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Bonds are common investment vehicles that are used to guard against the turbulent ups and down nature of the stock market. This investment vehicle is often considered safer, however, the maturity takes a longer period of time, an investor is typically locked into the investment and the returns are often smaller than other forms of investments. A bond is a debt investment in which an investor loans money to a corporate or governmental entity who borrows the funds for a defined period of time at a fixed interest rate. Bonds are used by cities, states, federal and foreign governments as well as private companies to finance an assortment of projects and activities.

Municipal Bonds

Municipal Bonds use mutual funds to invest in city or municipal bonds or "munis." These bonds are debt securities issued by a special purpose district (public school, airport, etc.), county, municipality or state to finance capital expenditures. These bonds are exempt from federal taxes and are generally exempt from state taxes for residents of the state in which they are issued.

U.S. Savings Bonds

A U.S. government savings bond offers a fixed interest rate over a fixed period of time. These bonds are attractive because they are not subject to state or local income taxes. These bonds cannot be easily transferred and are non-negotiable. Another important attribute is that they are the safest investment type, regardless of the asset class. The safety is evidenced by the full-faith backing and endorsement of the federal government and, therefore, is virtually risk-free. U.S. savings bonds do not earn a comparable rate of interest compared with investments in the stock market, however, they do offer a less volatile source of income.

Investment-linked savings bonds

Investment-linked savings bonds are U.S. government-issued debt securities, similar to regular U.S. savings bonds, except they offer investors inflationary protection because yields are directly tied to the rates of inflation. These bonds are provided directly from the U.S. Treasury. As compared with other investment vehicles (stocks, real estate and others), these debt securities offer an exceptionally lower level of risk that is most suitable for investors who are extremely risk-averse. Investment-linked savings bonds have virtually zero default risk and inflationary risk.

High-Yield Bond or “Junk” Bond

Converse to investment-linked savings bonds, high-yield bonds pay exceptionally higher returns but are offered by government or corporations that have less than stellar credit ratings. These bonds pay a higher rate of return or ‘yield’ because there is a higher potential for the government or corporation to default. Junk bonds carry credit ratings of 'BBB' or lower from S&P and 'Baa' or lower from Moody's.

Collateralized Bond Obligations (CBO)

Collateralized Bond Obligations (CBOs) are investment-grade bonds backed by a pool of junk bonds. Junk bonds are typically not investment grade, but because they pool several types of credit quality bonds together, they offer enough diversification to be "investment grade." This is the investment vehicle is similar to those that caused much of the subprime trouble that low credit score consumers previous and continue to experience. This situation transpired because mortgages of low creditworthy consumers were pooled together and sold to private investors, investment bankers and sovereign wealth funds, among others. The belief was that because of the ‘pooling’ effect, there would a lower level of risk and significantly higher returns since the cost to the credit-challenged consumer was significantly higher than those with good or fair credit.