Bond ETF

Bond ETF Meaning

Bond ETF (Exchange Traded Funds) is a fund that invests in various bands ranging from long term and short term to corporate bonds and government securities. Just like a mutual fund, the Bond ETF is an exchange-traded fundExchange-traded FundAn exchange-traded fund (ETF) is a security that contains many types of securities such as bonds, stocks, commodities, and so on, and that trades on the exchange like a stock, with the price fluctuating many times throughout the day when the exchange-traded fund is bought and sold on the exchange.read more that invests in a basket of bonds, including government bonds or corporate bondsCorporate BondsCorporate Bonds are fixed-income securities issued by companies that promise periodic fixed payments. These fixed payments are broken down into two parts: the coupon and the notional or face value.read more. The Bond ETF is traded on the exchange, unlike bonds issued in a private placementPrivate PlacementPrivate placement of shares refers to the sale of shares of the company to the investors and institutions selected by the company, which generally includes banks, mutual fund companies, wealthy individual investors, insurance companies.read more or an over the counter market.

Types of Bond ETFs

Depending on the underlying bondsBondsA bond is financial instrument that denotes the debt owed by the issuer to the bondholder. Issuer is liable to pay the coupon (an interest) on the same. These are also negotiable and the interest can be paid monthly, quarterly, half-yearly or even annually whichever is agreed mutually.read more that the fund invests in, the types can be segregated as below:

Bond-ETF

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Source: Bond ETF (wallstreetmojo.com)

#1 – Sovereign or Government Bond ETF

Sovereign or Government Bond ETFs consists of bonds issued by the Government. These investments are rated high since the Government issues it, and hence the returns on these bonds are a bit lower. As it is rightly said, the higher the risk, the higher the returns. The interest rates on these securities are way too short, and the tenure of these securities is long.

Examples

#2 – Corporate Bond ETF

Corporate Bond Exchange Traded Funds consists of bonds issued by organizations whose proceeds are used for business operationBusiness OperationBusiness operations refer to all those activities that the employees undertake within an organizational setup daily to produce goods and services for accomplishing the company's goals like profit generation.read more or project refinancing depending on the requirement of the organization. Since private organizations issue these, the bonds are considered to be risky and hence fetch higher returns. When compared to stocks, bonds are less risky because in case the issuer becomes bankrupt, the dues pending for the bondholders are paid before the stockholdersStockholdersA stockholder is a person, company, or institution who owns one or more shares of a company. They are the company's owners, but their liability is limited to the value of their shares.read more.

Examples
  • Investment Grade ETF – Bonds with ratings AAA to BBB are referred to as Investment Grade bonds, which are considered high credit ratings. This means the risk of the issuer to default is very low, and hence the return is a bit low compared to other Corporate Bond ETFs.
  • Junk Bond ETF – As the name suggests, these are bonds issued by organizations with a weak credit rating and have a higher chance of defaulting. These ETFs have a variety of Junk Bonds and hence offer higher yields, not to mention the higher risk involved due to the credibility of the issuer.

#3 – Broad Market Bond ETF

This is the most popular type of bond exchange-traded funds since it offers many bonds in one fund that includes sovereign bonds to corporate bonds. Since these have various bonds in the fund, investing in such funds reduces the risk of completely losing out on the investment, making a pathway for a long term investment option with returns at regular intervals.

Example

The Unconstrained Bond Exchange Traded Funds allows the fund manager to invest in bonds across geographies, markets, credit ratings, and currencies, thereby making the fund apt to reap the maximum benefits. Since the fund manager has the freedom to invest in any bond they desire, they can look for the bonds with the best returns at the lowest possible cost. Owing to this freedom, the Unconstrained Bond ETF can be more expensive than other Bond Exchange Traded Funds.

Advantages of Bond ETF

The following are the advantages of Bond Exchange Traded Funds.

Disadvantages of Bond ETF

Here we discuss some of the disadvantages of bond Exchange Traded Funds.

Important Points

Conclusion

Bond Exchange Traded Funds are passively managed funds that invest in a plethora of fixed income securities and are traded on an exchange. Bond ETFs charge a lower amount than the actual bond, thereby allowing investors with lower capital to invest in the bonds, which can be pricey. Some Bond ETFs have a pre-determined maturity date ranging from 3 years to 10 years and are known as target maturity bond ETFs.

This has been a guide to what is Bond ETF. Here we discuss types and examples of Bond exchange-traded funds along with advantages and disadvantages. You can learn more about financing from the following articles –