Bonds follow a clear structure: capital is lent to an issuer, interest is paid through coupons, and the principal is repaid at maturity. But when investing in bonds, how those bonds behave in an investment portfolio depends on more than the basic mechanics.
Questions to ask when investing in bonds
→ Should a bond be held until maturity, or sold earlier?
→ Is it better to focus on short-term bonds or longer maturities?
→ How do bonds compare with cash, savings accounts, or bank deposits?
These decisions influence bond performance and the role bonds play in a diversified investment portfolio.
Disclaimer
This is a marketing communication and in no way should be viewed as investment research, investment advice, or recommendation to invest. The value of your investment can go up as well as down. Past performance of financial instruments does not guarantee future returns. Investing in financial instruments involves risk; before investing, consider your knowledge, experience, financial situation, and investment objectives.
In this guide to bonds
- Popular approaches to investing in bonds
- How bond trading works
- Diversifying with bonds
- Manual, automated, or bond ETFs
- How bonds compare to cash, savings accounts, and bank deposits
- Evaluating bond performance
- Building a bond allocation in practice
Common approaches to investing in bonds
There is no single way to invest in bonds. The right approach depends on an investor’s objectives, risk tolerance, and how actively you want to manage your investment portfolio.
Three decisions shape most bond allocations:
- Maturity – how long capital is committed
- Credit quality – the level of credit risk an investor accepts
- Investment portfolio structure – how bonds are combined within the allocation
Maturity: short term vs long term
Maturity influences how bonds behave within an investment portfolio. Short-term bonds typically return capital sooner and are less sensitive to interest rate changes. Long-term bonds tend to offer higher yields but show greater price volatility when rates move.
Choosing between a long term vs short term investment horizon therefore affects both return expectations and interest rate exposure.
Short-term bonds | Long-term bonds | |
Maturity | Under 3 years | Over 10 years |
Rate sensitivity (fixed-rate) | Lower | Higher |
Rate sensitivity (floating-rate) | Lower | Lower |
Yield | Generally lower | Generally higher |
Capital access | Sooner | Later |
How bond trading works
Bonds trade in 2 markets:
- Primary market
New bonds are issued and sold to investors. The issuer sets the terms, including the coupon, maturity, and face value. Investors purchase the bond at the original issue price.
- Secondary market
Existing bonds are bought and sold between investors. Prices change based on interest rates, credit quality, and broader market conditions.
Most bond trading takes place in the secondary market. Unlike stocks, which trade on centralized exchanges with visible prices, bonds usually trade over the counter (OTC). This means transactions take place directly between buyers and sellers, often through intermediaries such as banks, brokers, and electronic trading platforms. Pricing transparency and liquidity can vary as a result.
Another concept in bond trading is the bid-ask spread. This is the difference between the price buyers are willing to pay and the price sellers are willing to accept.
Liquidity differs in the bond market:
- Government bonds usually trade with narrow spreads and high liquidity
- Corporate bonds may trade with wider spreads
- Bonds from smaller issuers may take longer to sell at a desired price
Several factors influence how bonds trade in practice. As a brief refresher, three of the most important are outlined below:
Interest rates
Rising rates generally push existing bond prices lower. Falling rates often increase their value.
Credit events
Downgrades or rising default risk could widen spreads and reduce liquidity.
Market conditions
During periods of market stress, liquidity could decline and spreads could widen.
Bonds as a diversification tool
Bonds could be used to diversify an investment portfolio. Their behaviour could differ from other investments, especially during periods of market volatility.
During equity market downturns, investment-grade government bonds have historically held their value or appreciated, as capital shifts toward lower-risk assets in periods of stress. High-yield corporate bonds do not always follow the same pattern. Their relationship with equities strengthens during market stress, which means they can decline alongside stocks rather than offsetting losses.
This difference in behaviour is known as correlation. Assets that move differently from each other could reduce overall investment portfolio volatility when combined.
But not all bonds diversify an investment portfolio in the same way.
Government bonds from stable economies typically carry lower credit risk and behave more defensively when markets are volatile.
Corporate bonds, particularly high-yield bonds, often show a stronger relationship with equity markets. Their behaviour during downturns might therefore differ from that of government bonds.
Are bonds good for diversification? The answer depends on which bonds are included, how they are combined, and what role they play within the investment portfolio. Ultimately, it depends on the investor and their objectives.
Manual, automated, and bond ETF investing
How an investor holds bonds shapes the experience as much as which bonds they hold.
Investors could choose between 3 approaches. Each offers a different balance between control, convenience, and diversification.
- Manual bond investing
- Automated bond investing
- Bond ETFs
Manual bond investing
Approach: Selecting and purchasing individual bonds directly.
How it works: The investor chooses which issuers, maturities, and credit profiles to include in the investment portfolio. Each bond is selected individually and becomes part of the overall allocation.
Key advantage: Full visibility and control. Investors know exactly which bonds they hold, when each bond matures, and what coupon income to expect.
What to consider: Building a diversified bond investment portfolio requires research, access to multiple issuers, and enough capital to spread investments across several bonds.
Automated bond investing
Approach: Investing in bonds through an automated investment portfolio.
How it works: The investor sets parameters such as risk level, maturity range, or target yield. The investment platform then allocates capital according to those settings and maintains the investment portfolio.
Key advantage: Convenience. Investors gain exposure to a diversified bond allocation without selecting individual bonds.
What to consider: Investors have less control over which specific bonds are held at any given time.
Bond ETFs
Approach: Investing in a fund that holds a portfolio of bonds.
How it works: A bond ETF pools capital from many investors and invests it across a broad range of bonds. The fund trades on an exchange, similar to a stock.
Key advantage: Instant diversification and easy access to the bond market through a single investment.
What to consider: Bond ETFs do not have a fixed maturity date. The underlying bonds mature and are replaced over time, which means income distributions and investment portfolio composition could change.
Comparing the approaches
Manual investing | Automated investing | Bond ETFs | |
Control | Full control over bond selection | Rules-based allocation | Limited control |
Diversification | Depends on number of bonds held | Built into the investment portfolio | Built into the fund |
Minimum investment | Varies by issuer | Generally low | Generally low |
Income predictability | High if held to maturity | High if based on fixed-coupon bonds | Varies with fund composition |
Effort required | High | Low | Low |
Fixed maturity | Yes | Yes | No |
Bonds vs cash, savings accounts, and bank deposits
Investors building a low-risk investment portfolio might compare bonds with familiar alternatives such as cash, savings accounts, and bank deposits. Each option serves a different purpose and behaves differently depending on the market environment.
Bonds vs cash
Cash is the most liquid asset an investor can hold. It has no maturity date and can be accessed immediately. For many investors, it serves as the baseline when comparing other investments.
The main limitation of cash is return. In low interest rate environments, cash held in current accounts or money market instruments often generates minimal income. Even when rates are higher, the return on cash may remain lower than the yield available from bonds issued by creditworthy borrowers.
The comparison between bonds vs cash becomes especially relevant during periods of inflation. If inflation rises above the return on cash, purchasing power declines. Bonds with fixed coupons could provide income over a defined period, which may help preserve value when inflation is elevated.
Liquidity remains an important difference. Cash is immediately available, while selling a bond before maturity may depend on market demand.
Bonds vs savings accounts
Savings accounts sit between cash and market-based investments. They are widely used, offer predictable interest payments, and are protected by deposit guarantee schemes up to defined limits.
The key difference when comparing bonds vs savings accounts is how interest rates are set. Savings account rates are determined by the bank and change at any time. A fixed-rate bond locks in a coupon at issuance for the life of the bond.
In a falling rate environment, this difference becomes important. A bond purchased when yields are higher continues paying the same coupon even if savings account rates decline.
Access to funds also differs. Savings accounts usually allow withdrawals on demand or with short notice. Bonds require either holding to maturity or selling on the secondary market, where the price depends on market conditions.
Bonds vs bank deposits
Bank deposits are among the most protected financial instruments available to retail investors. In the European Union, deposits are covered by the Deposit Guarantee Scheme up to €100,000 per depositor per institution.
When comparing bonds vs bank deposits, the main difference is the type of protection. Bond investors lend capital to the issuer and become creditors. Depositors place funds with a bank and benefit from deposit protection schemes.
If a bond issuer defaults, recovery depends on the bond’s seniority, available assets, and the outcome of any restructuring process. Deposits covered by the guarantee scheme are protected up to the specified limit, though access may be restricted or delayed during the resolution process, and certain deposit types may have fixed terms that limit early withdrawal.
Evaluating bond performance
Bond performance cannot be captured by a single number.
The starting point is yield to maturity (YTM).
YTM reflects the total annualised return if the bond is held until maturity, accounting for both coupon income and any gain or loss from buying at a price different from face value. It is the most complete single measure of what a bond is actually returning, as opposed to what its coupon rate suggests.
Beyond YTM, experienced investors look at:
Total return
The combination of coupon income and price movement over a given period, relevant for investors who may sell before maturity
Credit spread movement
Whether the gap between a bond’s yield and a comparable government bond has widened or tightened, which signals changing market perception of the issuer’s creditworthiness
Real return
The return after adjusting for inflation, which determines whether the bond is actually growing purchasing power or merely preserving it
Benchmark comparison
How the bond or investment portfolio is performing relative to a relevant index, such as a corporate bond index for the same credit rating and maturity range
Market conditions influence all of these measures. During periods of rising interest rates, bond prices may decline even if the issuer remains financially stable. Understanding the difference between market-driven price changes and issuer-related risks is an important part of evaluating bond performance.
Building a bond allocation in practice
When evaluating an investment marketplace or platform for bond investing, a few factors often matter most:
- Range of issuers and maturities available
- Transparency around credit quality and bond documentation
- Access to a secondary market
- The regulatory framework governing the platform
Mintos is a regulated investment platform licensed by Latvijas Banka that gives retail investors access to high-yield corporate bonds.
✓ Invest your way: Hand-pick individual bonds or, if suitable, let an automated High-Yield Bonds portfolio do the work for you
✓ Fixed income from €50: You could start earning scheduled returns with a low minimum investment
✓ Bonds from 40+ different issuers available: Diversify across industries and companies
✓ Flexible access: Sell on the Secondary Market or request a cash out at any time, subject to demand
The bond market is more accessible than it has ever been. Discover how to get started on Mintos.
Frequently asked questions about bonds
What is the difference between investing in bonds long term vs short term?
Short-term bonds, typically under 3 years, are less sensitive to interest rate changes and return capital sooner. Long-term bonds often offer higher yields but could experience greater price volatility. When investing in bonds, the right choice depends on income needs, risk tolerance, and the interest rate environment.
How does bond trading work in practice?
Bonds are issued in the primary market and later traded between investors in the secondary market. Unlike stocks, most bond trading happens over the counter, where prices are negotiated directly between buyers and sellers.
Are bonds good for diversification?
Bonds could support diversification because they often behave differently from equities. The diversification effect depends on the types of bonds held and how they are combined with other assets in an investment portfolio.
What is a bond ETF and how does it differ from holding individual bonds?
A bond ETF pools capital across many bonds and trades on an exchange like a stock. Individual bonds have fixed coupons and defined maturity dates, while bond ETFs continuously replace bonds as they mature.
How do bonds vs savings accounts compare in a low rate environment?
When comparing bonds vs savings accounts, the main difference is rate stability. Savings account rates could change at any time, while a fixed-rate bond locks in its coupon for the life of the bond.
Are bonds safer than bank deposits?
When comparing bonds vs bank deposits, the key difference is protection. Bank deposits in the EU are covered by the Deposit Guarantee Scheme up to €100 000, while bonds depend on the issuer’s ability to repay.
What drives bond performance over time?
Bond performance is influenced by coupon income, interest rate changes, credit risk, and inflation. Yield to maturity helps estimate expected returns if the bond is held until maturity.
Developed by the Mintos Content Team, making investment knowledge accessible for everyday investors across Europe.
