Invest in Bonds or Bond Funds?

Posted on November 16, 2012 | Investor Update

On Tuesday, when I was speaking to our Pittsburgh chapter, a member asked whether it is better to buy bonds or bond funds. The answer, as I explained to him, is not simple or straightforward. Rather, it depends on a combination of factors.

Bond funds offer ease and simplicity. A bond fund gives you instant access to a diversified portfolio of bond holdings. I own a bond fund because it makes it easier for me to get fixed-income exposure. The downside is that the typical bond fund, unlike an actual bond, never matures. The price of a fund’s shares and the cash flows you receive will depend on the bond market’s fluctuations—which are influenced by changes in interest rates—and, of course, the manager’s skill. So, bound funds lack a guaranteed rate of return. Furthermore, with a bond fund you will pay ongoing annual management expenses and have no ability to control the timing of capital gains.

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