However, if the market interest rate instead rose to 5%, the capital value of your bond would reduce as your bond will return 2% less than the market rate on new bonds. Your bond is less attractive to buyers and you need to reduce its price to attract buyers.
To help diversify, you can invest in bonds with both the government and the corporate sector, and perhaps within Australia and overseas.
This spreads the risk of default.
In addition, you can buy various income securities with different maturities. This helps manage your reinvestment risk, whereby not all your money is maturing at once.
We explain diversification later.