Bonds allow governments and companies to borrow money from investors for a fixed period of time. The issuer of the bond will agree to pay a certain level of interest periodically (the coupon) as well as returning the full capital value at a given date in the future (the maturity date).
There are 3 main risks when investing in bonds:
Bonds can provide a steady stream of income for the portfolio. Certain types of bond such as high investment grade and government bonds can also be very low risk investments helping to provide some level of certainty in returns. It is important to be aware that as a rule the lowest risk bonds generally provide the lowest level of returns. Low risk bonds can help to protect the capital value of portfolios in times of equity market stress helping to reduce the volatility in portfolio returns. Generally, the proportion of bonds held in a portfolio will decrease as you move up the risk scale.
In general, the coupons on bonds will be taxed to income and there will be no capital gains tax to pay on any rise in the capital value of a bond between it purchase and sale. However, there are some instances in which capital gains tax will apply. If you require further clarification on the tax treatment of bonds you should consult your tax advisor.
