Bond ETFs are like any other ETFs and replicate the performance of their underlying bond index. These are funds that invest exclusively in bonds. Bonds are fixed-income assets and are usually held by investors till their maturity. These investments are not usually traded on the secondary markets and may not have the necessary transparency in their pricing.
Bond ETFs are different than traditional bonds in these aspects. After the Bond ETFs are structured they function like any other ETFs and can be traded in the open market in real time. Bond ETFs are passively managed funds that have the benefits of fixed income debt instruments and the flexibility of equity investment as well.
These funds are usually made up of the largest and the most liquid bonds in the underlying bond index to ensure high liquidity and transparency that are some of the prime features of any ETF. some of the most popular examples of bond ETFs in India are Bharat Bond ETFs, Nippon ETF Long Term Gilt, Nippon ETF Liquid BeES, SBI ETF 10 year Gilt, etc.
ETFs have relatively low risk as compared to other investment products (for example mutual funds). Bond ETFs further provide the investors with the benefit of fixed income instruments along with the reduced risk on account of diversification features of the ETF. These funds are ideal investment products for investors with low risk appetite and short term investment goals.
Advantages of Bond ETFs
There are many advantages for investment in Bond ETFs. Some of such advantages are discussed below.
Like any other ETFs, bond ETFs can be traded easily in open markets in real time through brokers or the online trading portal provided by brokers.
Low risk investment
Bonds have the benefit of fixed income and are low risk products. Bond ETFs are also considered to be low risk products like their underlying index as they have the benefit of debt funds as well as further reduced risk on account of the nature of ETF products.
Price transparency is not an issue with Bond ETFs. As they are traded in the open market, investors can get the price information of bond ETFs in real time as it is updated every 15 seconds during market hours.
Bond ETFs are passively managed funds and hence the cost of investment or the expense ratio is quite low as compared to other types of investments.
Bond ETFs provide the benefit of holding multiple bonds or debt instruments on any bond index in a single unit of the ETF. This provides a diversified portfolio to the investors at a cost that is much lower than that of holding individual bonds.
Liquidity is one of the premier features of any ETF. Bonds essentially are not liquid and are not traded in the secondary market. This issue is resolved in bond ETFs by compiling the largest and the most liquid bonds to ensure liquidity and the ability to trade in open markets in real time.
Bond ETFs track bonds with specific maturity like short term, medium term, and long term. Some bonds have a defined maturity and they are known as target maturity bonds. These bonds are in the nature of fixed maturity plans with the added benefit of liquidity inherent to any ETF.
Bond ETFs have the benefit of being taxed like debt mutual funds. Long term gains have the benefit of indexation and are taxed at 20% (excluding cess and surcharge). Short term gains on the holding of less than 36 months are subject to short term capital gains at the applicable slab rates for individual investors.
Frequency of income
Bond ETFs provide the investors the benefit of regular monthly interest as against the periodic coupon payments in the case of bonds. This feature is especially beneficial to investors in older age groups that can reap the benefits of regular income or re-invest in the fund.
How to invest in Bond ETFs
Investment in bond ETFs is very simple like any other ETF. Investors need a Demat account and trading account for investment and trading in bond ETFs. Investment in Bond ETFs can be done through online or offline modes as mentioned below.
Online trading is when the investor executes the transaction through the online portal provided by the broker. Here the individual investor does the transaction on his own.
Offline trading is when the investor contacts the broker through telephone to place an order to buy or sell an ETF/stock.
Bond ETFs vs Bond Mutual Funds
Bond ETFs and Bond Mutual Funds have certain underlying differences that make them quite distinct investment products. Given below are some of such differences that may help an investor make an informed investment decision.
|Particulars||Bond ETFs||Bond Mutual Funds|
|Type of Fund||Bond ETFs are passively managed funds||Bond Mutual Funds are actively managed funds|
|Transparency||Bond ETFs provide higher transparency with respect to their holdings at any given point in time||Bond Mutual Funds declare their holdings on a periodic basis depending on the guidelines of the fund.|
|Ease of trading||Bond ETFs can be traded in the open market like any other ETF or individual stock in real time||Bond mutual funds cannot be traded in the open market during market hours. This is the fundamental difference between Bond ETFs and Bond Mutual Funds|
|Expense ratio||Being passively managed funds, the expense ratio of Bond ETFs is lower||Bond Mutual Funds are actively managed funds and have a team of fund managers at their disposal and hence have a higher expense ratio as compared to Bond ETFs. Also, most funds are subject to exit loads that add to the expense of the investors|
Bond ETFs are a good investment product for investors with a low risk appetite and seeking a fixed income investment. These finds combine the benefits of bonds and equity in the best possible manner to provide higher returns to the investors.
Frequently Asked Questions
Do bond ETFs provide fixed monthly income?
Yes. Bond ETFs hold individual bonds having different coupon rates and payouts at different intervals. Hence, to provide better ease to investors of bond ETFs, these funds provide fixed interest on a monthly basis.
Is there any minimum investment amount required for Bond ETFs?
No. Bond ETFs do not have any minimum investment requirements as compared to regular bonds.
What are the target investors for Bond ETFs?
Investors seeking fixed income at lower risk exposure are the target investors for Bond ETFs.
What is the impact on the principal in the case of Bond ETFs?
Most Bond ETFs do not have any maturity date, hence the principal will fluctuate based on market fluctuations as against standard bonds where the principal amount is guaranteed.
What is the proportion of investments in bond ETFs?
Bond ETFs invest in securities in the same proportion of weightage as that of their underlying bond index.