Investors who are looking for safe and secure investment plans, bonds can be an excellent option.
However, before making any decision, having complete knowledge about bonds like kinds of bonds, how they work, interest rates, etc. is very important.
This would help the investor in selecting the right investment plan or bonds that fulfil their investment goals.
Bonds are one of the most secure forms of investment.
It is a key player when you get an employer credit check.
In this, the investor earns a fixed interest for a particular period.
Bonds are free from any market-related risks.
At maturity, the investor gets the principal amount plus interest.
For example, corporate and government bonds.
These fall under the category of Fixed income bonds.
Besides corporate and government bonds, investors can also invest in fixed income mutual funds and exchange-traded funds.
These are called bond funds.
Before understanding the difference between bond funds and fixed income, let us discuss both kinds of bonds individually.
Why Is Fixed Income Called fixed income?
Fixed income is known as fixed income as in these kinds of investments investors earn fixed interest payments throughout the investment tenure or until the maturity date of the security investment.
At the end of the investment tenure, investors are repaid the principal amount.
Numerous kinds of fixed income investment products are available in the market.
Few examples of fixed Income products
- Municipal Bonds
- Treasury bonds and bills
- Certificates of deposits
- Corporate bonds
- Junk Bonds
- Treasury Inflation-Protected Securities
- Fixed-income ETFs
When Should You Invest in Fixed Income?
Fixed income investment is considered a conservative investment strategy.
These kinds of investments have either no or very little risk factors associated with them.
The interest earned on this investment is quite lower as compared to other investment plans.
Investors who are looking to diversify their investment portfolios.
The investor can also opt for having a fixed income portfolio.
In this, the investor can invest in a series of fixed-income bonds.
For example, by investing in several short-term fixed-income bonds investors can not only earn a steady income from these bonds, but once a bond reaches maturity the investors can reinvest the amount received in another short-term bond.
This way, the investor would keep on earning a fixed interest on the investments made without worrying about the ongoing market conditions.
The best time to invest in fixed income is during an economic downturn or when the investment goal is to earn a steady income.
What Are Bond Funds & What Are They Paying?
Mutual funds in which the investors invest their money mainly in bonds and debt securities are known as Bond Funds or Debt Fund.
Investments are made in corporate bonds, municipal bonds, Government bonds, convertible bonds, and debt securities like MBS.
In bond funds, the investor gets periodic dividends.
These dividends are comprised of interest earned on the securities along with the periodical appreciation in the capital.
In bond funds, investors earn higher dividends and that too more frequently than CDs and other fixed-income bonds.
How Bond Funds Work
A Bond Fund comprises of series of securities which is either selected by you or your portfolio manager.
The bonds are issued by the Government or a company.
Generally, bonds issued have a fixed tenure and a fixed price or face value.
At maturity, the issuer of the bond repays the face value to the investor.
The par value received by the investors might differ from the original price paid by them to purchase the bond.
The difference depends on whether the bond has been bought or sold in the open market or not.
Bonds keep on coming in the open market to buy or sell throughout their tenure.
This means the investor doesn’t have to hold the bond until maturity.
These are the times that may change the face value of the bonds.
Some of the reasons that affect the bond’s price include:
- Fortune of the issuer
- Change in Interest rates
- Government base rates
Investors earn regular interest payments on their bonds.
Difference Between Fixed Income & Bonds
In the case of a fixed-income bond, the investor earns a fixed rate of interest until maturity, and on maturity, the issuer repays the principal amount to the bondholder.
In a Bond Fund, the investor owns a bond portfolio that has numerous underlying bonds.
Depending on their maturity period, bond funds can be short-term, intermediate-term, or long-term.
Investors need to hold the fixed-income bond until its maturity date.
Whereas this is not a compulsion in case of bond funds.
They earn a fixed income throughout this tenure until the maturity of the bond.
During this tenure, the face value of the bond might change.
But, this won’t have any effect on the investor
In risk factor is higher in the case of bond funds.
In this, a decrease in the bond price might lower the principal amount, which was invested by the investor to buy that particular bond.
In addition to this, in case of fixed income, changing market conditions like inflation or other economic factors do not have any effect on the investor’s investments.
The investor would get 100% of the principal amount at the time of maturity.
Whereas in bond funds, the investor may earn or lose money depending on the market condition.
Bond Fund Value is expressed in NAV.
The Bottom Line
Every bond fund aims at achieving a particular investment goal.
Investors can select one, depending on their needs.
A conservative investor might not want to get into any market risk.
Hence would go for a fixed income bond.
On the other side, an average investor might not have time and resources to research on every individual bond to find the right bond that would help them to fulfil their future financial needs.
With so many options available, getting confused is quite common.
To overcome this, the investor may go for a diversified bond portfolio or in other words, bond funds.