- Holding a bond to maturity can make sense in many cases, but there are two significant reasons
why you might consider selling early.
One of the main reasons you bought the bond was probably for the income.
If you've been holding it for a while, the price of the bond may be higher now
than it was when you first bought it.
While it will continue to pay the same amount of income, you may want to capture the
gain now since, over time, that price will decline to its par value at maturity.
Here's an example.
As time passes, a bond you bought years ago becomes a short-term bond as it gets closer to maturity.
When the yield curve is steep, long-term yields are significantly higher than short-term yields.
With low yields, the bond will likely be priced at a premium.
If you hold the bond to maturity, it will be redeemed at its par value, which is lower than its premium price.
It might make sense to sell it before its maturity date and capture that premium.
You can then reinvest those proceeds in a new bond with a longer maturity and a higher yield.
The other reason you may want to sell before maturity is when something changes with the bond's credit risk.
Many investors I talk to have been surprised when a bond is put on "ratings watch" or even downgraded.
It's important to monitor the risk of the issuer throughout the time that you hold the bond--not just when you buy it.
Downgrades can lead to defaults, and that means potentially losing your principal and interest.
There's a common misconception that bond prices will always move down when a ratings downgrade happens.
However, often the price has already declined prior to the downgrade.
This happens because the forward-looking market is aware of the change in an issuer's financial condition.
If you're not keeping up with any signs of trouble in the bonds you own, you may find yourself making the same mistake.
Detroit is a good example, as their bonds were rated below investment grade for a little over four years
before they sought bankruptcy protection.
While many investors saw it coming, others did not.
It's important that investors don't just buy bonds and forget them.
You may not have the time to keep up with every bond you own, or you may find that you don't have the ability to keep up with all the changes in the market.
Schwab has resources to help.
For guidance that is right for you, call our bond specialists.