Retirement Income Blog

Some foreign governments may offer a higher interest rate on their bonds than the US Government does. Additionally, some foreign corporations might offer a higher interest rate than the US companies. For retired investors, this could be an opportunity to diversify in an area that offers potentially higher returns, more stable returns and a hedge against the value of the US dollar–all goals for sound retirement investing.

Also, international bond funds can provide diversification and potentially higher returns. International bond funds invest primarily in bonds issued by foreign governments and corporations. There are different types of international bond funds—single country, single region, global (which includes US bonds), and foreign (no US bonds included).  There are also industry and sector funds—utilities, government, telecommunications, and so forth.

What are some other reasons to consider international bond investments?  Interest rates can move in different directions throughout other parts of the world. For instance, when US rates are low, rates in other stable countries may be higher. The same could happen to movements in the stock markets. Of course, the opposite could also come about. }

When you buy international bonds or bond fund shares you are opting for the potential of higher returns in exchange for accepting some additional risks. For example, foreign markets are often more volatile than the U.S. markets. These investments involve other special risks, including currency exchange, political and economic uncertainties as well. Professional managers can sometimes help to mitigate these risks by monitoring international market developments and by adopting strategies to hedge against currency exchange rates. However, the additional time involved in managing these risks will usually result in higher management fees. 

There are also international bond funds that invest in the area of emerging market bonds. Investing in emerging markets involves greater risk and potential reward than investing in more established markets. These markets tend to help when trade barriers are reduced (as is the case with NAFTA), or when privatization occurs in formerly communist or socialist countries. However, the risks associated with emerging markets include the risks relating to the relatively smaller size and lesser liquidity of these markets, high inflation rates, and also adverse political developments.

Investing a small percentage of your assets in international bond funds could potentially increase your income by giving you the opportunity to profit from growth in other economies. However, you should have a complete understanding of the associated risks of these investments.

The biggest risk (and potential reward) is the change in the currency rate relative to the US dollar.  For 2008, you would have been well off being in the US dollar as it did well realtive to other currencies.  But had you held Japanese Government Bonds, you could have gained 23%–just having your funds in a Japanese treasury bills as seen below (click on chart to see full view)

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What Happens to Bondholders When a Company Goes Bankrupt?

Seniors and retirees like bond investments because they provide a steady income, diversify a stock portfolio, and are backed by the issuer’s financial strength. But things don’t always go as planned. Companies occasionally have financial problems and must file for bankruptcy as you well know.

Investors holding bonds in bankrupt companies can at least have the comfort in knowing that as unsecured creditors they are second in line for payment. Secured creditors, those with claims backed by collateral, such as equipment or real estate, are paid first. Stockholders come last and that is only if there is any money left after the creditors have been paid.

There are two general forms of bankruptcy: Chapter 7 and Chapter 11. With Chapter 7, the company is liquidated and bondholders should file a claim to receive a portion of the value of their bonds. In Chapter 11 proceedings, however, the process is quite different.

Chapter 11 allows the corporation to reorganize. Its bonds might continue to trade, but holders will not receive principal and interest payments. As a result, a default could occur, and the value of the bonds might decline significantly. Or the court may approve an exchange of the old bonds for new ones, which could have a lower value.   The problem is that the fortunes of corporations change.  The highly rated General Motors bond you may have purchased with an AA rating years ago may now be rated CCC as General Motors clings to financial life.

How can you find out if a company that you lent money to by purchasing a bond has filed for bankruptcy or if the safety has declined?  First, if you have a sizeable portfolio and a good retirement consultant, he will keep you informed.  Secondly, LOOK at your monthly brokerage statements when they arrive.  The first hint of trouble is a decline in bond value from one month to the next.  TV reports, newspapers, and financial magazines often give an account of companies that recently declared bankruptcy or have trouble. The company will also send you information on the reorganization plan and ask you to vote on it. And if a financial institution holds the bond for you, it should forward everything from the company.

If you would like a free credit report on bonds you currently own, here are two web sites to check

http://www.moodys.com/cust/default.asp.  Register for a free account and you can return to this site periodically to check your bonds.  Should your broker do this for you?  One of the problems is that the broker gets paid a commission when you buy the bond.  he has little if any incentive to keep you informed unless you continually do business with him.
Another site with information is http://www.fitchratings.com/

Unfortunately as with stock investing where you can get a lot of information on the common shares of public companies, the transparency and visibility of bond investing information is poor.

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If you’re using I-Bonds to protect yourself from inflation, you know it can get tricky.

Series I-Bonds are Treasury-backed bonds designed to help protect investors from inflation. Like most Treasury bonds, they appeal to investors seeking the security of an investment backed by the full faith and credit of the U.S. government.  This, they are popular bond investing choices among seniors and retirees. They also have some tax advantages: You can defer reporting accumulated interest for federal income tax purposes until you redeem the bonds, or until the bonds stop earning interest 30 years from their issue date. (Of course, in exchange for greater security, they offer lower potential returns than some other investments.)

I-Bonds seem simple. They’re sold at face value, and when you cash in the bonds, you receive interest. But there are intricacies, mostly because of how I-Bonds pay interest. I-Bond interest rates have two parts: A fixed rate that remains the same throughout the life of the bond, and a variable rate that is adjusted for inflation. The fixed rate is determined every six months, at the beginning of May and November, and applies to all I-Bonds issued in the following six months. For example, the fixed rate set on November 1, 2006, applies to all I-Bonds issued from November 2006 through April 2007.

The variable rate is based on the change in the consumer price index for all urban consumers (CPI-U) over a six-month period. Again, rates are determined at the beginning of May and November. The result is called the “composite earnings” rate. For May 2007 through October 2007, it was 1.30%. But that, again, is subject to change, as the chart below illustrates.
Historical I-Bonds rates
I-Bond fixed rates are determined each May 1 and November 1. Each fixed rate applies to all I-Bonds issued in the six months following the rate determination. 
DATE FIXED         RATES*
MAY 1, 2007        1.30%
MAY 1, 2006        1.40%
MAY 1, 2005        1.20%
MAY 1, 2004        1.00%
MAY 1, 2003        1.10%
MAY 1, 2002        2.00%
MAY 1, 2001        3.00%
MAY 1, 2000        3.60%
MAY 1, 1999        3.30%
*Annual rates compounded semiannually
Source: US Treasury Department, as of October 2006

You can buy I-Bonds at most financial institutions. The minimum purchase is $50 for purchasing paper bond certificates and $25 when purchasing electronically. The maximum amount you can buy for any calendar year is $60,000: $30,000 in paper bonds and $30,000 electronically. And you can redeem the bonds at any time after a 12-month minimum holding period–although, if you redeem them before five years, you’ll lose your last three months of interest.

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