Bond Fund DiversificationBond Funds
Bond Fund Diversification
Bond funds create instant diversification for investor in the bond markets. Instead of buying two or three bonds with a few thousand dollars, you purchase a portfolio containing hundreds of bonds. You can easily use bond funds to diversify the market location, maturity, or bond instruments used by the fund. To diversify by location simply choose a bond fund which targets only your domestic region or nation, then choose bond funds which target foreign bond markets with a low correlation to your own. To diversify the maturity of your bonds, which affects your duration and thus interest rate exposure, you can choose to invest in bond funds based on their term. Shorter bond funds will have lower durations and low interest rate exposure. Their frequent maturities will be quickly reinvested at new higher rates during interest rate increases. In exchange these funds have higher reinvestment risk, and they’ll also quickly be reinvested at lower rates during periods of interest rate decreases.
You can also diversify via mixed funds, which allow you to purchase a portfolio of varied investment instruments. Mixed fund allow a wide array of strategies in a single fund by blending equities and bonds. These funds can contain any kind of equity, specified in the fund’s prospectus. Possibilities include conservative blue chip shares, value shares, and aggressive growth shares, domestic or foreign. These are then combined with bond types also specified in the prospectus. They can use sovereign, corporate, high yield, domestic market, foreign market, or emerging market bonds. Bonds and equity are split in a specific percentage, such as 40% bonds and 60% equity. Traditionally, it’s assumed that higher amounts of bonds are more conservative, and higher amounts of shares are more aggressive. While this is generally true, this depends on the risk and volatility levels of the individual bonds and equities used in the mixed fund. A fund with 50% high yield corporate bonds and 50% growth stock would be quite aggressive versus mixed fund of 40% investment grade sovereign bonds and 60% blue chip stocks. Even though the fifty percent split fund has more bonds, the aggressiveness of the assets selected override the perceived conservatism of the asset allocation. Be sure to read the prospectus, statement of additional information, and financial statements when choosing a mixed fund. The specific bonds and equities determine the actual potential of the fund.
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