Bonds Explained

Bonds are a foundational element in many retirement portfolios. As fixed-income investments, they offer steady interest, capital preservation, and diversification. Whether issued by the federal government, municipalities, or corporations, bonds help reduce volatility and generate income in retirement.

All bonds pay interest over a set period and return the original principal when they mature. But they differ in their risk levels, tax treatment, and who issues them. Below, we explore the full landscape of government, municipal, and corporate bonds to help you understand how they can fit into your retirement strategy.

Basic Features of Bonds

Bonds are issued by entities—governments, cities, or corporations—to raise capital. Every bond has a “coupon rate,” or interest rate, that determines how much it pays during its term. Most are issued at “par value,” often $1,000, and mature at that value.

For example, a bond with a 6% coupon and $1,000 par value pays $60 in annual interest. Some bonds are “zero-coupon,” meaning they’re issued at a discount and pay no interest until maturity—the difference between purchase and maturity value becomes the interest earned.

Bond Values and Interest Rates

Bonds may be sold before maturity on the secondary market. When interest rates rise, the value of older bonds drops, since they pay less than new ones. When rates fall, older bonds with higher coupons become more valuable.

This interest rate sensitivity is called interest rate risk. It’s a key consideration when choosing bonds or deciding whether to sell or hold in changing rate environments.

Bond Credit Ratings

Credit agencies like Moody’s, Fitch, and S&P rate bonds based on the issuer’s financial strength. Ratings affect the interest rate a bond must offer to attract buyers.

• Investment grade: BBB/Baa or higher — lower risk, lower yield
• Junk bonds: Below BBB/Baa — higher risk, higher yield

Types of Government Bonds

U.S. government bonds are backed by the full faith and credit of the federal government and are generally considered among the safest fixed-income options. They’re typically exempt from state and local taxes.

Bond Type	Maturity	Key Features
Treasury Bills (T-Bills)	4 to 52 weeks	Sold at discount; no interest payments; mature at par
Treasury Notes (T-Notes)	2–10 years	Pay semi-annual interest; issued at $100 par
Treasury Bonds (T-Bonds)	30 years	Long-term; semi-annual interest; stable principal
Treasury STRIPS	10+ years	Zero-coupon; sold at a discount; taxed annually on imputed interest
Savings Bonds (EE & I Bonds)	20–30 years	Non-tradable; tax-deferred interest; safe for long-term savings
Treasury Inflation-Protected Securities (TIPS)	5, 10, 30 years	Principal adjusts with inflation; semi-annual interest based on CPI

Government Agency Bonds

Agency bonds are issued by U.S. government agencies (like GNMA) or government-sponsored enterprises (like Fannie Mae). Some are fully backed by the government, while others are not.

These bonds typically pay slightly higher interest than Treasury bonds and may be taxable or tax-exempt depending on the issuer. Most pay interest semi-annually and are considered less liquid than Treasuries.

Municipal Bonds Overview

Municipal bonds are issued by state and local governments to fund public projects like schools, roads, or utilities. These bonds are generally exempt from federal taxes, and sometimes state and local taxes if you reside in the issuing state.

There are two primary types of municipal bonds:

• General Obligation (GO) Bonds: Backed by the taxing power of the issuer
• Revenue Bonds: Backed by revenue from the project they fund (e.g., toll roads, stadiums)

Municipal bonds typically offer lower interest than corporate bonds but are favored by high-income investors for their tax benefits.

Corporate Bonds Overview

Corporations issue bonds to fund expansion, operations, or refinancing. These bonds generally offer higher yields than government or municipal bonds but carry more risk.

Corporate bonds are fully taxable at federal, state, and local levels. Their credit ratings and features (such as call or put options) vary widely. Lower-rated “junk” bonds offer higher returns in exchange for increased default risk.

Some corporate bonds are convertible, meaning they can be exchanged for company stock if certain conditions are met. This gives them equity-like upside while preserving bond-like structure.

Call and Put Features

Some bonds—especially municipal and corporate—include options for early redemption:

• Call Feature: Allows the issuer to repay the bond early, often when interest rates drop
• Put Feature: Gives the investor the option to sell the bond back early, typically if rates rise

These features affect pricing and flexibility, and should be evaluated when comparing bonds.

Bond Types Summary Table

Bond Type	Issuer	Risk Level	Tax Treatment
U.S. Treasuries	Federal Government	Lowest	Exempt from state/local tax
Municipal Bonds	States & Cities	Low	Usually exempt from federal tax
Corporate Bonds	Private Companies	Moderate to High	Fully taxable
Agency Bonds	Gov’t Agencies & GSEs	Low to Moderate	Varies

Bond Alternatives

While bonds can provide steady income and lower risk, they’re not your only option. Fixed and fixed index annuities offer guarantees of principal and income, backed by life insurance companies.

Annuities may offer higher income potential—particularly in low-interest environments—and can be structured to provide lifetime income.