Bonds vs. Bond Funds: What’s the Diff?

If the recent stock market insanity has you craving more stability and you’re considering adding more bonds to your portfolio, first ask yourself: bonds or bond funds?

These are two different beasts. An individual bond offers certainty: usually a fixed interest rate and an end-date when your principal is returned. A bond mutual fund is more flighty: a variable rate, no end date and no obligation to return your original investment. You make or lose money based on market conditions. (Bonds are complicated! We’ll continue to address them in the fall.)

Both have pros and cons. Consider this:

Diversity. You don’t want to hold, say, just one bond. Having

  a small bond portfolio—which might hold different types of bonds (U.S. government, corporate, etc.) or bonds that mature at different times, offers you some protection should one bond turn out to be a bad investment.

A mutual fund or exchange-traded bond fund, meanwhile, holds lots of bonds and can provide easy diversity.

Budget. Getting diversity with individual bonds can be pricey: some cost $1,000 each (or more), although Treasuries can be purchased for $100. Some bond funds have investment minimums of $500.

Liquidity. You can usually sell bond funds at any time. Individual bonds may be trickier.

Ultimately, this may boil down to convenience. In a perfect world, a portfolio of individual bonds is arguably better, since you have greater control over your investment. But a fund is a simple way to get good bond exposure.

Be safe. How have you incorporated bonds into your portfolio?