Bond Strategies: More Income
In our aggressive bond strategy, we discussed moving down the credit quality ratings (i.e. own riskier bonds) in order to increase performance. Most of that performance would come via income because lower credit quality bonds typically pay higher interest rates. We can still stay within the “Investment Grade” rating, but perhaps we move from upper level investment grade to lower level investment grade and increase the interest income.
Another way to increase bond income is to lengthen the duration / maturities of the bonds and bond funds used in the portfolio. Longer-term bonds tend to pay higher interest than shorter-term bonds. However, they also add to credit risk (default) and interest rate risk (rate fluctuations) due to their longer time horizons.
You do see the “law of diminishing utility” at work within bond investments. At some point it just doesn’t make sense to go with lower-rated bonds and/or longer-term bonds because there is not enough of a bump in interest rates to justify it. For example, would you hold a bond for another 5 years to squeeze out an extra 0.25% of return?