Question

Blake and his housemates started an investment club, and it has been going well. So far, Brett has presented a pharmaceutical company with the potential of hitting it big with a drug that is about ready to go to market after clinical trials. Peter has presented a new sushi fast-food chain that is going public in order to expand throughout the United States.

Leigh is ready to present her recommendation to the group but is hesitant. Leigh’s concern is that she wants the investment club to diversify and buy bonds. She knows they are not as exciting as the stock options Peter and Brett have presented, but she wants something less risky. Leigh knows you are taking this class, so she comes to you to talk about bonds.

What advice would you give her to convince her fellow investment club members to buy bonds?

Answer 1

The first thing to ensure is that whether the club partnership agreement & bylaws allow bond investing & if the club agrees on both investment strategy & investment horizon.

Leigh can suggest the members that the US treasury securities is considered to be the easiest place to learn about investing in bonds. The interest rate on these securities is based on a risk free rate plus an inflationary premium that is based on inflationary expectation over the life of the security.

If the club members feel that interest rates continue to be lower, then they can buy long maturity bonds that can increase the potential profit. This can be a compromise to ladder a bond portfolio.

Leigh can suggest the group members with the following choices that are available:

• Callable bonds allow the issuer to shift some of the interest rate risk to the callable investor. Treasurers don't like being long and wrong either -- only in their case they're trying not to issue long-term notes in a declining interest rate environment. The call feature allows them to retire the notes after the call protection period has expired and replace them with debt with a lower coupon interest rate.
• Convertible bonds are another possible investment. These bonds can be converted into shares of common stock if the stock price appreciates enough for the company to justify conversion. From an investment club perspective these bonds give the club equity participation in successful business ventures while providing some fixed level of return.

The above information can make the club members to agree for investing in bonds.