It's Time
To Think About
Fixed-Rate Investments Again
By Andrew Leckey
Average
investors, put your thinking caps back on.
Early in 2000, you
were called up on to learn the basics of technology investing.
Unfortunately, a tech-stock bloodbath followed.
Now, in the wake of
the Federal Reserve's recent half-percentage point boost in short-term
interest rates, it's time to become proficient in fixed-rate
investments.
It's quite likely interest
rates will move a bit higher by year's end, though not dramatically
so, as the Fed continues to fight inflation and reign in a red-hot
economy. As a result, we'll continue to experience the highest
mortgage rates and credit card rates in several years. Plan accordingly.
Rising interest rates
and the threat of inflation always tend to spook the stock market.
There's additional concern that volatile technology stocks may
not be as insulated from economic vagaries as some pundits had
thought. That's why many investors have been shifting a portion
of their money out of stocks altogether and into other types
of investments. Right now, the fixed-rate choices look good.
"By the end of
the year, interest rates should be another .25 to .50 percent
higher than they are now," predicted Martin Mauro, senior
economist with Merrill Lynch. "The Fed wants to make sure
that it stays ahead of inflation, and that means we should get
some slowing in economic growth and in interest-sensitive industries
such as housing."
In the meantime, investors
can nab some very good deals. For example, two-year certificates
of deposit are currently yielding more than 7 percent and two-year
Treasury securities more than 6.75 percent, both of which Mauro
considers extremely good returns. When buying taxable bonds,
stay in the five- to 10-year intermediate maturity range, he
recommends, while in the municipal bond market (preferable for
those in higher tax brackets because they're exempt from federal
tax) 10- to 15-year maturities are still prudent.
Some experts are more
conservative in their expectations about the extent of upcoming
Fed actions.
"I don't think
rates will be increased another .50 percent by the Fed at its
next meeting in late June, as some people are predicting,"
said William Hornbarger, fixed-income strategist with A.G. Edwards
& Sons. "We think we're pretty close to the end of this
tightening cycle and the risk now is that the Fed overtightens."
Honrbarger sees excellent
opportunities outside the stock market. The average long-term
investment-grade corporate bond is yielding close to 8.50 percent,
he noted. To be on the safe side, he'd stick with the bonds of
high-quality household names such as Lucent Technologies, Wal-Mart
Stores and AT&T Corp.
"I think the Fed
will do another .25 percent rate increase at its next meeting
in June," said John Ryding, senior economist with Bear,
Stearns. "But I see no reason to expect rates will be increased
.50 percent unless we see a very strong employment report and
deterioration in the consumer price index."
The curve for Treasuries is currently inverted, meaning longer-dated yields are lower than short-dated yields, reducing the incentive to commit money longer-term. Moving some money into fixed-rate choices doesn't mean you've given up on the stock market. It just means the traditional mix of stocks, bonds and cash still makes some sense.
"We're seeing a lot of people who'd become overweighted in equities now reallocating their portfolios," Hornbarger summed up. "They've now seen some increased volatility and they're hoping to reduce risks, lock in some gains from their stocks and take advantage of the attractiveness of bonds."
The upward movement in rates has taken its toll on the returns of bond funds, with the average intermediate-term bond fund down 0.22 percent over the past 12 months.
The total returns (yield plus value of the underlying bonds) of the top-performing intermediate-term bond funds with average credit quality of BBB or higher over the past 12 months, according to Morningstar Inc., were:
Montgomery Total Return Bond Fund, Class R, San Francisco; $27 million in assets; "no-load" (no sales charge); $1,000 minimum initial investment; toll-free number 800-572-3863; 12-month bond yield 6.45 percent; average bond duration 4.85 years; 1.67 percent.
FPA New Income Fund, Los Angeles; $507 million; 4.5 percent front-end load; $1,500 minimum; 800-982-4372; 12-month bond yield 6.87 percent; bond duration 4.3 years; 1.47 percent.
Fremont Bond Fund, San Francisco; $162 million; no-load; $2,000 minimum; 800-548-4539; 12-month bond yield 6.17 percent; bond duration 4.7 years; 1.45 percent.
Vintage Income Fund, Columbus, OH; $108 million; no-load; $1,000 minimum; 800-438-6375; 12-month bond yield 5.97 percent; bond duration 4.9 years; 1.36 percent.
Firstar Bond Immdex-Retail Shares, Milwaukee; $511 million; 2 percent load; $1,000 minimum; 800-228-1024; 12-month bond yield 6.18 percent; bond duration 5.3 years; 1.21 percent.
Intermediate bonds typically have an effective maturity between four and 10 years. All the above funds are available to individual investors.
