The main difference between secured and unsecured bonds is collateral. Secured bonds are asset-backed whilst unsecured bonds have no security against them if the repayments fail. The presence or absence of collateral normally correlates to the level of risk associated with the investment and, therefore, the rate of return. The term ‘unsecured’ might sound negative, but both bonds have pros and cons and the potential to benefit different kinds of investors depending on their objectives.
In this post, we’ll explain the main differences between secured and unsecured bonds, and how investors can make the most of them to help meet their financial aims.
What are secured bonds?
Secured bonds are debts that are backed by an asset such as property or an alternative income stream. This means that, in the event of a default (failure to meet required payments), the lender can use the asset as collateral to repay the funds issued to the borrower.
Mortgages and car loans are some of the most common examples of secured bonds. So, if the borrower fails to meet the agreed payments, the lender is entitled to seize, in this case, the property or the vehicle to cover the owed funds. Secured bonds can often require an insurance policy to be taken out against the asset, such as building and contents or car insurance, to help protect the asset’s worth for the lender.
What are unsecured bonds?
Unlike secured bonds, unsecured bonds are not fixed to collateral. An unsecured bond is effectively issued on the grounds of trust and the borrower’s credit rating. If this fails, the lender has no financial security to rely on and, therefore, is entitled to sue the borrower for the owed payment. As these bonds are unbacked, they are considered high-risk and, therefore, tend to come with high interest rates.
One of the main examples of an unsecured bond is a personal loan, usually issued by banks. Personal loans can have fixed or variable rates with flexible repayment plans, but they are not secured against an asset if the borrower experiences difficulties with repayments. Credit cards are another form of an unsecured loan, the main difference being that you can typically borrow more money with a personal loan.
Are unsecured bonds safe?
Bonds can be highly beneficial to your investment portfolio if used correctly. The safety or potential of an unsecured bond will vary between investors as everyone’s goals and circumstances are different. Generally, the safety of any investment comes down to the level of risk you’re willing to take. Unsecured bonds can be considered volatile as they are not fixed against collateral, but whether this is deemed safe depends on the investor’s affordability to lose the funds in the event of a default. As long as an investor is aware of the risk versus reward of unsecured bonds, they can complement an investment portfolio if used carefully in conjunction with other equities and assets.
Which bonds provide better returns?
There are several ways to approach this question but, fundamentally, the suitability of the rates of return of each bond is dependent on an investor’s individual circumstances. You could consider unsecured bonds to offer “better” returns as they tend to come with higher interest rates due to the amplified risk involved, however for those who prioritise investment security over rates, you could view secured bonds as offering “better”, more reliable returns.
Government and corporate bond performance
The financial market has had its ups and down throughout this year. Bonds have experienced their fair share of the rollercoaster with even some higher-quality bonds falling by at least 10%, but industry experts continue to back the benefits of bonds and their diversification opportunities for investors.
Let’s take a look at the past performance of bond yields.
Both government and corporate bond yields have risen quickly over the course of 2021, almost reaching their highest level in five years. With Covid-19 implications reducing at that point and inflation starting to rise, global bond yields were on the up and prices started to drop, opening investment opportunities to buy low and sell high. Whilst historical performance shouldn’t be used as a future indicator, there are key learnings to take away from this data, which suggests that bonds can present significant potential under unstable economic conditions.
Bonds are typically long-haul investments with regular payments until maturity. However, some investors may opt for short-term bonds for extra flexibility. For example, the sporadic interest rate increases earlier this year caused two-year government bonds to rise from <0.1% yield in 2021 to 1.58% in April 2022, so despite some sudden turns from central banks in response to soaring inflation, short-term bonds can offer reduced sensitivity to these interest rate changes. For example, a 10-year government bond offered a yield of just under 2% earlier this year versus 0.8% at the same time in 2021, but even though the change was minimal, its value dropped much more than that of a short-term bond due to its increased sensitivity to higher interest rates.
In short, bonds still have plenty of benefits to offer the right investor in 2022. Depending on economic health and factors like your portfolio structure, financial goals, and attitude towards risk, bonds – be that secured or unsecured – can present the right investor with the right opportunities.
Pros and cons of secured and unsecured bonds
If you’re considering either investment, there are a few key differences to be aware of that could help with establishing which is more suitable for you.
The main advantage of secured bonds is security. With collateral fixed to a secured bond, risk-averse investors have the comfort of reliable returns, which means that there is a low default risk associated with secured bonds. However, their reliability can also mean lower returns, and, whilst they’re backed, there is no guarantee of payment, so bondholders could still face some losses.
On the other hand, unsecured bonds could offer higher rates of return as they’re considered a more volatile investment. These bonds also have the potential to offer a low default risk if the issuer has a good credit rating and reputation, but unsecured bonds rely solely on the issuer’s creditworthiness, which may not be suitable for investors who are looking to avoid a heavy amount of risk. Also, there is generally a high default risk due to the absence of asset backing, which can lead to bondholders facing sizeable losses if payments aren’t met.
How to generate attractive and reliable returns
Particularly in the current economic climate, many investors may be hesitant towards more volatile investment methods like unsecured bonds. However, with Propiteer Capital, there is no need to compromise as we offer reliable, asset-backed returns with the added benefit of competitive fixed rates.
With the secured Propiteer Capital Property Bond, investors have the opportunity to grow their money through our unique portfolio of desirable projects. Most importantly, we secure investors’ funds against these projects, which provides security against each investment. Funds are then spread across our diverse property development portfolio with a gross development value of over £785m, giving investors easy and convenient diversification opportunities as well as generating reliable returns.
All Propiteer Capital investment options come with fixed rates, so investors remain in control for the duration of their bond term. If our rates improve, there is a no-penalty switch option, or if our rates decline, investments stay secure at the existing rate.
To find out more about Propiteer Capital, our bond, and our bond security process, visit our website or get in touch today with a member of our team on 01376 319 000 or firstname.lastname@example.org. You can also find out more about our previous and existing development projects here.
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