Two Ways to Compare Bond Fund Yields

Interest rates are still hovering at their lowest levels in decades, and many investors are looking for bond funds that generate a suitable level of income. If you’re one of them-and are comparing income funds-you may want to look at one or both of two commonly quoted figures: the SEC yield and the dividend rate (also referred to as distribution yield).

A dividend rate shows what a bond fund pays you in distributions. The figure is typically calculated by taking a bond fund’s income in the most recent month, multiplying by 12, and dividing by a recent fund share price.

That’s great, but the number assumes that a fund’s distributions remain constant for a year, which may not be the case. This is why investors also look at the SEC yield. This standardized yield-devised by its namesake, the Securities and Exchange Commission-seeks to more accurately reflect a bond fund’s income-producing potential over time by looking at the “yield to worst” of all the individual holdings in a mutual fund’s portfolio.

Which is better?

Both the dividend rate and the SEC yield provide useful information to investors, but which of the two is a better indicator of a fund’s actual yield is less clear. Many people prefer SEC yield because it takes into account the eventual decline of a bond now trading at higher than face value. Others prefer dividend rate because SEC yield includes some worst-case assumptions.

In general, it’s a good idea to ask your advisor. He or she can help you read the fine print in order to ensure that you understand what kind of yield you’re looking at and accurately compare and contrast it (because dividend rate is not directly comparable to SEC yield).

It’s also important to consider other factors when investing in a bond fund, and your advisor can discuss these with you in detail.

How Thinking Small Could Have Big Investment Potential

Investors who don’t recognize the big performance potential of small-cap stocks could be missing some compelling investment opportunities.

Market capitalization, a measure of a company’s size, is the total dollar value of all outstanding shares of stock. (It’s calculated by multiplying the number of shares by the current market price.) Stocks with a relatively small market capitalization are considered small capitalization (or small-cap) stocks.

Although small-cap companies are diverse-there’s no clear definition of just what range of market capitalizations a stock has to fall into to be considered small-cap-they do share some characteristics. For example, their size can allow small-cap companies to react more quickly to changes in the economy than larger companies (which explains why small-cap stocks have traditionally performed well when the economy is emerging from a downturn).

This is why some investors turn to small-cap stocks: They offer diversification potential. While diversification can’t guarantee a profit or ensure against a loss, it can help even out the ups and downs of a portfolio.

Of course, no stocks are without risks. Any stock represents ownership in its issuer, and stock prices can be hurt by poor management or shrinking product demand. However, this may be accentuated in smaller companies.

As a result, you may want to consider diversifying the small-cap component of your portfolio by investing in a variety of small-cap stocks. Purchasing shares of a mutual fund that invests specifically in small-cap stocks is one way to do this. Discuss your options with your advisor.