Mission Possible

Dian Blackwood

Sunday, February 12, 2012

IF you like action-packed, adrenaline-pumping, nail-biting movies then Mission: Impossible — Ghost Protocol is the show to watch for 2012. From one scene to the next this movie keeps the viewers on the edge of their seats just begging for more. Now let's focus on reality, if we are looking to have a portfolio that will achieve our investment goals then all the characteristics that we loved about the movie definitely will not hold same for our strategy. What we are in fact looking to achieve in reality is a "Mission Possible"; we will examine ways to achieve this goal.

Investors are more familiar with the regular investment options available such as Repurchase Agreement (Repo), Certificate of Deposit (CD's), Treasury Bills (T-bills) and Savings account. These investments are usually geared toward clients who are looking for short-term options. The regular investments are needed if we have certain goals to achieve in the short term, however there are other options to consider. Whereas the investment strategies for each investor vary from one client to the next, there are some bond options to consider when building our portfolio.

Bonds have always been a viable investment option, however what some clients do not realise is that there are myriad bonds to choose from. The world of bonds can be fascinating as it offers investors a lot more choice. Depending on your risk tolerance, your goals, and your tax situation, you can choose from municipal, government (sovereign), corporate, mortgage-backed and international bonds. Within each broad category you will find different issuers, credit ratings, coupon rates, maturities, yields and other features. Each one offers its own balance of risk and reward.

When choosing a bond, first establish your goal: is it interest income? Saving for a definite future goal? Capital appreciation? Having answered these questions, then it makes it easier to narrow down the selection. If interest income is your main goal then look for bonds that offer higher coupon rates which tend to be long-term bonds. Also higher coupon rates are usually associated with corporate bonds. Therefore, buying a corporate bond that matures in the year 2049 will not be an issue if the coupon rate is 11% per annum. Of course other variables will play a role in your decision making, such as the credit rating, the strength of the issuer, and if the bonds are structured notes (for example if the bond has a callable feature).

Should you have a definite future goal such as college tuition, retirement planning, real estate purchase, then bonds are an excellent choice. Because bonds have a defined maturity date it becomes a little easier to achieve your goal. With this goal in mind you are more focused on the tenor of the bond (maturity date that may coincide with your goal), yield to maturity (this is an estimation of future return) and the issuer of the bond (government or corporate). Zero coupon bonds may also be a consideration. You can invest in zero coupon bonds with maturity dates timed to your needs for a well-defined and time-sensitive goal. These bonds are sold at steep discounts from the face value that is returned at maturity. The interest amount is attributed to the bond during its lifetime. Therefore, rather than being paid out to the bondholder, it is factored into the difference between the purchase price and the face value at maturity.

If capital appreciation is the order of the day for an investor then essentially they will be looking for opportunities among distressed bonds, and price, issuers and yields will be the main foci. As always, other features will play a role in the decision making which is why a financial advisor is needed in the process.

Bonds are an exciting investment tool that can make our portfolio work wonders for us, it is indeed feasible to achieve a mission possible with a knowledgeable financial advisor and the right bonds on board.

Dian Blackwood is a personal financial planner with Sterling Asset Management Ltd. Sterling provides medium to long-term financial advice and instruments in US and other world market currencies to the corporate, individual and institutional investor.

Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: info@sterlingasset.net

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Mission Possible