While stocks are a common investment product and cater to a variety of investors, bonds are the other side of popular investments. They are one of the oldest forms of investment available to investors. Bonds are a common term used while discussing investment products and often used to balance an investment portfolio of equity investments. Investors today have many options to invest in bonds and various products related to bonds. Bond Exchange Traded Funds are one such popular investment product.
It is important to understand the difference between Bonds and Bond ETFs to make better investment decisions. Given below are the details of these two investment products.
What are Bonds?
Bonds are the secured instruments that are issued by authorized entities to raise money for any specific purpose. These bonds are issued by either government or government bodies, corporate entities, or treasury bonds (issued by the US department). Bonds are issued for a fixed tenure during which the investors receive interest at a fixed rate at periodic intervals. At the end of the tenure of these bonds, The amount invested is returned to the investors. Some examples of bonds are SGB (Sovereign Gold Bonds), RBI Bonds, Government Security Bonds (G-Sec), Zero Coupon bonds, Corporate Bonds, etc.
What are Bond ETFs?
Bond ETFs are a modified form of investment in bonds that are wrapped in the form of ETFs to include its benefits. Bond ETFs are a basket of bonds that are compiled together to form an Exchange Traded Fund. Like any other ETF, bond ETFs also track an underlying index that is made up of bonds. Bond ETFs track such indexes for their performance. While the index is formed of only bonds, they can be traded on the stock exchange like any other ETFs.
Some of the top examples of Bond ETFs in India are Bharat Bond ETF, Nippon ETF Long Term Gilt, LIC G-Sec LTE Fund, SBI ETF 10 Year Gilt.
Difference between Bonds and Bonds ETFs
Bonds and bond ETFs are two distinct investment products as their modification into ETFs changes the inherent structure of these bonds. Given below are a few basic differences between Bonds and Bond ETFs.
| Category | Bonds | Bond ETFs |
| Cost of investment | The cost of investing in bonds is higher than the cost of investing in Bond ETFs | Bond ETFs like any other ETFs have a lower cost of investment. Investors get the benefit of investing in multiple bonds through a single Bond ETF. |
| Maturity | Bonds have a fixed maturity date | Bond ETFs do not have any fixed maturity. The maturity of Bond ETFs is the weighted average tenure of all the Bonds in the fund. Once the bonds in the fund mature, other bonds take their place to keep their maturity constant. |
| Diversification | By investing in bonds, investors get exposure to only that particular bond. | Investors can get the benefit of diversification that is inherent to ETFs. Investors will be able to get the benefits of multiple bonds from different sectors or industries through a single Bond ETF |
| Liquidity | Bonds have a fixed maturity and lock-in period | Bond ETFs can be traded in stock markets like any other ETFs. This provides higher liquidity as compared to regular bonds |
| Payouts | With an investment in bonds, investors get the benefit of fixed returns at regular intervals as per the guidelines of the bond | In the case of Bond ETFs, there may be multiple bonds that have different interest payout intervals. To resolve this conflict, Bond ETFs provide the agreed payouts at monthly intervals. |
Benefits of investing in bonds
There are several benefits of investing in bonds. Some of these benefits are discussed below.
- Stability of return
The biggest advantage of bonds is the stability of returns for the investors. The investment in bonds is a secure investment and the payments to the investors are met at fixed intervals. These payments are to be mandatorily met by the bond issuing authority failing which they are liable to face a penalty.
- Low risk
As mentioned above, Bonds are considered to be secure investments and are typically preferred by the risk savers investors.
- Capital preservation
The initial investment of the investors is returned to them at the time of maturity of the bonds. Hence, their capital is preserved at all times and is returned to them along with the interest due at regular intervals.
- Easy accessibility
Investment in bonds can be done easily by any investors directly or through their brokers whenever the bonds are issued. Investors simply need to fill up the required forms and make the payment as per the bond value to invest in the bonds. This makes it easily accessible to all categories of investors.
Benefits of Bond ETFs
While we have considered the advantages of investing in Bonds, let us now discuss the benefits of investing in Bond ETFs.
- Enhanced liquidity
Bond ETFs can be traded on the open market easily at current market prices. This makes them highly liquid as compared to the original bonds.
- Perpetual maturity
While investment in bonds is subject to a fixed maturity period, Bond ETFs do not have a fixed maturity date. The tenure in the case of bond ETFs is the weighted average of the tenure of all the bonds in the fund. When a single bond in the fund matures, such bond is exited from the fund and a new bond takes its place to maintain the maturity of the Bond ETF.
- Ease of trading
Like any other ETFs, bond ETFs can be traded in the open market. Investors will simply need to have a Demat account and a trading account for the same.
- Diversification
Diversification is the inherent benefit of any ETF. Bonds ETF provides the investors with the benefit of investing in multiple bonds through one ETF which would have otherwise been very expensive for the investors.
- Increased payments
Since the bonds in any Bond ETF will have varying maturity dates and payout intervals, Bond ETFs provide fixed monthly payments to their investors. This increased frequency of payouts is an added advantage of the Bond ETFs.
Conclusion
Bonds have been traditionally favored by risk-averse investors but they have certain shortcomings like limited returns, low liquidity. With an investment in Bond ETFs, investors can overcome these basic disadvantages as well as get the added benefits of an ETF like diversification, perpetual maturity, etc. For an average investor, investing in multiple bonds become a costly affair but ETFs provide an easy solution to such investors.
FAQs
1. What is cheaper among investments in bonds and bonds ETFs?
A. Bond ETFs provide the benefit of investing in multiple bonds at the same time through a single investment. This decreases the average cost of investment in these bonds. Hence, investing in bond ETFs is cheaper than investing in individual bonds.
2. Can bond ETFs be traded at current market prices?
A. Yes. Bond ETFs can be traded at current market prices that are updated every 15 seconds and are readily displayed for the benefit of investors.
3. What are the common types of bonds?
A. The most common types of bonds issued in the market are,
- Corporate bonds issued by top corporates to raise funds
- Treasury Bills (T-Bills) issued by the Government of India
- Government bonds issued by Central or State governments or local municipal authorities.
