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How-to: Invest in Bonds

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How-to: Invest in Bonds

How-to: Invest in Bonds

In times of heightened risk aversion, investors typically shift their investments from higher risk financial instruments like stocks, to safer fixed-income assets such as bonds.

A bond is basically a debt security, similar to an IOU. Borrowers issue bonds to raise money from investors willing to lend them money for a set period of time.

When you buy a bond, you are lending to the issuer, which may be a government, municipality, or corporation. In return, the issuer promises to pay you a specified rate of interest at set intervals (usually twice a year) during the life of the bond and to repay the principal, also known as face value or par value of the bond, when it “matures,” or comes due after a set period of time.

Bonds provide a means for companies, governments and municipalities to raise large amounts of money for various things, which may include:
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How does it work?

While bonds might not provide the returns that stocks may generate due to their lower risk and fixed income characteristics, they are an essential part to any investment portfolio.

Typically, bonds pay interest semi-annually or annually providing a predictable income stream over a set period. Many people invest in bonds for that expected interest income (often referred to as ‘yields’) and also to preserve their capital investment (hence why it’s referred to often as fixed income instruments).

The Securities Commission (SC) regulates the issue and offer of corporate bonds and sukuk in Malaysia. Bank Negara Malaysia (BNM) also issues rulings for approvals for certain types of bonds including non-tradable and non-transferable bonds issued to non-residents.

In Malaysia, corporate bonds are predominantly issued to sophisticated investors.

However, corporate bonds of certain eligible issuers may be issued to retail investors,  and in this regard, the issuance must be accompanied by a prospectus that has been registered  with the Securities Commission Malaysia.

The eligible issuers include public listed issuers, licensed banks, Cagamas Berhad as well as public companies whose shares are not listed but irrevocably and unconditionally guaranteed by the first three aforementioned entities, Danajamin Nasional Berhad or Credit Guarantee and Investment Facility.

Bond issuers have an option to issue bonds under the conventional or Islamic principles.

In 2012, the SC launched the Malaysian retail bonds and sukuk framework to provide retail investors direct access to invest in bonds and sukuk.

Under this framework, retail bonds and sukuk may be issued by certain eligible issuers as mentioned above and traded either on the exchange (Bursa Malaysia) or over-the-counter (OTC) via appointed banks. This allows issuers to have access to a larger pool of investors and facilitate greater participation in the bond and sukuk market.

Bonds that are traded on Bursa Malaysia are usually traded in a minimum board lot size of 10 units per lot. Given the principal price of RM100.00 per unit, each board lot will cost RM1,000, excluding transaction costs.

Why do people invest in bonds?

Most people presume that bonds are only for the very old, very rich, or very conservative investor. However, the truth is, bonds are an important component of a strategically-diversified portfolio at any stage of an investor’s life.

Having a diversified portfolio, which includes bonds over the long-term can often provide comparable returns with less risk than a portfolio devoted to only one type of investment over a longer period of time.

It is recommended for any investor to balance their portfolios with high, medium and low risk investment products, and bonds can provide investment stability to help buffer against the volatility of the stock market, and offer tax-free income, which can help with your living expenses, and ultimately help you achieve your financial goals.

Here are some benefits they can provide:

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Bonds are typically considered safe “fixed income” investments compared to stocks, but they do come with certain risks as well. Though risks associated with bond investment are generally low, they are not completely absent.

For example, bond investors are subjected to credit risk (if the issuer defaults on its debt obligations),liquidity risk (if the issuer is unable to meet its short-term financial demands) or interest-rate risk (which could either reduce or increase the market value of a bond).

How/when to invest in bonds

1) Consider your financial goals

Is your investment objective to have enough money to pay for the down payment of your first home? Or is it to live comfortably in retirement? Or both? When considering your financial goals, you need to lay them all out as precisely as you can as time frames and risk taking vary depending on them.

Shorter-term bonds have maturities of only one to five years, usually have lower yields. These are short-term in the context of bonds and may not be short-term from the perspective of investors. Meanwhile, long-term bonds can take from 10 to 30 years to mature, but typically comes with higher yields.

So if you would like to conservatively invest money to make a major purchase within the next few years, consider a shorter-term bond. That way, you maintain your principal (par value) without much risk. If you have a longer investment timeline, you might want to consider a longer-term bond, which typically give you a higher yield in exchange for the use of your money for a longer period.

Of course, the time frames (even for shorter bonds) may be well out of the range of the investor so it’s not something they would use as the sole investment instrument but as one to offset the risks of other much shorter term investments.

Watch out! - They aren’t without their risks of throwing a wrench into your investment plans!

 

Bonds with a call feature allow the issuers the right to repurchase the bond from the investor at a specified price, usually at the par value of the bond, prior to the bond’s maturities. This is known as “calling” a bond, and they usually occur when an issuer no longer needs to borrow the money, or because interest rates have fallen and the issuer wants to issue new bonds at a lower interest rate.

This way, the issuer can pay off the bond and issue another bond at a lower interest rate.

Call provisions are often a feature of corporate and municipal bonds. For the investor, the calling of a bond creates reinvestment risk, meaning the investor is forced to find a new place to put his money (and this is after having made little or no additional income from the previous investment).

This might result in the investor not being able to find as good a deal, especially when interest rates are falling in the time of occurrence.

In some cases, issuers soften the loss of income by calling the issue at a premium above par, say 5% in addition to the principal, as a consolation for the call.

 

2) Set up a brokerage account

Investors can purchase bonds with the help of an investment representative, who will facilitate the buying and selling of financial securities between a buyer and seller. The investment representative’s firm is in communication with governments and companies that want to issue debt. They also have access to secondary bond markets.

The type of investment representative you will need to engage will depend on the nature of the bond or bonds.

For example, you will need to open an account with a stock broker for retail bonds that are issued and traded on Bursa Malaysia.

However, do bear in mind that in exchange for the services, the broker usually marks up the price of the bond to above its face value. Mark-ups are usually from 1% to 5% of the bond’s original values, and firms generally charge higher mark-ups on smaller bond sales than larger ones.

Meanwhile, if you are an eligible high net worth (HNW) investor, you will likely need to go through a financial institution and enlist the help of a private banker.

3) Check the bond’s rating

Before placing an order, an investor must consider the credit rating of the bond. Credit rating refers to the ability of the bond issuer to make all required interest payments and to repay the principal balance on time. This is extremely important as it determines the risk of that particular bond.

How are bonds rated?  

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How do ratings work?

Generally, the higher the credit rating, the lower the risk. Higher yields are there to entice investors to take a higher risk, as a bond with a lower rating is deemed to have a higher risk of not paying interest and/or principal payments.

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Malaysian Rating Corporation Berhad (MARC) and RAM Rating Services Berhad provide credit rating services in the Malaysian bond market. You can check out the ratings for local bonds here.

Beyond just the rating, there are also other factors that you will need to consider before purchasing a bond. Here are just a few things you will need to look at before you start:

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 4) Place an order

Once you decide on a bond, a brokerage firm can place an order for you. If there are new offerings available, investors can buy a bond when it is issued or through the secondary market.

5) Selling your bond

When you’ve bought your bond you can either hold on to it or sell it on the secondary market. Investors usually choose to sell their bonds if they no longer need the fixed income and/or if a bond’s price has changed to their favour.

As they are placed on a secondary market, bond prices can change according to market forces allowing for an investor to redeem the bond at a premium – netting them their principal plus profit up front.

Of course they’d be sacrificing the fixed income but they could shift it to a new bond that fits their criteria.

Selling a bond is a topic on its own that we’ll cover separately.

So…Is it hard to start investing in bonds?

Well, no, but you would still need to do your homework. And we don’t mean just a quick glance through the text, but to research the market, as well as the funds you’re planning to put your money on, in meticulous detail.

Although many have the perception that bonds are a “safe” investment, it is really driven by the same risk/return trade-offs as the stock market as a company (or even a government) can be subject to sudden changes impacting their ability to pay off a bond. An investor will need to master these market dynamics to become a competent bond investor.

Another important factor to consider is the cost and fees involved, such as management fee, trustee fee and platform fee.

Finally, it goes without saying that before investing, an investor should always consider the funds’ investment objectives, risks, charges and expenses.

 

https://www.imoney.my/articles/how-to-invest-in-bonds

 

© Securities Commission Malaysia (SC). Considerable care has been taken to ensure that the information contained here is accurate at the date of publication. However no representation or warranty, express or implied, is made to its accuracy or completeness. The SC therefore accepts no liability for any loss arising, whether direct or indirect, caused by the use of any part of the information provided. The information provided is for educational purposes only and should not be regarded as an offer or a solicitation of an offer for investment or used as a substitute for legal or other professional advice. For enquiries regarding sharing, republishing or redistributing this content please write to: [email protected].

Investing in the Malaysian Capital Market: Bonds

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The Malaysian capital market offers various investment products in the form of shares, unit trusts, bonds, warrants and derivatives.

The Malaysian capital market offers various investment products in the form of shares, unit trusts, bonds, warrants and derivatives. However, as an investor the type of investment product you choose to invest in is usually determined by several common factors such as investment goals, risk appetite and risk tolerance, investment time frame, and available cash to name a few.

In this leaflet, we will discuss the investment product known as bonds. After reading this leaflet, you will be able to:

  • Identify the characteristics of bonds; and
  • Make an informed investment decision when selecting a bond investment.

It is important for you to obtain as much information as possible on the product from the authorised person or organisation you wish to invest in. By having the relevant information on the investment products, you will be able to make an informed investment decision and exercise your rights and responsibilities as an investor. However, seek professional advice if you are unsure or check with the regulator.  

 

Bonds

A bond is normally a long term debt securities offered by companies or governments (the issuer) to investors to meet their financing needs. A bond that is issued in compliance with Shariáh principles is known as Sukuk.

 

When investors buy bonds or sukuk, they become bondholders or sukuk holders. They are entitled to receive periodic coupon or a return on the principal or nominal amount raised by the issuer and upon maturity, the principal amount will be returned to the bond holder or sukuk holder. In layman’s terms, think of it as lending a company a principal sum for a stipulated amount of time, receiving a fixed return at predefined intervals, and then collecting the principle amount.

 

Retail bonds and sukuk may be issued and traded either on the exchange (Bursa Malaysia) or over-the-counter (OTC) via appointed banks.

Eligible issuers of bonds:

  • the Malaysian Government and any company whose issuances are guaranteed by the Malaysian Government;
  • A public company listed on Bursa Malaysia (PLC);
  • A bank licensed under the Banking and Financial Institutions Act 1989 or Islamic Banking Act 1983;
  • Cagamas Berhad; and
  • An unlisted public company whose bond and sukuk issuance is guaranteed by Danajamin Nasional Berhad, Credit Guarantee and Investment Facility or any of the eligible issuers above.

 

Obtaining Information

For retail bonds and sukuk, issuers are required to provide retail investors with a prospectus and would also need to meet with the relevant continuous disclosure requirements. Investors can access information on bonds and sukuk that they have invested in through Bursa Malaysia's website, banks from whom they have purchased the bonds and sukuk, media announcements that may be made from time to time and any other platform as may be designated by the SC.

Where the bonds and sukuk are issued or guaranteed by the Malaysian Government, they would be exempted from the prospectus requirement. However, where they are issued and traded on Bursa Malaysia, they would need to comply with the relevant continuous disclosure requirements.

General guide for investing in bonds - We recommend you consider these factors when selecting a bond:

Bond rating

Measures the investment grade  of the bond i.e. the grade is assigned by credit rating agencies such as RAM Rating Services Berhad (RAM) and Malaysia Rating Corporation Berhad (MARC)

Risks

 

 

Credit risk: This is the risk  that the bond/sukuk issuer is unable to pay the coupon/ distribution payments on the specified dates or the repayment of the principal amount to the holder at maturity. Government Exchange Traded Bonds (ETBS) and Sukuk are backed by the central government thus they are deemed to have a low credit risk.

Market risk: This is the risk of price fluctuation and is impacted by the demand and supply of bonds in the market.

Interest rate risk: This is the risk of price fluctuation due to changes in interest rate where a rise in interest rates will result in the lowering of the price of bonds.

Bond features (call or conversion)

Investors need to identify if their bonds have the additional feature of a call provision or a convertibility feature.

A “callable” bond means that the Issuer is able to redeem the bond before the maturity date at a price that is either fixed or based on a formula set out in the terms when the bond was issued. The “call price” is generally a small premium over the bond’s nominal value.

A convertible bond enables the investor to convert the bond into another security, typically an ordinary share, within a specified time period. The number of shares the investor will get will depend on the ‘conversion price’ as determined in the terms of the bond.

Tax status

In Malaysia, there is a tax exemption on interest earned by individuals investing in bonds.

Yield to maturity

It takes into account the current coupon income and any capital gain or loss that the investor will get by holding the bond to maturity

Trustee

 

A financial organisation that has been given fiduciary powers to ensure obligation of the bond contract is met between the bond issuer and the bondholder. They act in the interest of the bondholder

 

Guarantee

 

The government, commercial or holding company that will act as a guarantor for the bond issuer in case of a default.

 

Making an Informed Investment Decision and Monitoring Your Investment

As an investor you should not make a decision to invest unless you have read and understood the prospectus. The prospectus is an important document as it will contain all the salient information on the bonds or sukuk issued to you, including the principal terms and conditions and risk factors related to the issuance. Therefore it is in your interest to ask for a copy of the prospectus.

 

Investors should be proactive in monitoring their investment. In this regard, you should regularly check for disclosures issued by the issuer and monitor any news reports relating to the issuance or the issuer. Where the issuer is a public listed company, you may also find more detailed information on Bursa Malaysia (www.bursamalaysia.com) and on the company's website.

Conclusion

 

The Malaysian Capital Market has an extensive range of investment products, all with varying degrees of risks and returns to cater different types of investors. As a potential investor, always be mindful of your own risk appetite and investment goals and never invest in an investment product that you do not understand. Lastly, make only informed investment decisions by first learning and understanding the products carefully.

 

Brought to you by Securities Commission Malaysia, as part of its ongoing efforts to create well-informed and savvy investors in the capital market. The information provided in this article is only for educational purposes and should not be used as a substitute for legal or other professional advice. For more information, log on to www.investsmartsc.my, call 03-62048888 or visit our Facebook page at www.facebook.com/InvestSmartSC

© Securities Commission Malaysia (SC). Considerable care has been taken to ensure that the information contained here is accurate at the date of publication. However no representation or warranty, express or implied, is made to its accuracy or completeness. The SC therefore accepts no liability for any loss arising, whether direct or indirect, caused by the use of any part of the information provided. The information provided is for educational purposes only and should not be regarded as an offer or a solicitation of an offer for investment or used as a substitute for legal or other professional advice. For enquiries regarding sharing, republishing or redistributing this content please write to: [email protected].

The Pros and Cons of Buying Bonds

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 Was James Bond a bond investor too?

 

Was James Bond a bond investor too?

 

In the world of investing, there is a perception among the general public that bonds are not as appealing as stocks or unit trust funds. However, as any smart investor will tell you, bonds can be a crucial part of your investment portfolio. If you invest in a high quality bond, you will discover that potentially, they can provide a steady income stream and at a fixed coupon (interest) rate. By the end of this article, you will be able to identify the pros and cons of bond investing. In Malaysia, most investors seem to be more familiar with the term “bond fund” or “bond unit trust fund”.

 

 

 

 

 

 

 

What is a bond?

When you are in need of a large sum of money, one of the easiest ways to fulfill your fund is by taking up a loan. Huge companies (and even the government too) sometimes need to take loans to fund their projects and ambitions but the funds they need usually out scale the amount that banks are able to offer. So the best way for them to gather their funds is by issuing bonds for the public.

A bond is a certificate or security showing that the investor has loaned funds to a company or to a government in return for fixed future interest income and repayment of principal.

Investors such as you will then lend these companies money by purchasing the issued bonds, and after a certain period, the company will pay back the amount borrowed. While waiting for the end of that period, the company will regularly pay you interest at a predetermined interest rate also referred to as coupon.

Some of the corporate bonds (in the form of loan stocks) in Malaysia are listed on Bursa Malaysia. However, most of these instruments are issued on a private placement basis and are traded on the over-the-counter basis. As these bonds are issued without prospectus, the intruments could only be issued or offered to a restricted list of investors as specified under the CMSA. For instance, such bonds could only be offered to individual investors with high networth of RM3 million or above.

Take note that when an investor buys a bond, he/she becomes a creditor of the issuer. However, the buyer does not gain any kind of ownership rights to the issuer, unlike equity investments.


 

 

 

So should I consider a bond investment?

  • Bonds are a good option to consider if you need a steady and relatively dependable source of income. Bonds are also something to consider including in your retirement fund or plan because they provide a regular interest payments for you to live on.

If approaching retirement age, perhaps you could consider diversifying your investments by switching some assets from higher risk equity investments (e.g. stocks) into bonds. The general rule here is that unless you can afford to, you would probably want to reduce your investment risk as you approach retirement.

© Securities Commission Malaysia (SC). Considerable care has been taken to ensure that the information contained here is accurate at the date of publication. However no representation or warranty, express or implied, is made to its accuracy or completeness. The SC therefore accepts no liability for any loss arising, whether direct or indirect, caused by the use of any part of the information provided. The information provided is for educational purposes only and should not be regarded as an offer or a solicitation of an offer for investment or used as a substitute for legal or other professional advice. For enquiries regarding sharing, republishing or redistributing this content please write to: [email protected].

Investing in Bonds

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Malaysian retail investors have never actively participated in bond investing.

Malaysian retail investors have never actively participated in bond investing. Some of you may have bought bond funds offered by the unit trusts, however, most of you may not know what a bond investment is really about and the effect of it has on your investment portfolio.

So then….What is a bond?
A bond represents the debt owed by either government units or corporations. By investing in bonds, you basically become the lender to the issuers and you will be paid a specified percentage of interest. This percentage of interest is called coupon payment, and it is given to you by the issuer because of the use of your money. At the end of the maturity date, you will get back your principal. An example to quote is the Bond Simpanan Merdeka 2008 issued by Bank Negara for the senior citizens, which has a 3-year tenure and pays 5% interest per year.

In Malaysia, the main issuers of public debt are the Government of Malaysia, the central bank (Bank Negara Malaysia), and quasi government institutions (Khazanah, Danamodal and Danaharta). Private debt securities and asset-backed securities are issued by the National Mortgage Corporation (Cagamas Berhad), financial institutions and non-financial corporations. The major investors in Malaysian Bond market are the Employees Provident Fund (EPF), pension funds, insurance companies and other financial institutions.

The price of a bond is determined by many factors, with the main drivers being interest rates, inflation, maturity and credit quality.

* Interest rates
Bonds are highly sensitive to interest rate fluctuation. When the prevailing interest rate goes up higher than the coupon rate, the prices of the outstanding bonds will fall below the principal value. If you are buying a bond fund, higher interest rates will cause lower fund prices.

* Inflation
During periods of rapid economic growth, we will see increasing inflation. This  will eventually lead to higher interest rate and  cause a drop in the value of bonds.

* Maturity
Due to the sensitivities to inflation and interest rate fluctuation, longer term bonds will face more uncertainties compared to shorter term bonds. As such,  longer term bonds should offer better interest payment as the additional risk premium for the investors. Nevertheless, it will suffer higher price fluctuation as a result of the longer period it takes to mature.

* Credit quality
When we lend out our money, we would want to make sure that we will be able to get it back. Therefore, the credibility or credit quality of the bond issuers plays an important role in the bond price. A corporate bond will have higher yield than a government guaranteed bond, due to the additional risk that the investor has to bear for facing the possibility of the corporate bond getting defaulted. The recent global financial crisis was partly attributed to the decline in credit quality for certain corporate bonds.

Why invest in bonds?
Investing in bonds offers an alternative to investors to diversify their investment portfolios due to its nature of having relatively lower risk compared to stock investing.  As bonds provide periodic interest payment and repayment of principal at the end of the maturity, it will be suitable for you if your investment objective is to preserve capital and receive a predictable stream of income. Depending on your investment time horizon, you can choose to invest in short, medium or long term bonds. However, you must understand the factors that drive the price of the bond that you invest in.

As retailers, most of the time we will be investing in bond funds offered by some unit trusts or commercial banks. Bond funds are combinations of various bonds, therefore, the risk of investing in bond funds is relatively lower compared to individual bonds. However, you must take note of the factors listed above while selecting an appropriate bond fund. In addition, you will also need to know about the fund management companies  and make sure that the approaches they take are suitable for your risk profile and investment objectives. The timing of investing in bond funds is also very important.

What to watch out for when investing in bonds?:

  • Watch out for the  interest rates especially if it is too  low or unstable.
  • Avoid speculative bonds. Even when you are investing in bond funds, make sure that the bonds in the portfolio are investment grade, which carries a credit rating of BBB and above. Bonds with rating of BB and below are considered ‘high yield’ and below investment grade.
  • Don’t invest a large portion of your portfolio in bonds. It will limit your portfolio growth, as over time, inflation will erode the fixed income stream and principal. Bonds are suitable to complement stock investing.

© Securities Commission Malaysia (SC). Considerable care has been taken to ensure that the information contained here is accurate at the date of publication. However no representation or warranty, express or implied, is made to its accuracy or completeness. The SC therefore accepts no liability for any loss arising, whether direct or indirect, caused by the use of any part of the information provided. The information provided is for educational purposes only and should not be regarded as an offer or a solicitation of an offer for investment or used as a substitute for legal or other professional advice. For enquiries regarding sharing, republishing or redistributing this content please write to: [email protected].