After you've established a sound financial plan, if you decide that that you'd like to allocate a portion of your portfolio to bonds, your next step should be to decide exactly how you want to buy and own these bonds. Questions that typically arise are whether or not you should buy individual bonds, or purchase a mutual fund that invests in bonds. The right answer depends on your ability to, and interest in, researching your initial investments and tracking them on an ongoing basis. Other key factors which play a role in determining which type of bond investments you should consider are how much you are willing to invest, as well as your tolerance to different kinds of risk.
Individual bonds can be a great way to buy into a fixed rate of return. Based on the bond's yield and the principal amount invested, it is possible to derive the total expected rate of return of the investment. This total return, however, depends on two factors: The first is whether or not you hold the bond until it matures or is called; and the second is the assumption that the bond issuer does not default on the principal and interest payments. What can be derived from these two factors is that an individual investor should carefully scrutinize the credit risk and financial stability of each individual bond issuer. An investor must also consider the fact that it may take a larger amount of capital to be properly diversified when buying individual bonds as opposed to shares of a bond fund.
Investors may want to look at a bond fund as an another approach to investing in the bond market. Bond mutual funds are similar to stock mutual funds in that you invest your money into a 'pool' with other investors. This 'pool' is professionally managed according to that fund's stated investment objectives and guidelines. The fund manager has the ability to buy and sell various bonds in the fund that they see as being the most appropriate. Bond funds can be highly specialized, with the majority of the fund invested in a specific type of bond. Alternatively, the bond fund could be composed of a variety of different types of bonds. Bond funds do not have a maturity date and have fluctuating monthly income distributions. As with any investment, an investor can lose some or all of their initial investment. If you would like to learn more about bonds or bond funds, feel free to ask me.
Angelo A. Costanza, Financial Advisor
(This article contains the current opinions of the author but not necessarily those of Brighton Securities Corp. The author's opinions are subject to change without notice. This blog post is for informational purposes only. Forecasts, estimates, and certain information contained herein should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. References to specific securities and their issuers are for illustrative purposes only and are not intended and should not be interpreted as recommendations to purchase or sell such securities).