Yahoo Finance Individual Bonds vs. Bond ETFs: How To Choose the Best Investment for You
Picking between individual bonds and bond ETFs might feel overwhelming. Both have their own strengths and weaknesses, so it’s important to see which one fits your financial goals and risk tolerance before you make a decision.
Check Out: 10 Valuable Stocks That Could Be the Next Apple or Amazon
Find Out: Become a Real Estate Investor for Just $1K Using This Bezos-Backed Startup
For example, are you drawn to the hands-on approach of choosing individual bonds, or do you prefer the more passive approach associated with bond ETFs? Here are the options and factors to consider when choosing the best investment for you.
Also see these mistakes to avoid when investing in bonds.
Wealthy people know the best money secrets. Learn how to copy them.
Bonds vs. Bond ETFs
Dennis Shirshikov, head of growth at GoSummer, is a finance, economics and accounting professor at the City University of New York. He said the primary difference between bonds and bond ETFs lies in their structure and the way they are traded.
“The primary Individual bonds are debt securities issued by entities such as governments or corporations to raise capital,” he said. “When you purchase a bond, you are essentially lending money to the issuer in exchange for periodic interest payments and the return of the bond’s face value at maturity.
On the other hand, Bond ETFs are exchange-traded funds that invest in a diversified portfolio of bonds.
“These ETFs trade on stock exchanges, allowing investors to buy and sell shares throughout the trading day at market prices,” said Shirshikov. “Bond ETFs offer liquidity and diversification, as they hold multiple bonds within a single fund, reducing the risk associated with holding individual bonds.”
Discover More: Here’s How Much a $1,000 Investment in Ford Stock 10 Years Ago Would Be Worth Today
How To Decide Between Individual Bonds and Bond ETFs
According to Shirshikov, investors should consider the following key factors when deciding between individual bonds and bond ETFs.
Liquidity
“Bond ETFs offer greater liquidity compared to individual bonds,” said Shirshikov. “Since ETFs are traded on stock exchanges, they can be bought and sold easily at market prices throughout the trading day. This is particularly advantageous for investors who may need to access their funds quickly.”
He added, “Conversely, individual bonds can be less liquid, and selling them before maturity might be more challenging and could result in lower-than-expected returns.”
Diversification
“Bond ETFs provide instant diversification by holding a variety of bonds within a single fund,” said Shirshikov. “This reduces the risk associated with the potential default of any single issuer. For instance, an investor seeking exposure to corporate bonds can buy a corporate bond ETF, which includes bonds from multiple companies, thereby spreading the risk. In contrast, purchasing individual bonds would require a significant capital outlay to achieve a similar level of diversification.”
Transaction Costs
Shirshikov said that when you invest in individual bonds, transaction costs such as brokerage fees and bid-ask spreads can be higher, particularly for retail investors.
“Bond ETFs typically have lower transaction costs,” he said. “They allow investors to buy and sell shares with minimal brokerage fees. Additionally, the expense ratios of bond ETFs are usually lower than the costs associated with managing a portfolio of individual bonds.”
Investment Strategy
It is also important to think about investment strategy and goals before choosing between individual bonds and bond ETFs.
“If an investor prefers a hands-on approach and has the expertise to select and manage individual bonds, they might opt for direct bond investments,” said Shirshikov. “For example, a retiree seeking predictable income might choose high-quality municipal bonds that provide tax-free interest. On the other hand, investors looking for a more passive approach and broad market exposure might prefer bond ETFs, which offer professional management and rebalancing.”
More From GOBankingRates
5 Places in America To Retire That Are Just as Cheap as Mexico, Portugal and Costa Rica
This is The Single Most Overlooked Tool for Becoming Debt-Free
This article originally appeared on GOBankingRates.com: Individual Bonds vs. Bond ETFs: How To Choose the Best Investment for You