What are Bond Mutual Funds and Different Types of Bond Funds
NAV) that is the dollar value of one share in the fund; this is the price that investors pay or receive when they buy or sell shares in the fund.
Investors typically choose to buy bond funds for two reasons: income and diversification.
Types of Bond FundsThere are three basic types of bond funds: U.S. government bond funds, municipal bond funds, and corporate bond funds. The returns of these bond funds differ according to the amount of risk inherent in each fund.
US Bond FundsU.S. government bond funds invest in debt securities that are issued by the United States government and its agencies. These funds are regarded as the safest of the bond funds because the underlying securities are backed by the full faith and credit of the United States government (however, the fund itself is not backed by the government). The funds invest in such debt instruments as Treasury bills, Treasury notes, Treasury bonds, and mortgage-backed securities issued by government lending agencies such as Fannie Mae . Certain U.S. government bond funds, like Treasury funds, are exempt from state and local (but not federal) taxes. The biggest risks involved in investing in these funds are related to fluctuating interest rates and inflation.
Municipal Bond FundsMunicipal bond funds invest in debt securities issued by state and local governments to pay for local public projects, such as bridges, schools, and highways. These bond funds are popular among investors with high incomes because they are exempt from federal taxes and, in some cases, from state taxes as well. As with U.S. government bond funds, the underlying securities in municipal bond funds are backed by the government and thus are considered to have a high credit rating. However, municipalities have been known to declare bankruptcy on occasion, making these funds more risky than their U.S. government counterparts.
Corporate Bond FundsCorporate bond funds are comprised of bonds issued by corporations. Unlike the securities held by U.S. government and municipal bond funds, the bonds in a corporate bond fund are not backed by any government institution. Thus it is more likely that the underlying bonds could default if the companies that issue them run into financial trouble. Along with the greater risk, however, comes a greater reward -- the income paid out by corporate bond funds is typically much greater than that paid by municipal or U.S. government bond funds. Investment-grade corporate bond funds invest only in the most creditworthy of companies; they are considered to be the safest of all corporate bond funds.
Other Types of Bond FundsBesides the aforementioned bond funds, there are many other types of bond funds. Zero-coupon bond funds invest in zero coupon bonds; international bond funds invest in bonds issued by foreign governments and corporations; convertible securities funds invest in bonds that may be converted into stock . And finally, if you're looking to diversify your holdings even more, there are multisector bond funds that invest in all different types of bonds: corporate bonds, municipal bonds, international bonds and so on.
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