During prosperous times, when bulls roam free on Wall Street, investing in bonds might seem as though it is holding your portfolio back. But when the economy takes a turn for the worse, bonds can be a way to help protect against the damage of a bear market.
Bond mutual funds offer investors a chance to diversify their holdings and dampen risk. They are the second most common type of mutual fund, making up 1,970 of the more than 8,017 mutual funds (as of the end of 2007).1
Fund, Bond Fund
A bond fund is a mutual fund that comprises mostly bonds and other debt instruments. There are several varieties of bond funds, whose mix of bonds depends on each fund’s focus and stated objectives. Bond funds are subject to the same inflation, interest-rate, and credit risks associated with their underlying bonds.
Some bond funds can be identified by the underlying bonds, such as municipal bond funds, corporate bond funds, and U.S. government bond funds. Others can be identified by the maturity date of the underlying bonds, such as short-term and long-term bond funds.
Bond funds can add diversification to an investor’s portfolio. Because bonds are generally considered a lower-risk investment than equities, bond funds can serve to help reduce a portfolio’s exposure to volatility. Diversification does not guarantee against loss; it is a method used to help manage investment risk.
In addition to diversification, bond funds can be used to generate a regular income stream. Some bond funds offer a monthly income. Also, bond funds generally offer higher liquidity than individual bonds and can be bought and redeemed more easily.
Note that, in some states, investors have to pay income tax if they buy shares of a municipal bond fund that invests in bonds issued by other states. Although some municipal bonds in a fund may not be subject to ordinary income taxes, they may be subject to federal, state, or local alternative minimum taxes. If a tax-exempt bond fund is sold for a profit, there are capital gains taxes to consider.
Mutual funds are sold only by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.
Bond funds may offer a way to reduce overall risk during a bear market. Call today to discuss adding a bond fund to your portfolio.
1) Investment Company Institute, 2008
This material was written and prepared by Emerald Publications.
© 2008 Emerald Publications