connection with any investment decision. You should not act upon any information contained herein without first consulting a suitably qualified financial or other professional advisor.