Best of the Week
Most Popular
1.Crude Oil Price Trend Forecast 2016 Implications for Stock Market - Nadeem_Walayat
2.Odds of Winning Walkers Crisps Spell & Go olidays K, C and D Letters - Sami_Walayat
3.Massive Silver Price Rally During The Coming US Dollar Collapse - Hubert_Moolman
4.Pope Francis Calls For Worldwide Communist Government - Jeff_Berwick
5.EU Referendum Opinion Polls Neck and Neck Despite Operation Fear, Support BrExit Campaign - Nadeem_Walayat
6.David Morgan: There Will Soon Be a Run to Gold Like You've Never Seen Before - Mike Gleason
7.British Pound Soars on BrExit Hopes Despite Remain Establishment Fear Mongering - Nadeem_Walayat
8.Gold Price Possible $200 Rally - Bob_Loukas
9.The Federal Reserve is Not Going To Raise Interest Rates and Destroy Gold - Michael_Swanson
10.Silver Miners’ Q1’ 2016 Fundamentals - Zeal_LLC
Free Silver
Last 7 days
The Next Systemic Lehman Event - New Scheiss Dollar & Gold Trade Standard - 27th May 16
Energy and Debt Crisis Point to Much Higher Silver, Metals Prices - 27th May 16
Gold Junior Stocks Q1 2016 Fundamentals - 27th May 16
These Crisis Markets Are Primed to Deliver Big Gains, Platinum Never Cheaper! - 27th May 16
Operation Black Vote BrExit Warning for the Wrong EU Referendum - 27th May 16
UK Immigration Crisis Hits New Extreme, Catastrophic ONS Migration Stats Ahead of EU Referendum - 27th May 16
Many of the World’s Best Investors Made Their Fortunes This Way…And You Can Too - 27th May 16
The Ugly Truth About Stock Market Manipulation and Gold Prices - 27th May 16
Gold Price Looking Vulnerable While Gold Stocks Correct - 27th May 16
The 5 Fatal Flaws of Trading - 27th May 16
The Next Big Crash Of The U.S. Economy Is Coming, Here’s Why - 27th May 16
A New Golden Bull or Has the Market Gone Too Far Too Fast? - 27th May 16
It Feels Like Inflation - 26th May 16
Negative Interest Rates Set to Propel the Dow Jones to the Stratosphere? - 26th May 16
S&P Significant Low has Occurred – Not Likely! - 26th May 16
Statistics for Funeral Planning in UK Grave - 26th May 16
Think Beyond Oil And Gold: Interview With Mike 'Mish' Shedlock - 26th May 16
Hard Times and False Mainstream Media Narratives - 26th May 16
Will The Swiss Guarantee 75,000 CHF For Every Family? - 26th May 16
Is There A Stocks Bear Market in Progress? - 26th May 16
Billionaires Are Wrong on Gold - 26th May 16
How NOT to Invest in the Gold Market - 26th May 16
The Black Swan Spotter...Which Saw the Oil-Crash coming; now says the “Invisible Hand” will push Brent to $85 by Christmas - 26th May 16
U.S. Household Debt Still Below 2008 Peak - 25th May 16
Brexit: Wrong Discussion, Wrong People, Wrong Arguments - 25th May 16
SPX is at Strong Resistance - 25th May 16
US Dollar, Back From the Grave? - 25th May 16
Gold : Just the Facts Ma’am - 25th May 16
The Worst Urban Crisis in History Could be Upon Us - 24th May 16
Death Crosses Across The Board Are IRREFUTABLE Stock Market Sell Signals - 24th May 16
Bitcoin Trading Alert: Bitcoin Price Stays below $450 - 24th May 16
Stock Market Crash Death Cross Doom Prevails - 23rd May 16
Did AMAT Chirp? Implications for the Economy and Gold - 23rd May 16
Stocks Extended Their Rebound On Friday - Will They Continue Higher? - 23rd May 16
UK Treasury Propaganda Warns of 3.6% Brexit Recession, the £64 Billion Question? - 23rd May 16
Stock Market Support Breached, But Not Broken! - 23rd May 16
George Osborne Warns of 18% Cheaper House Prices - BrExit for First Time Buyers - 22nd May 16
Gold Bull-Phase I Continues to Confound (The Trek to “Known Values”) - 22nd May 16 r
Avoiding a War in Space - 22nd May 16
Will Venezuela Be Forced to Embrace the US Dollar? - 21st May 16
Danish Central Bank Stumbles with Its Currency Peg to the Euro - 21st May 16
SPX Downtrend Underway - 21st May 16
George Osborne Warns of More Affordable UK Housing Market if BrExit Happens - 21st May 16
Gold And Silver 11th Hour: Globalists 10 v People 0 - 21st May 16
David Morgan: There Will Soon Be a Run to Gold Like You've Never Seen Before - 21st May 16
Gold Stocks Following Bull Analogs - 20th May 16
The Gold Chart That Has Central Banks Extremely Worried - 20th May 16
Silver Miners’ Q1’ 2016 Fundamentals - 20th May 16
Stock Market Rally At the End of the Road? - 20th May 16
British Pound Soars on BrExit Hopes Despite Remain Establishment Fear Mongering - 20th May 16
NASDAQ 100, FTSE, and British Pound - When Rare Market Data Screams, Listen  - 20th May 16

Free Instant Analysis

Free Instant Technical Analysis


Market Oracle FREE Newsletter

Why 95% of Traders Fail

U.S. Bond Market Trouble Ahead

Interest-Rates / US Bonds Apr 19, 2013 - 08:40 PM GMT

By: Investment_U

Interest-Rates

Alexander Green writes: Warren Buffett recently opined that bonds should come with a warning label these days.

That is doubly true of most bond funds. Many investors are about to get steamrolled. But if you act now, you can avoid getting hurt.


Let me explain…

Historically, the best-performing bond funds have had one thing in common: low expenses.

For example, Vanguard’s fixed-income funds are routinely found in the top quartile of annual bond fund performance. Why?

Because, unlike stocks – where security selection is the key to outperformance – it’s tough to increase returns by picking individual bonds.

I’ll concede, however, that it is possible.

More than 30 years ago, Bill Gross and his colleagues at PIMCO pioneered a new approach to bond investing. Until then, a lender handed his money over to the borrower and then collected interest until the borrower repaid the loan.

The notion that anyone might routinely trade these instruments by selling them to others prior to maturity did not exist.

Gross recognized that opportunities exist to trade in and out of various sectors of the bond market – as well as individual issues – and moved to capitalize on this reality.

As a result of his expertise, the PIMCO Total Return Fund has outperformed through all market cycles over the long term. But Gross is often called “The Babe Ruth of Bonds” precisely because this is so darn hard to do.

Historically, the vast majority of fixed-income managers underperformed their unmanaged benchmark, like the J.P. Morgan Global Government Bond Index or the Barclays Capital Aggregate Bond Index.

But – surprising many analysts – this hasn’t been the case lately.

Hitting the Mark
Last year, for instance, 79% of intermediate-term bond funds – which hold a mix of government and corporate bonds maturing in five to 10 years – beat their benchmark. And over the past year, investment-research firm Morningstar estimates that long-term government bond funds beat their benchmarks by 2.5 points.

Wow.

Predictably, money is now cascading into actively managed bond funds as investors chase performance the ways dogs chase cars. (And with the same general results.)

Industry figures show that three-quarters of new fixed-income investments are going to bond pickers, not passively managed index funds.

Big mistake.

The hot bond funds are hot precisely because they are taking significantly more risk than the index funds.

Consider “duration,” a measure of a fund’s sensitivity to interest-rate changes based on the average maturity of the bonds it holds. As most bond investors know, you get a higher yield by owning longer maturities. So these bond fund managers have simply increased the average duration of the bonds in their portfolios.

This is all well and good as long as rates are steady or dropping, as they have been for the last 30 years. But when rates rise – as they inevitably will as the economy improves and the Federal Reserve ends its quantitative easing policy – these bonds (and bond funds) will get hurt much more than those with shorter maturities.

Dumb Moves
Another way bond managers goose returns is by buying “junkier” bonds. This too, of course, is riskier than owning bonds of higher credit quality.

And, thirdly, many bond managers are using leverage. That means they borrow money to buy extra bonds and thereby further increase yields. This is the equivalent of buying stocks on margin – and shareholders can expect the same result when the bond market sells off (which it will when interest rates rise).

In short, at the tail end of a 30-year rally in bonds – the longest and most massive in history – investors are piling into precisely the wrong investment. They are buying actively managed funds (with high expenses) that own longer maturities and riskier credits using leverage.

If you don’t understand what is going to happen here, visit your local old-timer and ask him what happened to his fixed-income portfolio in the early ’80s.

It wasn’t pretty.

And while it’s unlikely we’ll see the sort of hyperinflation that plagued investors three decades ago, bond fund buyers are in for a rude awakening when they see what happens to their supposedly “safe” fixed-income investments in a rising interest rate environment.

All fixed-income investors face an important choice. They can switch to low-cost, passively managed short-term bond ETFs and index funds, or they can stick with the active fund managers and learn the hard way.

The wise will opt for the former. As Ben Franklin said, “Experience is a dear school but fools will learn in no other.”

Good investing,

Alex

P.S. For those who depend on fixed income, I suggest you check out the work from my friend and colleague Steve McDonald. His strategy is truly the only safe way to navigate fixed income in our current interest rate environment

To view all of Steve’s work, click here.

Source: http://www.investmentu.com/2013/April/the-trouble-ahead.html

http://www.investmentu.com

Copyright © 1999 - 2011 by The Oxford Club, L.L.C All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Investment U, Attn: Member Services , 105 West Monument Street, Baltimore, MD 21201 Email: CustomerService@InvestmentU.com

Disclaimer: Investment U Disclaimer: Nothing published by Investment U should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investment advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication or 72 hours after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Investment U should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Investment U Archive

© 2005-2016 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife