What are government bonds and what are the main risks associated with them?

Government bonds are debt issued by the government of a country.

They are considered low-risk insofar as the chances of default (guaranteed by the country concerned), in the terms and payments assumed, are considered almost zero, especially for countries with high credit ratings.

Sovereign bonds are seen as an appropriate instrument to diversify equity portfolios and reduce volatility, as well as insurance against negative events or market crashes.

One of the biggest risks associated with government bonds is related to interest rate hikes by central banks.

Traditionally, the price of government bonds has moved in the opposite direction to base interest rates.

The depreciation of government bonds (as interest rates rise) may result in investors realizing capital losses if they sell their bond holdings before maturity.

Government bonds also carry reinvestment risk, which means that investors may not be able to reinvest their funds at the same rates at which they purchased them when the bonds mature.

This has a negative impact on the returns of those investing in them.

And perhaps one of the least talked about risks associated with government bonds is their opportunity cost. It is the cost of not being able to invest in other, higher-yielding, or attractive assets because you have invested in government bonds.

While, on the face of it, this may be a sought-after effect (diversification and reducing exposure to volatile markets), sometimes negative factors such as rising interest rates can either block investments in government securities for a long time to avoid taking losses (holding them to maturity) or cause investors to sell them at a not particularly opportune time.

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