Question

Use the three types of bond risks to explain why the U.S. government bonds are considered such a safe investment. What is the trade-off that accompanies this low risk?

Answer 1

The three types of bonds are as follows:

1. Government bonds - These bonds can be issued by national governments as well as lower levels of government. These bonds guarantee a fixed amount of money after the specified time period. They are backed by the ability of the nation to tax its citizens and to print the currency.

2. Corporate Bonds: These are the bonds issued by the corporations when they are short of cash. It may be long term or short term. It is backed by the performance of the company in terms of its profit earning capacity.

3. Asset Backed Securities: This is the type of bonds created by packaging the cash flows generated by a similar number of assets and offering them to the investors.

The government bonds has the lowest risk involved and is the safest investment because it is backed by ability of the nation to tax its citizens and to print the currency. The trade off that accompanies this low risk is the low level of returns or rate of interest in the government bonds .