It’s been tough to be an income investor in 2019. After a period of rising interest rates, the Federal Reserve has reversed course which makes fixed-income investments less attractive. This is particularly true since you would have to tie your money up for a considerable period of time to get a meaningful rate of return.
The equity markets are being whipsawed by the weak global economy and the trade dispute between the United States and China. Despite that, many economic indicators in the U.S., like consumer confidence and low unemployment, are showing that our economy is still strong. The result is a market that has been known to fluctuate by hundreds of points in a single day. That’s not the kind of stability you’re looking for.
That leaves us with bonds. When interest rates fall, bond yields rise. That’s the appeal of bonds. And despite a yield curve that is inverting for U.S. Treasury bonds, long-term bonds (seven years or more) historically pay a higher yield than short-term bonds. But you may not want to commit your cash for that long. The solution is a bond fund. There are many bond funds that are providing attractive yields right now. But before we recommend a few, let’s make sure you understand what investing in a bond fund really means.
Owning a bond fund is not the same as owning a bond
If you’re new to owning a bond fund, you should understand the key difference between investing in a bond fund as opposed to buying individual bonds. When you invest in a bond, you are guaranteed to receive your principal and interest at maturity. The value of a bond fund fluctuates. Therefore, you are not guaranteed of a specific return. When you sell, you may get more or less than your original investment based on market conditions.
So why buy a bond fund?
There are many reasons to buy a bond fund. To begin with, a bond fund’s dividends are automatically reinvested so if you don’t need the dividend income to live on, you can enjoy the benefit of compounding. Also, bond funds allow investors to invest small amounts after an initial purchase. Bond funds are also a safer bet if you aren’t sure when you’ll need your money. Fund shares can be redeemed at a better price than an investor will get from selling an individual bond before its maturity date.
This U.S. Treasury Bond ETF is having a great year if you can look past a lower yield
When it comes to risk, you get what you pay for when it comes to a bond fund. To get a high yield, you have to accept a higher degree of risk. On the opposite end of the spectrum, you have a bond fund such as the iShares Treasury 20+ Year Treasury Bond Fund (TLT). This is an exchange-traded fund that is up over 20% in 2019. It currently pays a 2.19% yield and has a very attractive expense ratio of just 0.15%.
This high-yield bond fund provides a hedge against rising interest rates
The Fidelity Capital & Income Fund (FAGIX) invests in both equity securities and debt securities. This fund offers the opportunity for a high return because it invests in high-yield bonds which have a credit rating that is below investment grade (BBB). This puts the bonds in a category that is at a higher risk of default. The fund has a current dividend yield of 4.88% and an expense ratio of 0.69%. The fund has returned an impressive 13.81% in 2019 and has an average ten-year return of 9.96%.
A stagnant global economy makes global bond funds attractive
Interest rates are falling in the United States, but the race to the bottom started in Europe and other nations which now feature negative interest rates. While this is a nightmare for income investors who rely on the bonds for their income, it is ideal for an investor in a bond fund like the Aberdeen Asia-Pacific Income Fund, Inc. (FAX). This fund has a yield of 7.84%. The fund buys government and corporate bonds that pay at least 6%. The portfolio of bonds increases in value with every decrease of U.S. interest rates. This makes the fund an ideal choice for both income and price appreciation.
Find the bond fund that’s right for you
For income investors, bond funds are an ideal Goldilocks strategy. Fixed income strategies are too conservative. Equities may be too risky. Bonds, and particularly bond funds, provide a middle-of-the-road solution. This article gave you just a sample of the diversity you can find in bond funds. It’s important to do your own research. Let MarketBeat simplify your research. At Marketbeat.com, you can get current news and analysis for a range of publicly listed bond funds. And when you subscribe to one of our premium services, you’ll receive even more tools to make informed investment decisions.