What You Need to Know About Bond Funds

During an unsettled economy, investors often turn to bonds as a hedge against fluctuating stock values. While bonds can offer a buffer, they may not provide returns that outpace inflation, bond funds still can play an important role in your portfolio.

Bond Fund Basics

For many investors, bond funds* provide an easier way to invest in bonds than buying individual securities. Like all mutual funds, bond funds offer many benefits including, professional management, diversification** and the ability to buy or sell shares at any time. Most funds pay income monthly and while municipal bonds funds generally provide lower returns, they are income tax-free.

Corporations, governments and municipalities issue bonds to provide operating cash flow, finance debt and fund capital investments in schools, highways, hospitals and other projects.

Types of Bond Funds

Corporate bonds are issued by public and private corporations and are generally divided into investment grade and non-investment grade (high-yield or “junk” bonds). High-yield bonds typically offer higher interest rates in exchange for their increased risk of default (i.e., not making payments). Municipal bonds are issued by states, cities, counties and other government entities to fund daily operations and finance capital projects. Municipal bond funds may include bonds that are exempt from federal, and sometimes state, taxation.

Bond Risks

As with any investment, bonds carry general types of risk.

1. Interest Rate Risk. Bond prices and yields move in opposite directions. When interest rates rise, the market value of bonds in a bond fund generally will go down. Bonds with longer maturities are more vulnerable to interest rate risk.

2. Credit Risk. Issuers of bonds owned by the fund may default and fail to pay the debt they owe on the bonds that were issued.

3. Prepayment Risk. An issuer may pay off a bond early and issue new bonds at a lower interest rate.

Talk with your financial professional before you decide about investing in bond funds.

*Investors should consider the investment objectives, risks, charges and expenses of the fund carefully before investing. Contact the issuing firm to obtain a prospectus which should be read carefully before investing or sending money.
**Diversification cannot eliminate the risk of investment losses. Past performance won’t guarantee future results. An investment in mutual funds can result in a loss of principal.