Best Bond Alternatives

Bonds are typically viewed as lower-risk investments, but in today's low-interest-rate environment, they may not provide the desired returns. As a result, investors are turning to bond alternatives such as real estate investment trusts (REITs), dividend-paying stocks, and peer-to-peer lending platforms to achieve higher yields.

By diversifying their portfolios with bond alternatives, investors can mitigate risk and potentially earn higher returns than traditional bond investments. However, it is important for investors to carefully research and understand the risks associated with each alternative before making investment decisions. Consulting with a financial advisor can help investors identify the most suitable bond alternatives based on their financial goals and risk tolerance.

Continue reading to find out the 9 best bond alternatives.

What Are Bond Alternatives?

Many people invest in bonds for a low-risk, low-reward investment that can produce a steady income. A bond alternative is a similarly safe investment that has strong potential to produce modest, steady income and returns. These alternatives could be added to a portfolio instead of bonds or in addition to them.

Why Should You Consider Investing in Bond Alternatives?

For years, bonds have been considered a safe asset. They might have been low-yield, but they were safe, which is why so many investors included them in their portfolios. But bonds are susceptible to interest rate changes. As interest rates rise, bonds become a little more high-risk, high-reward.

Since the 1980s, interest rates have continuously fallen, making bonds a favorable investment. But as the Fed started raising rates in 2022 to fight inflation, bonds have become much riskier. If investors are looking for a safe, conservative investment, it may be time to allocate away from bonds.

9 Best Alternatives to Bond Funds

Bonds aren’t the only conservative investment that can balance out your portfolio. Here are nine of the best bond alternatives.

1. Real Estate Investment Trusts (REITs)

Real estate investment trusts (REITs) provide exposure to real estate in a less risky investment vehicle. They work similarly to exchange-traded funds (ETFs) or mutual funds. The REIT management company invests in one or multiple pieces of real estate and then sells shares of the portfolio to investors. REITs provide exposure to the real estate market, which can fare better in high-interest-rate environments. However, the real estate market can be risky.

2. Real Estate Crowdfunding Companies

Real estate crowdfunding is a private investment opportunity found on crowdfunding platforms that give investors exposure to real estate. When a real estate or investment professional identifies an opportunity to buy a piece of real estate but doesn’t have enough capital on their own, they may turn to crowdfunding.

Crowdfunding pools a group of investors who share the cost of the upfront payment. In return, they’ll get either a one-time or ongoing return. Like REITs, crowdfunding gives exposure to real estate, which tends to perform well during high-rate environments. However, crowdfunding may charge fees that reduce returns.

3. Fixed Annuities

A fixed annuity is a low-risk insurance contract. The investor, or annuitant, pays an insurance company a certain amount either at once or over time. The insurance company promises that the amount will earn a certain rate of interest. Then, when the annuitant elects to start receiving payments, they’ll be paid the amount they invested plus interest.

Fixed annuities are a way to receive steady income without much risk, which makes them an alternative to bonds. Because they’re so low risk, they are also low reward. They also can charge high fees.

4. Preferred Stock

Preferred stock is a category of stock where the investor does not have voting rights, but they are entitled to the first opportunity of dividends. These stocks may not have much capital appreciation, but they typically pay consistent dividends, which is why they can be an alternative to bonds. However, as a drastic measure, the company does have the right to stop issuing dividends, which can make them riskier.

5. Dividend Stocks

A dividend stock is a stock that pays dividends to investors. In addition to capital appreciation, dividend stocks pay shareholders a fraction of the company’s profits. Investors would need to have a large sum of capital invested for these dividends to become meaningful income, but they can help diversify away from bonds. However, stock markets are risky, and companies hold the right to pause or stop dividend payments.

6. Buffered or Defined-Outcome ETFs

Defined-outcome ETFs are investments with a fixed timeframe that give investors exposure to index returns. However, they tend to be safer than most ETFs because they include a built-in downside buffer. This means investors won’t get quite as large profits in return for it being a much less risky investment. These investments will pay out at the end of the fixed period, so they don’t provide consistent income like bonds, but they are a less risky investment to balance out a portfolio.

7. High-Yield Savings Accounts

Traditionally, bonds have had a slightly higher yield than most savings accounts. But with interest rates rising, a high-yield savings account may be able to balance out your portfolio. High-yield savings accounts, like money market funds, can be opened through most banks. Then, investors can allocate money toward it for it to grow with interest. These do not typically produce sizable returns, but they are favorable in high-rate environments.

8. Certificate of Deposits (CDs)

CDs, like savings accounts, can be opened at most banks. They are accounts that you allocate money to over a fixed period, ranging from a couple of months to years. They have higher interest rates than most savings accounts, producing slightly larger returns. However, investors cannot pull their money out of the account until the CD matures, making them an illiquid investment. These are extremely safe investments, however, and fare better than bonds in times of high interest rates.

9. Master Limited Partnerships (MLPs)

An MLP is a company whose ownership is a publicly-traded partnership. Investors can invest as limited partners in exchange for a share of the profits and returns. Limited partnerships will not be responsible or have a say in operations but will receive quarterly payments. This stream of income makes them a good alternative to bonds, though it’s important to note that investing in new ventures can be risky.

5 Factors to Consider When Choosing Bond Alternatives

Not every bond alternative may work for your portfolio. Here’s what you need to consider before choosing an alternative investment.

1. Saving Goals

Consider what you’re saving for. Are you saving for retirement? A large purchase? Or are you trying to grow your wealth? Understanding your goals will help you realize your savings timeframe and risk tolerance.

2. Risk Versus Reward

Bonds are typically favored because they have been traditionally low risk. Some of these alternatives are equally low risk, while others are a bit riskier. Consider your risk tolerance and whether you are in a position to take on more risk for a higher reward.

3. Funding Requirements

Some of these alternatives may only need a few dollars as an initial investment, while others will need a decent sum of capital. Consider how much you’re willing to initially invest, then look for opportunities that meet your needs.

4. Timeframe

How long are you planning to invest? If you’re only looking to invest for the short term, you’ll want to allocate capital to an investment that will give you a decent return in your timeframe. Additionally, you don’t want to tie your money up in an investment that’s timeframe is longer than your investment goals.

5. Liquidity

It’s a good idea to retain some liquidity in your portfolio, and some of these alternatives are more liquid than others. For example, stocks can be easily bought and sold, but real estate may be harder to sell. Consider your portfolio’s liquidity needs before choosing an investment.

Rebalance Your Portfolio with Bond Alternatives

Given the current economic environment, bonds may not be the best low-risk investment for your portfolio. These nine bond alternatives can provide many benefits to investors, from low-risk investments to consistent and reliable income. Evaluate your portfolio and see how these alternatives could help you expand your finances.

Frequently Asked Questions