I've been researching mutual funds and I've narrowed it down to 2 which have very similar holdings (5 of the top 10 holdings are identical) and are very similar in other side by side comparisons. The main difference is one has 70/30 % stocks and bonds (FNMA and us treasury note) the other is100% stocks. Both have Morningstar 5 star ratings. Which to choose ? How will bonds affect the dividends and capital gains in the fund?

Foil: First thigs first - before worrying about choosing a particular fund, the most important thing is to determine the allocation asset that you would like to achieve. In other words, are you interested in stocks, or bonds, or cash? Foreign stocks or US only? Large companies or small ones? Value stocks (i.e. those that tend to be low priced but predicatble), or growth stocks (the high flyers, which can turn into crashers). How risk-averse are you (if the value was to fluctuate a bit, would that cause you to lose sleep)? Finally, what's the time horizon for this investment - are you saving for retirement which may be years away, or will you need the money that you earn back within the next year or two? All of these factors should be considered in picking an investment.

But, to answer your question - the inclusion of bonds will make that investment a bit more stable. It's value will tend to fluctuate a little less. Every quarter there should be a nice little dividend paid out (it's called a dividend because any distribution from a mutual fund is considered dividends, even though the source of the distribution may have been interest paid on the underlying binds - go figure). However, the bond fund is likely to have smaller capital gain payouts, and over the long term will typically have a smaller overall rate of return than the pure stock fund. Hence, if you are young and are putting this money towards retirement that's 30 years away, all else being equal I would put it in the pure stock fund. However, if you're the nervous type, or see yourself needing to have access to the money within the next 10 years or so, I'd put it in the fund that includes some bonds. Hope this helps. Feel free to tell us what the two funds are -[perhaos someone here has experience with them.