Best Bond Funds for Steady Returns

Hassan Maishera - December 20, 2019

Bond funds offer a simple way to invest in bonds without buying individual securities. These funds are similar to mutual funds, except they solely hold bonds instead of mixing their holdings with equities.

Some bond funds make monthly coupon payments. The yield is low, but the payments are consistent. Bonds have less inherent risk than stocks, so they tend to perform well during times of uncertainty. Bond funds generated excellent money returns in 2019,  and bonds are closing in on a record-breaking year.

With so many bond funds available to investors, it’s tough to determine which bond funds are great. Investors may turn to personal finance coaches to find the best bond funds with high but steady returns. Here, we will discuss some of the best bond funds that could guarantee stable returns for investors.

Bond Funds for Steady Returns: Our Best Picks

For the best bond funds, we looked at funds that guarantee sizeable and steady yields for investors. These have a substantial net asset and invest in bonds both within and outside the US.

Vanguard Wellesley Income (VWINX)

The Vanguard Wellesley Income has been around since 1970. It’s one of the most successful bond funds in the country designed for conservative investors. The fund invests in investment-grade fixed income securities and common stocks with above-average dividends.

This bond fund is one of the best due to its ability to deliver steady returns. As of 2018, over the past three years, the average annualized returns of the fund stood at 6.97%. Meanwhile, its five-year annualized return was 6.26% and the 10-year return was 7.91%.

best bond funds | vanguard group

Vanguard revolutionized investing by being among the first firms to offer low-fee, passive bond index funds.

Over the past decade, the Vanguard Wellesley bond fund has outperformed the general market. Even when the market recorded losses, the losses of the fund were smaller than the average.

The minimum initial investment for the fund is $3,000. However, it has a low expense ratio of 0.22%. With over $50 billion in assets, the Vanguard Wellesley Income Fund is one of the best bond funds. It invests in fixed income securities, like investment-grade corporate bonds. Aside from fixed income securities, it also invests in large-cap, dividend-paying stocks.

Since its inception, it has generated an average annualized return of 10%, making it one of the most stable bond funds currently available.

Fidelity Capital & Income Fund (FAGIX)

The Fidelity Capital & Income Fund is one of the bonds found in Morningstar’s High-Yield Bond category. It’s a $12.38 billion portfolio (assets under management) that has received excellent ratings over the years. As a conservative bond fund, Fidelity Capital & Income Fund is comprised of a mix of equities and fixed income securities. The fund primarily holds bonds rated below investment-grade. The initial investment for the fund is $2500.

This Fidelity fund balances income and capital appreciation for its investors, so they make some speculative investments for a chance at higher returns. The investment is not restricted to domestic issuers as they also target foreign issuers.

The bond fund has outperformed its category over the past few years and could continue to do so. It’s currently amongst the leading bond funds in its category. Fidelity Capital & Income Fund’s annual income rate of roughly 5% is a consideration as it provides stable income.

Vanguard High-Yield Corporate Fund Investor Shares (VWEHX)

The Vanguard High-Yield Corporate Fund Investor Shares is another bond fund that has over $26 billion in net assets. It’s a corporate fixed income portfolio that seeks to provide a high level and consistent income. The Wellington Management Company currently manages the fund. The initial investment required for this bond fund is $3,000, with an annual expense ratio of 0.23%. This is a low expense ratio for this fixed income portfolio. For investors who can afford the minimum of $50,000 for Admiral Shares, it has an expense ratio of 0.13%.

More than 80% of the total assets under the Vanguard High-Yield Corporate Fund Investor Shares are invested in corporate bonds rated below Baa by Moody’s. The fund also invests in bonds with equivalent ratings by independent bond rating agencies. The Vanguard High-Yield Corporate Fund Investor Shares invests in mostly higher risk, high-yield bonds.

High-yield bonds seek to provide investors with consistent income while reducing losses. The annualized average return on this fund is roughly 5%. The fund has maintained this over the years, making it a consistent and stable bond fund.

High-yield bonds come from companies or countries with low credit ratings. Therefore, high-yield bonds have higher risk than higher-rated bonds. High-yield bonds or ‘junk bonds’ yield much higher returns than traditional investment-grade bonds, but there’s a higher risk that the bond issuer could default. If that happens, you’re at risk of losing your principal investment.

Also, you can try Vanguard’s High-Yield Tax Exempt Fund (VWAHX) if you’re interested in municipal bonds. Generally, municipal bonds are less likely to default than corporate bonds.

BlackRock High-Yield Bond Fund (BHYCX)

BlackRock High-Yield Bond Fund is a high-yield Bonds according to Zacks Investment. The fund invests in junk bonds and has a higher risk compared to its other investment grades. However, the yield is high and consistent.

This best bond fund is managed by BlackRock, with total assets of over $17 billion. While the average performance of the fund over the past five years hasn’t been excellent, the high yield fund has performed excellently in recent years.

Blackrock is one of the biggest names in bond funds. They offer a wide variety of bond funds that cover several different categories and strategies.

The BlackRock High Yield Bond Fund has a modified duration of 3.16 years, similar to other high-yield bonds. Its initial investment is $2500 and it has a net expense ratio of 0.61% annually, which is below the category average of 1.17% expense ratio. This is low expense ratio that makes the BlackRock High Yield Bond Fund cheap compared to its peers. For individual investors, the fund has an expense ratio of 1.64%.

iShares iBoxx $ High Yield Corporate Bond ETF (HYG)

The iShares iBoxx $ High Yield Corporate Bond ETF has been focusing on tracking the investment results of an index made up of U.S. dollar-denominated, high yield corporate bonds. The fund invests roughly 90% of its total assets in component securities of its Underlying Index. The fund has greater volatility than some more conservative bond funds.

The fund is an ETF that provides investors broad exposure to high-yield bonds in the United States. The iShares iBoxx $ High Yield Corporate Bond ETF has total assets of over $19 billion, with a paid a 30-day SEC yield of around 4.83% as of December 2019. They have over a thousand holdings with an expense ratio of 0.49%. This expense ratio of 0.49%  makes it one of the cheapest bond funds in high-yield bonds.

The average annualized return of the iShares iBoxx $ High Yield Corporate Bond ETF fund has been impressive. Its 1-year yield is 6.42%, 5.43% for 3 years, and 4.40% for 5 years. Meanwhile, its 10-year average annualized return currently stands at 6.66%. That’s a good gauge for management. Although high-yield bonds have a higher risk, the fund’s ability to consistently deliver an annual return of 5% of more makes it stable.

SPDR Bloomberg Barclays High Yield Bond ETF (JNK)

The SPDR Bloomberg Barclays High Yield Bond is an ETF that has been focusing on providing investment that is appropriate for investors looking at fees. The fund provides results in line with the price and returns of an index that tracks the high-yield corporate short-term bond market.

The JNK High Yield Bond fund avoids several of the expenses and minimums that can be found in mutual funds. It follows the performance of the SPDR Bloomberg Barclays High Yield Very Liquid Index. The total assets under this fund currently stand at over $11 billion. It has $10.02B assets under management.

This high yield bond fund primarily invests in the industrial sector, which comprises 87% of its total assets. It has an expense ratio of 0.4%, a very low expense ratio for its category. Yield has been impressively consistent in this fund over the past few years. The average annual return in ten years was 6.64%, which is above the category average for funds during the period.

Similarly, its 1-year yield stands at 13.2%, while 6.07% and 4.94% are the average returns for 3 years and 5 years, respectively. With an average annual return of over 5% over the past few years, the SPDR Bloomberg Barclays High Yield Very Liquid Index is one of the most stable bond funds for investors. So while there’s a high risk in yield bonds, JNK has pretty good management and is one of the best you can invest in.

USAA Tax-Exempt Intermediate-Term (USATX)

The USAA Tax-Exempt Intermediate-Term is a municipal bond fund that has been providing investors with interest income that is excluded from the federal income tax. The municipal fund primarily invests in investment-grade securities. The interests that accrue from such investments are exempt from the federal income tax.

While the municipal fund has an extensive portfolio, the fund invests roughly 80% of its total assets in tax-exempt securities. The total assets under management in this municipal fund are $5.14B. The securities have an average maturity of between 3 and 10 years. The net assets under the USAA Tax-Exempt Intermediate-Term are over $5 billion, with a net expense ratio of 0.48%.

The USAA Tax-Exempt Intermediate-Term Municipal Fund outperformed the benchmark average in almost every category. With a consistent annualized return of roughly 4%, it provided a steady yield for investors for the past few years. The minimum initial investment is $3000.

It gained significantly in recent quarters. If the management continues along that trend, it could provide superior money returns in the coming years. Keep in mind that investing in municipal funds carry inflation risk and interest rate risk, but this municipal bond fund is a great addition to your portfolio.

Vanguard Total Bond Market (BND)

The Vanguard Total Bond Market tracks the performance of the Bloomberg Barclays U.S. Aggregate Bond Index. Most of the bonds in this index are US Dollar-denominated bonds with one year before maturity. The fund balances the bonds every month.

Investing in the Vanguard Total Bond Market is wise because it’s one of the largest bonds funds on the market, with assets totaling $247 billion. This portfolio has an expense ratio of 0.03%. This expense ratio makes it one of the cheapest bond funds in its category, and low expense ratios are important when choosing funds. The 10-year yield of the Vanguard Total Bond Market is 3.51%, which is below the category average of 4.65%. However, it outperformed the category in other performances. The minimum initial investment for BND is relatively high at $3000.

Overall, the Vanguard Total Bond Market is a low-cost vehicle for people looking to invest in US bonds. It’s an excellent diversification option. With yields around 3%, the Vanguard Total Bond Market is one of the best bond funds for steady returns.

But if you’re into investing in bond index funds, take a look at the Vanguard Total Bond Index, Fidelity Total Bond Index, and Vanguard Intermediate-Term Bond Index. Bond index funds are great for covering a large market segment while costs are kept low.

What Are Bonds?

Bonds are a form of debt. In return for a set-term loan, bond issuers pay regular coupon payments until the pre-set term expires. Then, the principal investment is returned to the investor. When a bond reaches its target date, it’s called a “matured” bond. After a bond matures, the bond issuer is obligated to return the full principal investment or “face value”. A bond is a type of fixed income investment.

So, a $1,000 five-year bond with a 3% coupon rate will pay $30 per year for five years. Once the bond matures, the issuer returns the $1,000 and the investor keeps the coupon payments for a total return of $150.

Basically, when you buy a bond you’re renting your capital for a pre-determined fee. Unlike stocks, you know how much you’ll make on your investment before you put the money down. Therefore, bonds offer a lot more certainty than stocks. That’s why bonds are considered to be “risk off” assets.

So although the interest rates in bond investing are not at par with the stock market returns, investing in bond funds is still the best foundation for an investment portfolio.

There’s also short-term bond and long-term bond. A short-term bond matures in less than five years, while a long-term bond lasts 10-30 years.

Expense ratios are also important. Having an expense ratio of 0.5% to an expense ratio of 0.75% is good for an actively managed portfolio.

Trading Bonds

You don’t have to hold a best bond until it matures, you can always sell it to someone else. However, the prices of bonds fluctuate just like stocks. If you buy or sell bonds, you’re subjected to the conditions of the free market, so you may not be able to sell your bond for face value. However, it works both ways. If your bond is in high demand, you could get even more than you paid for it.

This is the essence of bond trading. Just like stocks, traders want to buy low and sell high. However, many people consider the bond market to be “smarter” than the equity market. The market tends to undergo fewer knee-jerk reactions than equities, and price movements are usually more rational than in the stock market.

If you can buy a bond for less than face value, you still receive the full principal upon maturation and the coupon rate remains the same. Therefore, the payout yield fluctuates along with prices.

What Is Bond Yield?

Yield measures how much your investment will return on an annual basis. It factors in the current price of the bond and the coupon payments. Here’s a formula you can use to calculate bond yields:

bond yield formula infographic

Yields also factor into bond funds, and they work the same way too. Bond yields move inversely to price. As prices go up, bond yields go down. The opposite is true when prices go down. The less you pay for a bond, the more you get out of the coupon payments.

Understanding Bonds

Bonds don’t usually offer a high return rate as stocks do, but they still play an important role in investment strategy. A balanced portfolio should have a mix of bonds and equities. The less tolerance for risk, the more bonds you should hold. Your bond holdings don’t have as high of a potential for sky-rocketing returns, like stocks, but they’re a much safer play. They pay steady dividends and their prices tend to be more stable than equities. There are many types, but here are some common types of bonds you should be aware of.

Corporate Bonds

Corporate bonds are issued by private companies. Various companies issue bonds in order to attain capital, but the risk varies greatly for investors. Bonds from quality companies are often referred to as investment-grade. Interest rates are also almost always higher. While these are the most reliable options, the returns are pretty timid. Companies with lower credit ratings offer higher yields, but there may be a higher risk of default.

Government Bonds

Governments also issue bonds, commonly referred to as sovereign bonds or sovereign debt. These securities are usually regarded as the safest type of investment. However, there is still a significant amount of variance. US Treasury bonds are the cream of the crop, but smaller countries with lower credit ratings often pay higher yields. If you’re considering buying international bonds, make sure you’re aware of every risk. If a country defaults on its bonds, you’re pretty much beat. Plus, currency exchange rates can also eat into your returns. Risks in interest rates are also present when the Federal Reserve lowers rates. Don’t invest in foreign bonds unless you’re an experienced investor.

TIPS Bonds

The US Treasury also offers TIPS bonds or Treasury Inflation-Protected Securities. These bonds are indexed to inflation, so the coupon rate varies based on the current USD inflation rate. These assets are designed to protect investors from the negative effects of rising inflation. TIPS bonds determine payout rates via the Consumer Price Index (CPI), which tracks the price of common consumer goods in the US and serves as an inflation gauge. When inflation accelerates, TIPS bonds prices tend to go higher. In TIPS Bonds, interest rates are fixed and determined at an auction. However, the payments vary due to the adjusted principal.

Bond Funds vs. Individual Bonds

Bond funds offer many advantages over individual bonds, but there are some instances where the latter may be a better play. First off, bond funds never mature. They make regular payments based on the value of your investment. Many investors can stay in a bond fund indefinitely and keep receiving regular payments. If you want to cash out, you have to sell your stake. Therefore, bond funds are always subject to free-market conditions.

Individual bonds have a set maturity date. When that day comes, bondholders are guaranteed to receive the bond’s face value upon maturation, as long as the bond issuer doesn’t default. If there is a default, investors don’t usually get squat. As long as you hold an individual bond to maturation, you don’t have to worry about market prices. If a $1,000 bond was trading for $900 on the open market, you’d lose $100 if you sold. However, if you held until maturation, you’d get the full $1,000 regardless of current market-set prices. Conversely, you won’t get anything if the company goes out of business or files for bankruptcy.

Individual bonds have a different risk than bond funds, but neither may be entirely safe. However, most income investors find that bond funds are more convenient.

If you’re also wondering about the difference between bond funds and mutual funds, know that a mutual fund holds a group of securities. A  bond mutual fund is basically a mutual fund that holds a group of individual bonds. A mutual fund is overseen by a money manager. The manager allocates the assets, and the CEO is the fund manager if a mutual fund is construed as a virtual company. The manager may also employ analysts for research. A bond mutual fund never matures because the money manager keeps adding to it once old ones are mature or sold. The funds above are examples of a bond mutual fund.

Bond Funds: Closing Thoughts

Bond funds have been around for decades, providing a way for investors to invest in bonds without buying the individual bond securities. Many offer steady returns to investors, best management, and usually outperform their category. They can be as attractive as mutual fund options. We’ve given you information on the best bond funds above.

For more on the best bond funds, mutual funds, and personal finance, sign up for Stock Dork Alerts for a steady stream of stock market news and analysis. Our easy-to-read reports can help you make a mint in the market and make great personal finance decisions. After a few weeks of Dork Alerts, you’ll be the smartest guy at the water cooler. Sign up today and get a jump on the New Year with our 2020 Growth Stock Guide, it’s yours free when you join. Click here to join and claim your free copy now.

Hassan Maishera is a cryptocurrency expert and a Stock Dork freelance contibutor.

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