Investing in Bonds and Mutual Funds

People investing in bonds of any type will hear the term "coupon rates". This term shows the percentage of interest that the bond will earn for its holder. By making a comparison of the coupon rates of various bonds, investors can identify bonds that yield the highest rates of return. When evaluating bonds, the investor should also review the maturity date which indicates when the bond can be redeemed.

Bonds often carry call provisions that mean that they may be subjected to an early pay-off. When early payoffs occur, the bond may entail loss of interest. The reliability and reputation of the issuer of the bond is critically important as the investor may lose the entire investment if the issuing company files for bankruptcy. All bonds are rated by class by companies like Moody's and Standard and Poors.

Standard & Poor's offers the following ratings for bonds: AAA, AA, A, BBB. EP. Each of these ratings carries a different meaning in terms of the risk that the investor is taking. Like S & P, Moody's ratings are on a slightly different scale which is Aaa, Aa, A and Baa. There are also "junk bond ratings" that are offered by both companies. These "junk bonds" are typically for investors who are willing to take on higher risk for potentially larger rewards. These ratings include the credit worthiness of the issuer as well as the potential rates of interest that are paid for the bonds. The risk is calculated with the understanding that fluctuations in interest rates may impact the return that the investor may realize. Rate of return is an important aspect of evaluating bonds and mutual funds.

When evaluating bonds and mutual funds for potential investments, investors must have a basic understanding of how mutual funds are rated. Companies like Morningstar evaluate mutual funds based on previous returns to investors as well as the level of risk that the fund is undertaking. Mutual fund investments do carry risks and it is important that these risks are understood by the investor. There is always a potential that an investor will lose their entire investment.

Mutual funds offer a wide range of funds including stock funds, bond funds and a combination of the two. Mutual funds are classified as "closed end funds" or as "open end funds". Mutual funds also may carry a sales charge that is known as a "load". Some funds will require these loads be paid up front and others will be paid when the investor liquidates the fund. In some instances, mutual funds will have a graduated load that decreases over time and may be eliminated completely over the life of the investment.

For many investors, mutual funds offer a chance to diversify their holdings without having to purchase individual shares of stock. This may help a small investor have more buying power than they would if they were to invest in individual companies. Mutual fund managers are paid based on the performance of the funds that are managed and all investment fees must be disclosed in the offering documents which are known as a prospectus. Investors are strongly urged to review these documents carefully and should ask questions if they are uncertain about terminology that might be used.

Investors who are interested in evaluating bonds and mutual funds should pay careful attention to information that is publicly available. While past performance is never an indication of future performance, it can help an investor make a better decision. Whether an investor chooses to invest in bonds or mutual funds may be a function of how much money they have to invest at the time. Investors who are concerned about the potential loss of principal may feel more comfortable investing in bonds while those with smaller amounts to invest may find that a long-term investment in mutual funds is more beneficial.

Sources:

Bond Ratings

1. Moody's Bond Ratings
2. Standard and Poors Ratings

Mutual Fund Ratings

1. US News Money
2. Morningstar
3. Lipper

Securities and Exchange Commission:

1. Bond Funds
2. Callable and Redeemable Bonds
3. Beginners' Guide to Mutual Funds
4. Mutual Fund Prospectus, Tips for Reading One

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