A couple of bad quarters or a punishing one-time event can force rating agencies to reconsider the credit-worthiness of a borrower. Should even a single notch be chipped from an issuer, its bonds will take a significant hit. (Learn more about corporate and personal credit scoring in What Is A Corporate Credit Rating? and Consumer Credit Report: What’s On It .)

When companies are merged or bought out, go private — or public — the entire capital structure of the former corporate entity can also change overnight. Changes in corporate structure could leave bondholders facing everything from a steep loss in bond value to a big, fat nothing on their investment. Keep an eye on the following factors:

For the most part, fixed-income products trade over the counter. meaning there’s not always a lot of visibility in certain issues. You will not have access to all the relevant pricing information — specifically, information about the all-important bid/ask spread. If the spread is particularly wide, you could run into trouble.

For example, you might buy ABC Company’s bond for 96 when its bid/ask spread was 88/96 and then sell it a month later when it had appreciated and the bid/ask was 95/103 — but your sell price at 95 is still a point less than your purchase price. Illiquidity means your call was right, but you lost where it counted. (For further reading on liquidity risk, see Options Hazards That Can Bruise Your Portfolio .)

2. Inflation

Your next opportunity to lose money comes from inflation. Very briefly, if you’re earning 5% per year in your fixed-income portfolio, and inflation is running at 6%, you’re losing money. It’s as simple as that. (For further reading, check out Coping With Inflation Risk and Curbing The Effects Of Inflation .)

3. Inflation-Indexed Bonds Or TIPS

Here’s one that not so many investors are familiar with. Treasury inflation protected securities (TIPS) (called real return bonds for Canadian investors) are supposed to be the answer to that inflation issue. Unfortunately, there are still three distinct ways to lose money on these investments.

This is not an everyday occurrence but certainly a possibility. Because of the way values on TIPS are calculated, an extended period of deflation could return you less cash on maturity than you originally invested. Your purchasing power might be intact, but you would emerge with less than a regular bond would have paid you. (To learn more about deflation, read What does deflation mean to investors? )

Changes in the calculation of the Consumer Price Index (CPI) could also bring losses. Again, not a daily occurrence, but it has been done and new methods of calculation are regularly being tested and promoted to result in a reduction in your TIPS’ value. (Read about the differing opinions on how to calculate inflation in The Consumer Price Index Controversy .)

Finally, TIPS are taxed on both the yield and capital-appreciation (CPI-linked) portions of the bond. It’s quite possible that high bouts of inflation would trigger significant tax bills that would render the bond’s real yield lower than the rate of inflation. Tax-sheltered accounts are therefore best for holding these instruments. (Tax Tips For The Individual Investor can help you keep more of your money in your pocket.)

Losses in funds are more commonly the result of overly aggressive managers chasing after yield from lower-quality issues — which then default. (Read more about whether you should trust your fund manager in Is Your Mutual Fund Safe? and Should You Follow Your Fund Manager? )

The exchange rate between your foreign bond issuing nation and your own takes a turn for the worse. You will very quickly lose (a lot) of money. Same goes for rising interest rates in that foreign country. Bond laws are universal: the price of your bond will drop as rates rise. (Read more about foreign exchange in Floating And Fixed Exchange Rates .)

Some friendly foreign-bond-issuing nations have not-so-friendly tax regimes. You may end up with a lot less once the local (foreign) tax man bites. If you come away with lower yields than inflation, again, you lose.

If you’re searching for yield in far-off lands, chances are you’ll encounter some with cultures that are unlike our own. In some of them, the government legally takes over businesses by decree. When this happens, you will realize you’re not in Kansas anymore — and you will experience firsthand how rating agencies feel about the issue. (Read about one instance of national restructuring in State-Run Economies: From Public To Private .)