Not All Bonds Are Created Equal: Choosing Between Individual Bonds and Bond Funds
I was recently quoted in Newsday talking about the differences between individual bonds and bond funds. When it comes to fixed income investing, understanding the advantages and disadvantages of each type of security can go a long way towards positioning your portfolio for long-term success.
Here’s what you need to know:
- A bond fund is a collection of bonds pooled together to trade as a single security. These funds could contain bonds from a particular societal pillar (corporate vs. government), investment quality (high-yield vs. junk), sector (technology vs. oil & gas), region (U.S. vs. emerging markets) or all of the above. Typically, such funds provide broad exposure to the bond markets and are very liquid.
One commonly used method to track the health of the U.S. bond market is to follow the Barclays U.S. Aggregate bond index, which measures the performance of the U.S. investment grade bond market. The index is up nearly 5% so far this year, despite the Fed’s plans to scale back its bond-buying program (known as quantitative easing). One of the risks of holding a bond fund is that as interest rates rise, bond prices may fall. As an investor you should closely monitor the Barclays index and other market developments to determine if and when bond prices begin to fall, and then talk to a financial professional about possibly rebalancing your portfolio accordingly.
- Individual bonds, on the other hand, present a different type of investment opportunity. If you own individual bonds and hold them until maturity, the income stream remains the same, and your principal is returned to you at maturity as long as the issuer doesn’t default or call the bond. This is an important distinction because individual bonds are less likely to be impacted by market fluctuations, such as interest rate hikes.
As for types of bonds, there are plenty to choose from. U.S. Treasuries are by far the most common but there are also corporate (holding the debt of public and private companies) and municipal bonds (holding the debt of local and state governments) readily available to help round out your portfolio. These types of investments can be used to generate predictable income. Depending on their specific income needs, investors should consult their financial advisor to determine the right mix of individual bonds and/or bond funds.
The information provided is not an invitation to invest in any products or services or otherwise deal in any of these or enter into a contract with Hennion & Walsh or any other company. The information provided should not be relied upon in connection with any investment decision. You should not act upon any information contained herein without first consulting a suitably qualified financial or other professional advisor.