The year 2021 broke many records regarding the number of startups, investment in ETFs, IPO proceeds, unicorn valuations, and SIPs. While bonds also have experienced maximum investments, the launch of Bharat Bond ETF had also gained traction because of its investments in the long-term public sector companies making it a safe bet.
This article discusses two debt instruments, bond ETFs vs bond mutual funds, to know which one to choose.
What are Bond ETFs?
Bond ETFs are not as straightforward as other ETFs, but they create a corresponding index or underlying investment product. While bonds are often fixed-income investments that are not highly liquid, bond ETFs offer you the flexibility to trade them on the stock exchange.
How Do Bond ETFs Work?
Bond ETFs usually are managed passively and traded on a stock exchange in the same way as stock ETFs are. This technique helps to keep the market stable by increasing liquidity and transparency during difficult periods. While bond ETFs are notorious for being volatile, they must be liquid to be traded on exchange floors.
Advantages of Bond ETF
Let’s look at why bond ETFs are suitable for investment:
- Bond ETFs provide exposure to many bonds since a bond ETF invests in the debts of several companies. For example, Bharat bond ETF has invested in the debt of many public sector companies.
- Unlike bonds, the bond ETFs are liquid, and you can trade during trading hours, even in foreign or smaller markets where individual issues move much less often.
- You get interest income as a fixed-income source; hence, if you seek a well-diversified debt instrument yet offer fixed returns, bond ETFs are for you.
- You get bond ETF dividends when the companies declare dividends you invested your money in.
Returns From Bond ETF
As of February 28, 2022, the BHARAT Bond ETF – April 2023 had an AUM worth ₹ 43.02 billion.
The following are its trailing returns:
- 4.83 % after one year
- 7.21 % after two years (since launch),
- 5.83 % (1 year category return),
- 4.99% (3 years)
- 5.8 % (5 years).
What is a Bond Fund?
Bond Funds are debt mutual funds that invest in bonds that vary in maturity. The fund manager aims to maximize returns by timing the maturity of the bond funds on prevailing market conditions. These funds could be one of the most convenient investment options for risk-averse, long-term investors.
How does a Bond Fund Work?
A bond fund is essentially a mutual fund that only invests in bonds. A bond fund is more efficient for many people to invest in bonds than buying individual bond instruments.
Unlike individual bond instruments, bond funds do not have a maturity date for principal payments, and hence the principal amount invested may fluctuate from time to time.
Furthermore, you receive a portion of the interest earned by the underlying bond instruments held indirectly in the mutual fund. Interest payments are made regularly and reflect the composition of the fund’s holdings. As a result, the allocation of interest revenue varies regularly.
High Yield Bond Funds
Have a look at some of the best high yield bond funds in India:
Returns data as of 28-Mar-22 (Direct Plan)
|Scheme Name||1 Yr||3 Yr|
|L&T Triple Ace Bond Fund-Growth Corporate Bond Fund||5.19%||29.70%|
|DSP Corporate Bond Fund-Growth Corporate Bond Fund||3.97%||23.77%|
|Nippon India Corporate Bond Fund-Growth Corporate Bond Fund||5.77%||23.65%|
|PGIM India Corporate Bond Fund-Growth Corporate Bond Fund||5.32%||25.74%|
|HDFC Corporate Bond Fund-Growth Corporate Bond Fund||5.17%||26.53%|
|IDFC Corporate Bond Fund-Growth Corporate Bond Fund||5.06%||24.84%|
Bond ETFs Vs Bond Mutual Funds: Comparative Study
Bond ETFs mirror the performance of the debt instruments like government bonds or corporate bonds. The units of bond ETFs trade on the stock exchanges, just like other listed securities. On the other side, a bond fund is a portfolio of different bonds managed actively by a fund manager to outperform the industry benchmark.
Let’s explore key differences between bond ETFs and bond mutual funds.
Bond ETFs are funds that are passive investments. Bond mutual funds are mostly actively managed investment vehicles.
There is a distinction between mutual funds and ETFs on how to buy them. You can buy bonds mutual funds through a broker or directly from the asset management company. You do not need a Demat account to buy mutual funds.
On the other hand, you can purchase units of bond ETFs from the stock exchange, for which you will need a Demat account.
You can trade ETFs during the trading day, even in parts of the bond market where individual issues move significantly less often. Bond ETFs can also be purchased on leverage and sold short, providing a broader range of investment methods.
On the other hand, mutual funds do not trade on stock exchanges, and it may take a couple of days to execute your buy or sell action.
ETFs are more transparent than mutual funds due to exchange trading, and most ETF managers provide a complete list of their holdings daily. Mutual fund managers only publish mutual fund holdings once a quarter.
Although ETFs provide transparency and allow you to see the fund’s holdings at any time, they sometimes are hard to sell.
If you’re worried about not selling your ETF investment due to a shortage of buyers, a bond fund might be a better option because you’ll be able to sell your holdings back to the fund issuer.
Bond ETFs have a reduced expense ratio because they are passively managed funds. Bond mutual funds are actively managed funds with a staff of fund managers at their disposal and, as a result, have a higher expense ratio than bond ETFs.
Ultimately, your investment goals, risk appetite, investment preferences, and investment period will decide which of the two options is more suitable for you. While bond mutual funds offer additional possibilities for active management, bond ETFs are ideal if you plan to purchase and sell frequently. At WealthDesk, we offer you a readymade WealthBasket consisting of stocks or ETFs reflecting an investment strategy or theme designed explicitly by the SEBI-approved investment professionals and make your investment journey hassle-free.
A Target Maturity Bond ETF is an exchange-traded fund that invests in bonds with similar maturities and has a fixed maturity. This allows it to mix bond and mutual fund characteristics.
BHARAT Bond ETF is a Government of India initiative that pools investments from retail, HNI, and institutional investors to meet the borrowing needs of the Central Public Sector Enterprises (CPSEs). Edelweiss Asset Management oversees the BOND ETF scheme.
Market risk, underlying asset risks, tracking error risks are the risks of investing in bond ETFs.