Bond fund

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A bond fund is a collective investment scheme that invests in bonds and other debt securities.^[1] Bond funds typically pay periodic dividends that include interest payments on the fund's underlying securities plus periodic realized capital appreciation. Bond funds typically pay higher dividends than CDs and money market accounts. Most bond funds pay out dividends more frequently than individual bonds.^[2]

Types

Bond funds can be classified by their primary underlying assets:^[2]

• Government/Treasury: Composed primarily of treasury securities, which are the safest debt securities, as they are backed by the full faith and credit of the United States government. Due to the safety, the yields are typically low.

• Mortgage: Mortgage loans issued or guaranteed by government agencies such as the Government National Mortgage Association (Ginnie Mae), Federal Home Loan Mortgage Corp. (Freddie Mac), and Federal National Mortgage Association (Fannie Mae).

• Corporate: Bonds are issued by corporations. All corporate bonds are guaranteed by the borrowing (issuing) company, and the risk depends on the company's ability to pay the loan at maturity. Some bond funds specialize in junk bonds, which are corporate bonds carrying a higher risk, due to the potential inability of the issuer to repay the bond. Bond funds specializing in junk bonds – also known as "below investment-grade bonds" – pay higher dividends than other bond funds, with the dividend return correlating approximately with the risk.

• Municipal: Bonds issued by state and local governments and agencies are subject to certain tax preferences and are typically exempt from federal taxes. In some cases, these bonds are even exempt states or local taxes.

Bond funds may also be classified by factors such as type of yield (high income) or term (short, medium, long) or some other specialty such as zero-coupon bonds, international bonds, multisector bonds or convertible bonds.^[2]

Advantages over individual bonds

• Management:^[3] Fund managers provide dedicated management and save the individual investor from researching issuer creditworthiness, maturity, price, face value, coupon rate, yield, and countless other factors that affect bond investing.
• Diversification: Bond funds invest in many individual bonds, so that even a relatively small investment is diversified—and when an underperforming bond is just one of many bonds in a fund, its negative impact on an investor's overall portfolio is lessened.
• Automatic income reinvestment: In a fund, income from all bonds can be reinvested automatically and consistently added to the value of the fund.
• Liquidity: You can sell shares in a bond fund at any time without regard to bond maturities.

Total Return

Price charts on bond funds typically do not reflect their performance due to the lack of yield consideration. To accurately evaluate a bond fund's performance, both the share price and yield must be considered. The combination of these two indicators is known as the Total Return.^[4]

Notes

1. ^ U.S. Securities and Exchange Commission on Bond Funds
2. ^ ^{a b c} CNN Money 101 - Types of Bonds
3. ^ Calvert - Bond Fund Basics
4. ^ Fidelity - Understanding Bond Funds

See also

• Money fund
• Income fund
• Balanced fund
• Target-date fund