Appreciate any help on this one. I understand how individual bonds work but trying to relate it to bond funds.
Rough / made-up math for simplicity, should be close enough. So let's say I buy a VZ bond with par value $5,000 for $4,800, so at a $200 discount. Coupon rate is let's say 2.75%, but it's somewhere around a 3.2% YTM at purchase because of the discount. It matures in 5 years. I hold it for 1 year, the market value drops to $4,700 during that time because interest rates rise in the market. I sell. I take a paper loss of $100 (offset by the interest payments I received during that time) but if I hold the bond forever, I eventually get my $5,000 cash plus regular coupon payments, so I get the YTM of 3.2%. So by holding to maturity I won't ever really take a nominal loss unless the company defaults and I won't ever take a real loss unless interest rates rise above 3.2%.
How do Bond Funds work? Are the managers trading bonds, or holding to maturity? In other words - can a bond fund ever have a year where returns are negative if the underlying firms don't go under? In that case it would be driven I guess by taking paper losses on older bonds in order to use the cash to buy new ones and get higher interest rates in the future. Why would they ever sell a bond in their fund?
TLDR, I'm trying ultimately to understand the true annual risk profile of bonds and what returns look like in bull, bear markets etc.
Any help on this is greatly appreciated!
Submitted May 26, 2018 at 09:43AM by OldMan0919 https://ift.tt/2GSNUlJ
