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Bonds May Still Have Much to Yield

The stock market’s strong recent performance has some investing pros wondering if the pendulum may finally be swinging away from bonds. But even if the 30-year bond bull market is truly coming to an end, advisers say it would be a mistake to abandon bonds.

The Dow Jones Industrial Average rose 160 points to 13241 Monday, and some experts say these gains could continue in the coming months if the economy keeps improving. At the same time, speculation that the Federal Reserve is unlikely to further stimulate the economy with another round of quantitative easing prompted some investors to sell their Treasury bonds. That’s pushed rates on the 10-year Treasury to 2.25%, up from 2.03% at the beginning of the month. If that upward trend continues, as many analysts expect, the shift could lead to losses for bond investors, since bond prices move inversely to yield. Not all bonds would tank equally, however, says Matthias Kuhlmey, managing director at HighTower in New York. “Bonds always have a place in a portfolio – and I’m not quite convinced the equity market is out of the woods yet,” he says.

Some bonds should do well in a rising-rate environment, adviser say, suggesting investors scale back on rate-sensitive sectors like long-term Treasury bonds. Jim Holtzman, an adviser with Legend Financial Advisors in Pittsburgh, recommends investors put up to 6% of their portfolios in high-yield bonds, which have a substantial yield advantage over Treasurys. These bonds should also become less risky over time, as the companies that issue them stabilize along with the economy, he says.

Holtzman also recommends bank loan funds, which invest in loans taken out by riskier companies. and have yields that should rise along with the broader market. These bonds are also backed by collateral and have higher recovery rates than high-yield bonds, he says. And in addition to corporate bonds, Kuhlmey says investors should find refuge in debt issues by emerging market countries, which often average 6% or 7% yields, says Kuhlmey.

Of course, investors have been worried about rising rates for years. A shock to the market, such as a blow to the employment rate or further crisis in Europe, could once again send investors piling into bonds, says Holtzman. In the second half of last year, for instance, many investors were surprised to see Treasury yields decrease even after the Fed ended its quantitative easing program in June.

Still, history supports the idea that stocks could keep rising in the coming months. The S&P 500 stock index was up 11% through Friday March 23. And since 1945, the S&P gained in the second quarter 75% of the time after it rose 10% or more in the first quarter, according to S&P Capital IQ.

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    • Despire $5+ Trillion in new obama national debt, the problems have not been solved. Freddie, Fannie and Sallie are waiting in the weeds; but they won’t come out until after the election. Caution is not a bad word.

    • While I am a believe in bonds for many investors, I do not like the idea of making interest rate bets, which is how this article frames the gain opportunity for bonds. Yes, bonds change in value with interest rates but if you are looking for growth I don’t think this is the best place to look.

      Betting on long term bonds can be particularly unforgiving (and this is where the greatest temptation exists – short term rates are extremely low, so it is the longer term rates that have more opportunity for further decline). I wrote up an example that demonstrates what can happen to a retiree that uses long term bonds to generate retirement income when interest rates and inflation risk – its pretty nasty (here is the link http://bit.ly/wJ4832)

      Keep bonds invested to match to your investing horizon.

    • Investors need to understand as equity prices continue to rise in the face of the mounting debt loads this country has undertaken the risk of losses becomes that much greater. The market seems to doing well now and may do well in the near future but be very careful .

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