Unlike capital appreciation funds which multiply capital, income funds promise a sustained monthly return during the investment period. They are typically used by well-known funds such as Fairholme Fund to minimize risk through conservative investments in low-risk bonds and funds such as government debt or safe equities. Thus, the proportion of risk-based investments is much less as compared to traditional capital appreciation funds.
This does not mean that income funds are immune to a stock market’s vagaries. Just like any other investing instrument, returns from income funds are inversely proportionally to interest rates. However, unlike riskier funds, the fallout from an income fund’s risky investments is much less because the amount invested in risk is proportionally smaller.
There are several types of income funds. For example, fixed-income funds invest in securities and equities that work within predetermined parameters. Similarly, bond funds invest in bond offerings by government or corporate entities. Typically, government bond funds tend to invest in investment-grade bonds that have been rated favorably by credit agencies. However, corporate income funds have much more flexibility in making riskier investments. Thus, there might be cases of corporate income funds investing in bonds that have been classified as junk by credit rating agencies or of making high-risk betting plays. Some income funds such as real estate funds can be especially advantageous for tax purposes. This is because they can benefit from deferred tax provisions for sale of real estate properties in their portfolio.
About the author
Charles M. Fernandez is an experienced finance professional who served as President of the Miami-based Fairholme Fund.