By Gail MarksJarvis
RISMEDIA, January, 2009-(MCT) – Sometimes investors get restless when they are cozy.
That’s true of risk-averse people who parked money in the safest of bonds and money market funds during the past few months.
For a while, the haven was just what investors wanted – a shield from the worst stock market plunge since 1931. But now investors, especially those retired and living off bond interest, are wondering whether they are taking a different risk. With 10-year U.S. Treasury bonds yielding only about 2.3% and money market funds under 1%, investors wonder if locking in low-interest will be their ruin.
Daring investors are starting to search for alternatives – perhaps not stocks, but something with more risk and offering more yield than the safest investments.
The answer, according to some analysts, lies in corporate bonds.
Steve Savage, editor of No-Load Fund Analyst, is telling individual investors to consider corporate bond funds and even high-yield bond funds if they can stomach more risk.
He advocates high-yield, or junk, bonds as an alternative to stocks, noting that the yields are so high they may produce returns in the teens over the next five years.
But high-yields should come with a warning: Whenever yields are high, there is a good chance that financially stressed companies won’t be able to repay their debts. In other words, bonds would default and investors would lose money.
Concerns of such a possibility caused the average high-yield bond fund to lose 28% during the last year. Even top-quality corporate bond funds lost about 6.5 percent last year, according to Lipper.
“Investment-grade corporate bonds are risky,” said Mohamed El-Erian, co-chief executive of Pacific Investment Management (PIMCO). He said 2008 was the story of a crisis, but that 2009 “will be the story of lower growth throughout the world, high unemployment and defaults.”
El-Erian said he is avoiding high-yield bonds, or the riskiest of bonds. Instead, he wants bonds from companies on a firm foundation, which are those that can fund themselves without borrowing money or refinancing old debt during this treacherous period when loans aren’t easy to get.
“We are on a very bumpy journey,” he said. “You need to pick your names very carefully in this environment.” Picking, and continually evaluating, individual bonds can be more complicated than picking stocks. Many individuals, brokers and financial planners are not up to the task as evidenced with their picks of stalwarts like General Motors and Lehman Brothers.
And the current bond market is no place for amateurs.
Tom Atterbury, co-manager of FPA New Income fund, says his bond fund remains 25% invested in cash while he hunts for bonds that might be safe. He would avoid financial services and retailers in particular.
Atterbury thinks excessive debt and the slowing economy present so much risk for bond investors that simple bank CDs, “are not a bad place (for individuals) to wait.” Investors can find some five-year CDs on Bankrate.com yielding about 4.25%.
CDs are more attractive than U.S. Treasury bonds because the CDs pay higher interest. In addition, if interest rates shoot up sharply, investors usually have the freedom of cashing their CDs early and switching to a higher-interest CD. There’s a penalty – typically a loss of three months of interest – for doing so. But taking the penalty is worth it when rates are up significantly. Investors should check on penalties before buying CDs, and should also make sure they don’t exceed FDIC insurance requirements.
Currently, if a bank fails, investors won’t lose money on a CD if the principal and interest total no more than $250,000. But that limit is temporary, and for a five-year CD, investors should stay within the $100,000 FDIC insurance limit.
Another safe bond alternative would be Treasury Inflation Securities, or TIPS. They do not pay more interest than CDs now, but these bonds don’t carry a set interest rate. If inflation picks up, as some analysts think will happen as the government pays off its tremendous debts, TIPS will be adjusted to pay higher interest.
So if you think inflation might be a threat in the future, TIPS would certainly be a better buy than U.S. Treasury bonds.
© 2009, Chicago Tribune
