Investing in bond funds

A bond fund is a managed fund that pools together the investments of a number of smaller investors to buy in bonds and other debt securities. By pooling resources, a bond fund can access wholesale investments that are out of reach of retail investors.

Bond funds are therefore an economical way for small investors to access the Singapore bond market, without needing the investment expertise or the larger investment portfolio that would normally be needed to invest in corporate and government bonds. A well managed bond fund can also diversify the risk of an investment in fixed income securities, by investing the fund in a range of bond issuers so that investors are not overly exposed to the specific credit risk of a particular corporate or government issuer.

A bond fund can also increase the yield of a fixed interest investment. Singapore government bonds are safe investments, but they pay a relatively low coupon rate (or yield) compared with some other AAA rated issuers, such as the Australian government. However, investing in foreign bonds carries a foreign exchange risk that needs to be managed by the fund manager.

Many bond funds pay out distributions to their investors more frequently than the 6-monthly payments you might receive on an individual bond. Diversified funds can do because they hold a range of different investments which make their coupon payments at different times during the year, and also because the fund can distribute part of any profits on the sale of the fund's investments.

Types of bond fund

There are many different types of bond funds. Some are based on the types of bonds in which they invest - high yield bond (also called "junk bonds"), highly rated government bonds, tax advantaged US municipal bonds, mortgage backed securities, corporate bonds, etc. Other bond funds market themselves by their particular management style - leveraged funds, funds which enhance returns by use of complex derivatives, or hedge fund investment strategies which invest in convertible bonds.

Usually, a higher yield on a fund means that the risk of its underlying investments is also higher. But you shouldn't assume that a fund is low risk just because it invests in low risk securities like government bonds - the fund itself could be enhancing its returns by leverage, or by using derivatives. You should check the fund's investment policies and strategies to make sure that the risk profile of the management style matches your own financial needs.