Steadfast FinancesBond Ladders Aren’t Just for Old People

Bond Ladders Aren’t Just for Old People

Filed in Personal Finance 4 comments

Grandpa might have been on to something when he liquidated his stock holdings and invested in a bond ladder. At the time you didn’t know what the hell he was talking about, but you were quite tired of hearing him talk about the risks associated with the stock market. After the reinvestment, you hardly heard a word about his retirement. His risky investments turned into an income-producing bond ladder and money troubles went away. Now that you’ve got a little money saved up, you’re wondering if a bond ladder might be a good choice for you.

Well, if it worked for him, it will work for you. Bond ladders aren’t just for old people.

The first thing you need to know is how bond ladders work and to understand bond ladders, you have to understand bonds. If you don’t understand bonds, figure them out. CNNMoney can help you with that. Bond ladders are constructed by purchasing various debts that mature at different intervals. When a bond matures, the principal is reinvested to form a new highest rung on your ladder. Make sense? Maybe an example will help.

Hit man Harry just offed a man for $100,000. The next morning he has a revelation and decides that killing a man is wrong. Now without a source of income, he decides to invest the $100,000 in a bond ladder…because hit men are savvy investors. He purchases the following bonds:

 

Amount

Years until maturity

Yield

Bond #1

$20,000

1

2%

Bond #2

$20,000

2

2.5%

Bond #3

$20,000

3

3%

Bond #4

$20,000

4

3.5%

Bond #5

$20,000

5

4%

Our hit man built a five year ladder with $20,000 bonds that will mature every year. His first set of yield payments would net him $3,000. Most bonds make yield payments semi-annually so our hit man would see another $3,000 in payments before his first bond matured. Once it matured, the money would be reinvested in a five year bond and the bonds he still held would creep one year closer to maturation. He doesn’t lose any of the $100,000 principal and he receives a steady stream of income.

Share this article so that the fortunate fellows out there with $100,000 lying around can get to making more money.

Three Benefits of a Bond Ladder

  1. Reduced Impact of Interest Rate Fluctuations

Since your money is spread out across short-term and long-term bonds, interest rate fluctuations won’t bother you so much. If interest rates are down when it comes time to reinvest, only the newly purchased bond will suffer. The rest of your bonds will maintain the higher return, which is cause for celebration. If interest rates are up, you can reinvest your new bond at the higher rate, which is another reason to celebrate.

  1. Customizable to Fit any Investor’s Situation

You can set your ladder up as you see fit. You can make a 10 year bond ladder or a 3 year bond step stool. You can invest $20,000 or stow away $250,000. A few simple calculations will help you determine how much you need to invest at what intervals in order to yield the amount of income you need.

  1. Minimizes Risk while Generating Income

Stock market volatility and near zero savings account interest rates have spurred investors to look elsewhere for places to put their money. Bonds ladders are safe and produce a decent return. The steady income can be used to cover expenses such as monthly bills, a new boat, child support, or anything really. Who couldn’t use another source of income?

Now that you’re familiar with bond ladders, you can decide if it’s an appropriate investment choice for you. If it isn’t at the moment, it will be once you get closer to retirement. Numerous resources are available that go into detail about aspects such as the different types of bonds and how they are affected by inflation.

Feel free to ask a question in the comments or to tell us about your own experience with bond ladders.

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Posted by Dominique Brown   @   15 October 2012 4 comments
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4 Comments

Comments
Oct 15, 2012
11:41 am

The key, sounds like, is to hold the bonds till maturity. No selling of the bonds before they mature, in other words. (This way you avoid the bane of bond investments: prices that fluctuate with interest rates.)

Great strategy. Thanks for sharing.

Oct 16, 2012
12:54 pm

William that is correct.. it’s like a CD ladder, but for Bonds. I would advocate selling the bonds if you can make a lot of money from the sale only

Oct 18, 2012
5:03 am
#3 William @ Drop Dead Money :

Hey Dominique, I started reading up on this and came across the following article.

http://www.learnbonds.com/bond-laddering/

What’s your take?

Oct 20, 2012
6:02 am

I think that article writer is entitled to his opinion and I respect that opinion :-)

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