If you're an investor, you may use a savings or money market account to earn interest, or to purchase a portfolio of bonds. Consider these strategies to increase the amount of interest earnings in your portfolio. Following these tips can increase your earnings and generate higher returns.
Compounding Interest
If you can reinvest interest payments earned on a bond, you can benefit from compounding interest. This means that you earn interest on both your original investment and on prior interest payments. Over time, your total interest earned can be much higher if you can use compounding.
Assume, for example, that you own a $1,000 corporate bond that pays 5%, or $50, interest annually. If you reinvest the annual $50 payment in a similar 5% bond, you would earn an additional $2.50 at the end of the next year. You can use compounding to reinvest the $52.50 total at 5% and accumulate even more interest.
If you can reinvest your earnings, this strategy is an effective way to earn additional interest.
Laddering Bond Maturities
Bond laddering allows you to reinvest the proceeds from bond maturities every few years. The bonds are laddered because they have different maturity dates. This strategy means that some bonds in the portfolio mature every few years. The proceeds from each maturing bond are reinvested at current interest rates.
A portfolio that takes advantage of laddered maturities can reduce interest rate risk on your investments. This refers to the risk that the value of an investment may change as interest rates change. In an environment of increasing interest rates, the value of your bond portfolio will decline.
Assume, for example, that you buy $100,000 in corporate bonds. Every four years, $20,000 reaches the maturity date and cash is repaid to you. In the third year, assume that interest rates start to increase. When the first $20,000 matures in the fourth year, you can reinvest the proceeds at the new higher interest rates and earn more interest income.
Mutual Fund Breakpoints
If you invest in mutual funds, you may pay sales charges for investing in each fund. If you buy a bond mutual fund, you can use a breakpoint to increase your interest earnings. A breakpoint is a quantity discount that you earn by purchasing a variety of mutual funds within the same fund family. If you make your purchases within the same family, you can earn a discount on any sales charges.
Online Savings Accounts
You may be able to increase the interest you earn by using an online savings account. Some financial institutions can offer higher rates because their cost structures are lower than traditional banks. The online business model does not require physical bank locations. Because these institutions have lower fixed costs, they can offer higher savings rates and lower minimum required balances.
Other Banking Relationships
If you have a business relationship with a bank, it may be happy to negotiate a higher interest rate on your personal checking account or your personal savings account. Say, for example, that you've had a business loan at a bank for several years. Because you have an established history as a reliable customer, your banker will want to maintain a good relationship with you. Use that relationship to get a higher interest rate on your bank balances.
If you have accounts at several different banks, a banker might offer a higher interest rate if your move all of the balances into his bank. This is a strategy for the banker to gather more assets and build a relationship with you. Take advantage of this offer, and combine your balances to earn a higher interest rate.
