The answer is: it depends. Investors have to decide among numerous options when they are making investment decisions. One of the most common dilemmas arises when an investor needs to decide whether to put their money in a mutual fund or directly in a bond. Now let us look at how the options differ.
Buying a bond gives you a fixed return, so a 5% yield on a bond purchased with US$10,000 face value will give you the investor US$250 cash in hand, twice a year. Many mutual funds do not pay interest, so if you are looking for steady cash flow, this would not be the best option for you.
Now, if you need money, where would you go?
Most mutual funds are quite liquid, this means that you are able to withdraw funds relatively quickly. What do we call quick? Normally, this is within a few days. But what about bonds? Much like stocks, for you to sell a bond, someone has to buy it. What if there are no buyers? Sometimes the company, through which you have purchased the bond, is willing to buy it back from you. However, this is not always the case and will depend on the bond itself, i.e. how attractive it is to investors. The bottom line is that if you have purchased a very liquid bond, then selling it is not usually an issue, but sometimes you will need to budget for a longer waiting time before you are able to sell it if it is a less liquid bond.
If you buy a bond, you now own it outright. However, this also means that you have taken on the risk associated with the particular bond. This means that if the issuer defaults, you will lose your money. However, if you invest in a mutual fund, the risk is spread out amongnumerous bonds, so a single default will not be as damaging to your portfolio.
A mutual fund is managed by an entity. Once you have assured yourself that the entity managing the fund has a strong/proven record of accomplishment and you have confidence in them, you can buy it and virtually forget it. This means that there is no need to be constantly calling and checking on how well your mutual fund is performing because you have left it in the hands of capable professionals.However,if you are so inclined, and prefer to check on your mutual funds’ performance, the manager will normally publish the prices fairly on a consistent basis so that you can monitor its performance. There is a higher level of due diligence required when you own a bond. You should be checking that the issuer is still solvent, that there have been no changes in their financial condition and no material changes to the bond. Simply put, there is more work involved in monitoring the performance of your bonds.
Lastly, bonds are ideal for people who have fixed commitments or bills and they need to ensure that they receive money on a predictable basis to service these obligations. In addition, the yield to maturity is known, so there is no surprise as to what the bond will pay. Moreover, you can structure bonds so that they mature at the times that you know you will need the most cash. Mutual funds are a little more exciting. Their performance is not static,and typically you will have some excellent years where they outperform bonds,mixed in with some occasional “not so good” years depending on market conditions. However, as with most things, if you invest for the long term, you will normally come out ahead, assuming it is being well managed. If you have the funds, there is nothing stopping you from investing in both!!!
Yanique Leiba-Ebanks is the AVP, Trading & Business Development at Sterling Asset Management. Sterling provides financial advice and instruments in U.S. dollars and other hard currencies to the corporate, individual, and institutional investor. Visit our website at www.sterling.com.jm Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: [email protected]