Final answer:
Bonds carry credit risk, which refers to the possibility that an issuer may default on payments, and interest rate risk, where the bond's value can decrease if market interest rates rise, making existing bonds with lower rates less attractive.
Step-by-step explanation:
Even though bonds make predetermined payments based on a fixed rate of interest, they come with certain risks. The first risk associated with owning a bond is credit risk, which is the risk that the issuer will fail to make the promised interest payments or return the principal at maturity. If a company is in financial distress, it may default on its bonds; although bondholders can force a company into bankruptcy to recover some of their investment, recovery is not guaranteed and can result in significant losses.
The second major risk is interest rate risk. When prevailing interest rates in the economy rise, newly issued bonds will likely offer higher yields, making existing bonds with lower rates less attractive. This causes the market price of existing bonds to fall, so if an investor needs to sell the bond before maturity, they might have to do so at a price lower than they paid, potentially incurring a loss.