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Bond ETFs, Bond Funds, & Hybrids

Seeking a way to make a predictable income, or perhaps, you’re seeking to secure your money in a less volatile investment? These fixed-income products offer all these to you, plus a diversified portfolio.

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Bond ETFs

Bond ETFs can help diversify your portfolio while also delivering income potential for a modest initial commitment.

Bond mutual funds

Buy & sell bond shares every day or reinvest your income dividends at any time while you also enjoy a regular income.

Hybrids

Otherwise called “preferred securities”, they afford you a highly stable income source, portfolio diversification, lowered volatility & risk of default, & lowered interest rate risk.

Bond ETFs

A portion of a bond portfolio is acquired for you when you purchase shares of a bond ETF. But most bond ETFs lack a maturity date, unlike individual bonds. Additionally, ETFs may be exchanged around the clock during the trading day since they are traded on an exchange like stocks.

Advantages
  • Diversification: Bond ETFs can lessen the impact on the investor if the bonds from a single issuer either decline in value or default because they often invest in many individual bonds from different issuers.

  • Transparency: Investors are told specifically which securities their ETFs own thanks to the daily publication of holdings information.

  • Pricing: Operating expense ratios (OERs) for bond ETFs are often significantly lower than those for bond mutual funds, particularly for actively managed funds.


    • Disadvantages
  • The ratio of cost to net asset value: The market valuation of a bond ETF may differ from the underlying assets’ net asset value (NAV). The price may occasionally be greater than or less than the intrinsic value per share, even if the share value is often close to the NAV.

  • General liquidity: The liquidity of an ETF is determined by the number of market makers (firms that remain available to buy or sell throughout the trading day) that are interested in doing so at any particular moment.

    • Bond mutual funds

    Bond mutual funds are similar to stock mutual funds being that you pool your money with other investors’ money, & an assigned professional manager makes investments from that pool of funds based on what he/she believes to be the greatest possibilities.

    Advantages
  • Diversification advantage: Bond funds often hold a variety of distinct bonds with varying maturities, so if an issuer defaults on interest or principal payments, the effect on the performance of any one bond is mitigated.

  • Liquidity & ease: You can purchase or sell shares of a bond fund every day. Bond funds also provide you with the flexibility to invest more money at any moment & automatically reinvest income distributions

  • A steady source of income: Most bond funds provide consistent monthly earnings. However, the amount may change depending on the state of the market. Bond funds may be a good option for investors looking for a moderately regular income because of this attribute. You can opt to automatically reinvest your dividends.

  • Potential for tax-free income: Like other investors, you can use municipal bond funds to reduce your tax commitment. Some investors find them to have a higher after-tax yield.


    • Disadvantages
  • Interest rate risk: Bond prices often decrease as interest rates rise & rise when interest rates reduce. The chance of rising interest rates increases with bond maturity.

  • Credit risk: Bond funds are sometimes classed as below-investment-grade quality (medium-to-high credit quality) or investment-grade quality depending on the individual bonds they invest in. Each bond that a fund owns has the risk of default if the issuer is unable to make future interest or principal payments.

  • Principal risk: The received amount when you sell shares in a fund is called the fund’s current net asset value (NAV). It is determined by dividing the total asset value of the fund by the number of outstanding shares. If the fund’s NAV is lower on the day you sell shares than when you acquired them, you risk losing some or all of your initial investment.

    • Hybrids

    Hybrids also referred to as “preferred securities,” are similar to both stocks & bonds. They can provide investors with higher returns than corporate bonds or common stock. When compared to certain traditional fixed-income products, they provide an alluring combination of relatively low-interest rate risk & substantial payouts.

    Advantages
  • An appealing risk/return ratio: In contrast to certain traditional fixed income, hybrids provide an alluring combination of relatively little interest rate risk & relatively high returns.

  • Diversification advantage: When used to diversify from core bonds, a dedicated allocation to actively managed preferreds may help lower interest rate risk & increase return. It can also lower volatility while increasing earnings potential if utilized to diversify from equities.

  • Lower credit risk: Banks issue a substantial amount of preferred securities, & traditionally, the banking industry has had a lower credit risk than other industries.

  • Stable income: Typically, preferred securities pay interest or dividends quarterly.


    Disadvantages 
  • No dividend certainty: A skipped coupon payment may not always signify a violation in preferred securities. Holders of cumulative preferred securities receive unpaid coupon payments; whereas, holders of non-cumulative preferred securities forfeit these payments.

  • Call risk: Call risk is the possibility that a bond issuer will claim a bond before it matures. In most circumstances, the bondholder will be reinvesting in a less advantageous environment—one with a lower interest rate.

  • Swing in interest rates: The values of hybrids are typically particularly sensitive to fluctuations in interest rates because of their lengthy maturity periods. In some cases, there are no maturity dates. 

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