Bond Trading - Risks

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All bonds are subject to risk. When you invest in bonds, bond funds and other securities, you face the risk that you might lose money. You need to understand the risks associated with investing as well as to firmly identify your personal risk tolerance level prior to investing in bonds, bond funds or other securities. The following table includes some of the most common risk factors to be aware of with respect to investing in bonds and bond funds.

This is the risk that changes in interest rates—in the U.S. or other world markets—may reduce, or increase, the market value of a bond you hold. Interest rate risk increases the longer you hold a bond.

This is the risk that a bond may be "called away" or redeemed by an issuer when interest rates are falling (similar to when a homeowner seeks to refinance a mortgage). This is a risk for bonds that include a call provision or are “callable.” Investors can avoid call risk by purchasing non-callable bonds. Call risk also leads to reinvestment risk (see below).

This is the risk that a bond issuer will fail to make interest payments or to pay back your principal when your bond matures. Other than U.S. Treasury securities, which are generally deemed to be free of default risk, most bonds face some degree of credit risk, which is often indicated by a bond’s credit rating. You can research and compare bond credit ratings through nationally recognized statistical rating organizations (NRSROs).

This risk is associated with the sensitivity of a bond’s price to a 1 percent change in interest rates. Duration, which is stated in years, signals how much the price of your bond investment is likely to fluctuate when there’s an up or down movement in interest rates. The higher the duration number, the more sensitive your bond investment will be to changes in interest rates.

This is the risk that the yield on a bond will not keep pace with purchasing power. For instance, if you buy a five-year bond in which you can realize a coupon rate of 5 percent but the rate of inflation is 8 percent, the purchasing power of your bond interest has declined. All bonds but those that adjust for inflation, such as TIPS, expose you to some degree of inflation risk.

This is the risk that you won’t be easily able to find a buyer for a bond you need to sell. A sign of liquidity, or lack of it, is the general level of trading activity. A bond that’s traded frequently is considerably more liquid than one which only shows trading activity intermittently. You can check corporate bond trading activity—and thus liquidity—with FINRA's Market Data Center.

This is the risk that a better opportunity will come around that you may be unable to act upon. The longer the term of your bond, the greater the chance that a more attractive investment opportunity will become available, or that any number of other factors may occur that negatively impact your investment. This also is referred to as holding period risk.

Some bonds (often including those issued by industrial and utility companies) contain sinking fund provisions, which require a bond issuer to retire a certain number of bonds periodically. This can be accomplished in a variety of ways, including through purchases in the secondary market or forced purchases directly from bondholders at a predetermined price. That latter method is referred to as refunding risk. Refunding risk also leads to reinvestment risk (see below).

This is the risk that no available investments will be able to provide a similar return to a bond that has been called or mandatorily refunded.

This is the risk that than an event, such as a merger, acquisition, leveraged buyout, major corporate restructuring or other event might result in changes in a company's financial health and prospects, which might trigger a change in a bond's rating. Event risk is extremely hard to anticipate and might have a dramatic and negative impact on bonds.

A country's unique set of risks is known collectively as sovereign risk. A nation's unique political, cultural, environmental and economic characteristics are all facets of sovereign risk. Default risk is real in emerging markets, where the sovereign risk (such as political instability) could result in the country defaulting on its debt.

This is the risk that a change in the exchange rate between the currency in which your bond is issued—euros, say—and the U.S. dollar can increase or decrease your investment return. The impact of currency risk can be dramatic. It can turn a gain in local currency into a loss in U.S. dollars, or it can change a loss in local currency into a gain in U.S. dollars.

All investing involves risk, including the possible loss of principal, and there can be no assurance that any investment strategy will be successful. 

Brokerage products are NOT FDIC insured or bank guaranteed and may lose value.

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31 countries include both countries and territories.

(6) Credit Interest Rates: Restrictions apply. See additional information on interest rates. Credit interest rate as of October 3, 2024 .

(6) Margin Interest Rates:Restrictions apply. Annual Percentage Rate (APR) on USD margin loan balances for PT Pro as of October 3, 2024. Place Trade calculates the interest charged on margin loans using the applicable rates for each interest rate tier listed on its website. Learn more about margin loan rates.