Diversification of a portfolio is one of the most important criteria for any investor. They invest in stocks, equities, debt and bonds to diversify their investment. Bond and equities are two important instruments issued by the corporate to mobilize funds. Like mutual funds and exchange–traded funds, bonds and bond funds can help investors take the edge off market volatility and create a balanced, diversified portfolio. Most of the investors have no idea about the bond market.
What are Bonds?
A bond is fixed income security, which is mainly a debt instrument created for the purpose of raising capital. Basically, they are loan agreements between the bond issuer and an investor in which the issuer is obliged to pay a specific amount of money at a particular date. They are mainly issued by the governments and large corporations when they fail to meet the requirement(s) from any other sources. As the case of equity, an investor becomes an owner in the issuing entity. Similarly, by purchasing a debt instrument like a bond, an investor becomes a creditor to the corporation. There are different types of bonds, let us look at the different kinds of bonds:
- Government Bonds:
A government bond is debt security issued by the central government to raise money from the general public. It is less risky and offers stable returns. It is mainly suitable for investors with low–risk appetite. They are categorized into three main categories depending upon the length of maturities such as bills, notes, and bonds. Those bonds which have a maturity period of less than one year is called bills, those who maturing in one to ten year is called notes and those mature in more than ten years is called Bonds.
- Municipal Bonds:
A municipal bond is a debt security that is issued by the state, municipality to finance its capital expenditures. This can be an effective hold for investors, who wish to increase the government yields, in exchange for a slight increase in risk.
- Corporate Bonds:
Just like the government, a company also issue bonds to raise money from various purposes. Such as expansion of the company, purchasing of the equipment. When one buys a bond, one lends money to the issuer, the company issue the bond. In exchange, the company promises to return the money also known as principal on specified maturity date.
- Zero–Coupon Bonds:
A zero–coupon bond is a debt security that doesn’t pay interest but traded at a deep discount. For example, a zero–coupon bond with Rs 1000 per value and ten years maturity might be trading at Rs 600. So, today you pay Rs 600 for a bond that will be worth Rs 1000 in ten years.
A common investor always puzzled about how the bond fund works. When an investor purchases a bond, then they are loaning that money to the bond issuer. They might be raising the money for some projects. When the bond matures, the issuer repays the principal to the investor. There are also various ways to invest in the bond. The early investor who has no idea about the bond market can invest through the bond fund. A bond fund is basically a fund that primarily invests in bonds and other debt instruments whether its corporate and government bond fund. Generally, investors invest in corporate bonds in expectation of greater returns. A corporate bond is generally an open–ended debt scheme with having 80% of its total assets in high corporate bonds. Let’s look at the top–performing corporate bond fund in India:
- Kotak Corporate Bond Fund
- ICICI Prudential Corporate Bond Fund
- Reliance Prime Debt Fund
- Aditya Birla Sun Life Corporate Bond Fund
- HDFC Corporate Bond Fund.
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*Mutual fund investments are subject to market risks. Please read the scheme information and other related documents carefully before investing.