Interest rates are rising, but rates are still relatively low, and many investors are looking for conservative investments – such as bond funds – that will generate a suitable level of income.
How can you find one?
The U.S. Federal Reserve raised the federal funds rate target in June for the second time this year and the seventh time since the end of the financial crisis. The last time the rate topped its current level – 2% – was late in the summer of 2008, when the Fed was cutting rates. They would remain near 0% for years.
But that’s still low. The federal funds rate topped 20% in 1981 and was around 5% leading up to the financial crisis. So if you are looking for a bond fund that will generate a suitable level of income, you may want to look at one of two commonly quoted yield figures.
The first, dividend rate (also called distribution yield), indicates what a bond fund pays 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.
Because that number assumes that a fund’s distributions remain constant for a year, which may not be the case, you may want to consider SEC yield.
This seeks to accurately reflect a bond fund’s income-producing potential over time by looking at the “yield to worst” of all the individual holdings in the fund’s portfolio.
Both figures provide useful information, but which is a better indicator of a fund’s actual yield depends.
SEC yield takes into account the eventual decline of a higher-trading bond. However, it includes some worst-case assumptions, so some investors prefer dividend rate.
Which figures you rely on can depend on personal preference and your individual portfolio. A financial professional can help you understand what kind of yield you should look at and help you accurately compare and contrast the figures.