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Disadvantages:

• Cost: All of the above advantages come with a cost. The cost is the annual expense ratio. If you are going to hire a company, or person, to manage your bond portfolio, you will have to pay a fee. Some bond funds charge a sales commission at purchase, while other have a back-end sales charge when you sell. This is in addition to the ongoing annual fund expense.
• Act like stocks: Bond funds are not bonds! A key disadvantage to owning bond funds is that a collection of bonds with constant maturities loses most of the attractive characteristics fixed income securities offer. When you own a pool of bonds that are constantly maturing, the value of the portfolio is based on the market value of the bonds in the portfolio at any given time. When you own a fund, the portfolio manager rarely holds the underlying bonds to maturity. Therefore, the consequence are the fixed income portfolio trades like a less volatile stock with limited upside and unlimited downside risk.
• Uncertain Income: When a pool of bonds pays interest, the interest is deposited into the master account that holds all of the investors' cash and investments. The portfolio manager charges a fee to the master account for managing the investments. The portfolio manager takes their fee first, then passes along what is left. A recent example is the iShares Treasury Inflation Protection ETF (TIP). This ETF pays monthly interest and tracks the Treasury Inflation Protection Securities of a variety of different maturities. Although the underlying bonds continued to accrue interest, this ETF failed to pay an interest payment to its investors from November 2008 through March 2009. Just because the fund owns or tracks bonds that pay interest, does not mean that interest will be paid to the investor.
• Floating Rate: The yield on a bond fund "floats" with market yields. As rates fluctuate, yields on bond funds do the same.

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• good intro. -sunskitehomes- ♂ (202 bytes) () 10/12/2010 postreply 08:03:15