A debt fund is also typically known as credit fund or a fixed income fund. They are a form of pooled investment which provides bonds and a fixed return on investment in the form of regular interest payments and ultimately the return of complete investment in the end. They are the tools for income investment or for development of a diversified portfolio especially tailored for investors looking for low risk income distributions or for capital investment.
They are offered mainly by mutual fund companies or as part of whole bundle services provided by investment banks, wealth management firms, and securities dealers as brokerage.
Break Down of Debt funds:
A debt fund is an investment pool whichaggregates dozens or hundreds of individual investors for the purpose ofinvestment for debt security. This benefits the investors, as they get anexposure to lot of different types of bonds, such as corporate bonds, USTreasury bonds, municipal bonds, and foreign bonds. The investors can alsochoose from any one of these types of bonds.
- The debtfunds are part of exchange trade funds or mutual funds.
- Afterpurchase, the investors get only shares of the fund rather than owning the debtsecurities.
- Theinvestors have to ultimately pay the basic debt securities related to thefunds,
- The fundsdon’t have a price instead have the net asset value (NAV) which is calculated by subtracting thetotal value of the debt fund – its liabilities.
Difference between Bonds and Debt Funds
Bonds are essentially debt security, forwhich the issuer of the bond has to pay the holder, a debt which is paid in theform of interest for a specified period of time. At the end of this period, theborrower has to return the principal loan amount or the actual investment, backto the holder of the bond. They are issued by corporations like banks, governmentand townships.
For bonds, you are owning or purchasing thedebt security for a fixed period of time. In the case of debt funds however , you get shares of thefunds instead of holding the bonds, So in this case, you can benefit from thefund yield by the combination of average rates produced by bond asset in thefund.
FixedVs Flexible Holding Period
An investment in bonds yields 100 percent money back guarantee to the holder, for a fixed maturity period which can from a few months to over 30 years. With debt funds, as you are investing mostly as a part of a diversified portfolio, you can choose to hold the fund as long as it fulfills the purpose of your investment,
FixedVs Fluctuating Price Risk
Unless the borrowing entity goes bankrupt orif you sell your bond before the end of the holding period, there will be nofluctuation in price of the bond and you can get all your money back afterthis. This is not the case with the debt funds, you may get more value than theinitial purchase depending on the earnings by the bond asset (which meansoriginal investment + profit) or you may get zero investment back, if its valueis lesser at the time of selling than its original amount.
Reasons for Investing in Debt funds
- Efficient way to diversify portfolio
If you combine your stock funds with debt funds than you are less likely to fall a victim to fluctuating prices of the account value. Though the debt funds are quite different from the equity schemes as they are based on bonds rather than common stocks and when the prices of the stocks are falling, the prices of the bonds are rising.
- A good source for Income after retirement
Theaverage earned value on the bond holding is returned to the investors withinterest through mutual funds or Exchange Transfer Fund as part of debt fundscheme. The interest payment is made periodically, in debt funds.
- Gain in prices
There is alsopossibility of benefiting from the debt security more than the originalinvestment. So the investors can take part in price gains in bond values.
Buyingthe Best Debt Fund
The bond holdings for debt fund can be purchased through qualified advisors for investment, stock brokers, or you can make your account online for mutual fund company such as Vanguard or Fidelity, You can also use a brokerage company or companies like Schwab or TD Ameritrade which sell debt bonds at reduced commission.
In order to by the best type of debt fund which fits your objectives and investment needs, you need to consider the SEC yield which gives the approximate value the investor would receive in a year through the mutual funds and consider buying from bond fund market like Vanguard Total Bond Market Index (VBTLX), which offers all sorts of bond funds at a low cost.