Is it better to invest in bonds directly or to buy into a bond fund?

aparoid89

Active member
146 1
I have always been confused about one aspect of bonds. If you buy a bond with say 10 year maturity and 2% yield you are guaranteed to make money unless the company defaults.

If you buy into a fund, the fund takes into account the price of the bond and the value of your investment increases as the bond price increases yet as the bond price increases the yield decreases. Have I got this correct?

So if you invest in a bond fund you can actually lose money without the companies defaulting?
 

scose-no-doubt

Veteren member
4,630 954
Firstly, I'm far from a bond etf expert but I don't see how they wouldn't owe you a coupon. Also, could be that the capital appreciation element is adjusted in the yield/pricing so I'm sure you need to do.a fair bit of work to.see how they operate.

Secondly, if your example was correct you're not considering after tax yield. This is important for the higher rate taxed retail investor.
 

Gavroche

Junior member
21 0
I have always been confused about one aspect of bonds. If you buy a bond with say 10 year maturity and 2% yield you are guaranteed to make money unless the company defaults.

If you buy into a fund, the fund takes into account the price of the bond and the value of your investment increases as the bond price increases yet as the bond price increases the yield decreases. Have I got this correct?

So if you invest in a bond fund you can actually lose money without the companies defaulting?

There are different types of bonds (I'm talking about USA):
- federal government bonds
- local governments bonds
- corporation bonds which are:
- nonconvertible
- convertible (can be converted in shares of the corporation);

It depends what bond you have in mind and what mutual fund. Based on such information we can talk more on the subject.

Some links for you
http://mng.ibu.edu.ba/assets/userfiles/mng/feb2013/Reading Investopia I -Bond Basic.pdf

https://en.wikipedia.org/wiki/Bond_(finance)

Bond Basics: Introduction | Investopedia
Advanced Bond Concepts: Introduction | Investopedia

Mutual Fund INVESTOR'S CENTER: Mutual Fund INVESTOR'S CENTER
 

aparoid89

Active member
146 1
Im looking for a fund or ETF that holds a basket of government bonds. Im looking to hold for 50 years.
 

The Leopard

Experienced member
1,877 1,020
Im looking for a fund or ETF that holds a basket of government bonds. Im looking to hold for 50 years.

If you're holding for 50 years, why would you invest in government bonds? Especially at these levels but regardless of that, there is no way your money will even keep pace with inflation, let alone grow.
 

Hakuna Matata

Well-known member
357 209
Im looking for a fund or ETF that holds a basket of government bonds. Im looking to hold for 50 years.

iShares or SPDRs will have a series of ETF's that you can pool together to get whatever bond exposure your heart desires. I think the most popular ones will track a BarCap index (that they bought from Lehmans iirc).

But the bottom line is find out exactly what it is you want to own, then research the available products that are available, and make a decision.

i.e. do your own homework!
 

Hakuna Matata

Well-known member
357 209
I have always been confused about one aspect of bonds. If you buy a bond with say 10 year maturity and 2% yield you are guaranteed to make money unless the company defaults.

If you buy into a fund, the fund takes into account the price of the bond and the value of your investment increases as the bond price increases yet as the bond price increases the yield decreases. Have I got this correct?

So if you invest in a bond fund you can actually lose money without the companies defaulting?

Although having read this I suggest you go an dsit in a quet room and take a Finance 101 lesson on Present Values and Discounting future cash flows. Then move on to something a bit more bond specific.
 

The Leopard

Experienced member
1,877 1,020
So if you invest in a bond fund you can actually lose money without the companies defaulting?

Of course. How do yields rise? The only way if the coupon is fixed is for prices to fall.

You can lose money on any bond. If you (or your manager, or ETF or whatever) pay too much, you'll lose money.

That's before you even get into real terms. When you take that into account, you can lose a lot of money over the long term.
 

The Leopard

Experienced member
1,877 1,020
I have always been confused about one aspect of bonds. If you buy a bond with say 10 year maturity and 2% yield you are guaranteed to make money unless the company defaults.

If you buy into a fund, the fund takes into account the price of the bond and the value of your investment increases as the bond price increases yet as the bond price increases the yield decreases. Have I got this correct?

So if you invest in a bond fund you can actually lose money without the companies defaulting?

You're talking about two completely different things. If you buy an issue directly, you buy the paper. If you buy a fund, you're buying units (unit trusts for example), shares (OEICs or investment trusts for example) or whatever in that fund. The value of these will closely relate to the underlying overall, albeit there will be some adjustments (charges, monies expected but not received, monies received but not invested, holdings cashed but funds not paid out etc).

The matter is further complicated if it is an investment trust rather than an OEIC or unit trust because then you're dealing with a closed ended vehicle. So you've got the discount (and very rarely the premium) to think about, leverage (or gearing if you prefer) which is totally different for investment trusts, the different share classes and so on.
 

The Leopard

Experienced member
1,877 1,020
One other thing with bonds. Interest rates - which way are they going to go? I'll give you a clue - at effectively zero, it won't be down.

And inflation. If you believe the official figures on inflation, I suggest you go to a shop. And if you believe that QE hasn't been and won't be inflationary, I've got a bridge to sell you.

What effect do inflation and interest rate rises have on things where the maturity payment and the coupon are fixed?
 

Martinghoul

Senior member
2,690 276
I think the concept of "opportunity cost" is missing here. If you buy a 10y bond with a 2% yield and the issuer doesn't default, you're going to make money in the absolute sense. However, that won't necessarily always feel like "making money".
 

jchevali

Newbie
1 0
I know I'm reviving an old thread, but I think it's worth it.

I'm curious about what has caused the perfect negative correlation between IWM and TLT. Those seem to have run counter to each other for the last few years, all the ups and downs perfectly matched, if you had taken an aggregate of both and had put that in your portfolio you would have got a steady, even positive return - albeit modest and inferior to that of equities, except as we were going through a crisis.

My question would be, as TLT consists of 20+ treasury bonds, surely those bonds wouldn't have been issued by the government calculated to mirror out the reverse of the equity curve? Because that'd mean the government would have looked at the equity curve and in relation to that decide to price their bonds, which I find hard to believe. Which leads me to one of three possibilities:

a. The relationship is pure coincidence
b. The relationship is due to pricing by the fund issuer with intent so that their fund can be used for hedging
c. The relationship is due to supply and demand on the fund that drives the price according to the willingness or unwillingness of the fund holders to hedge, so it has no intrinsic relation to the treasuries held, or the relation to the treasuries held is weaker or has less of an effect on price than the effect of supply and demand on the fund

Which one is it? I'm thinking it is c, but I don't know. Or is it simply that there's an overarching well stablished relationship between these parts of the economy and there's nothing unnatural about this?

And perhaps a secondary question, Could it be that this perfect inverse relationship is going to end as the US is going to raise interest rates? And how much will each percent increase in the interest rate affect TLT? One percent fund price drop per each percent rate increase, or at a higher multiple?

Thanks.
 
 
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