USING BOND FUNDS
With money flowing into stock funds and interest rates expected to move up a bit more this year, fixed-income funds might not be the sexy choice but they still can make sense.
Look at the numbers and it's clear that investors have pretty much given up on long-term taxable bond fund investing this year. According to Lipper, Inc, the biggest winners in the inflows of money into mutual funds game in January were equity funds---more specifically growth funds. On the fixed income side, money market and tax-free funds captured a couple of bucks---although the numbers were nothing to rave about. As for interest in long-term taxable bond funds, the January effect on them was worse than zilch as more money flowed out than in.
A rising interest rate environment can look like the kiss of death for long-term bond funds, especially if you're a total return hound. Total return, after all, includes both a change in price and interest income and when interest rates are on the rise, the prices on bonds fall. So, for the long-term bond fund investor who is reinvesting all the income their bond fund kicks off, total return figures aren't always the sweetest. But there are more ways to play this asset class and here are a couple of ideas:
Don't overlook money market mutual funds. Market mutual funds are made up of short-maturing fixed-income securities like treasury, tax-free and government bonds. Because their share price is typically $1 for purchasing and $1 when redeeming shares, the yields on them will change as interest rates do---moving either upwards or downwards as the market dictates. More than a parking place for money, these funds can form the base from which a portfolio of mutual funds is built upon.
For those who already have a stable of funds that may include say a health/biotech fund---they were up on average almost 27 percent year-to-date through Feb. 24----and a financial fund ---on average down more than 14 percent through that same period---- knowing that they've some money in a money market fund that's yielding about 5 percent can be both very comforting and smart.
Go with the flow of floating rate funds.
According to Chauncey Lufkin, portfolio manager of the Franklin Floating Rate Trust," This fund will keep up with (interest) rate increases no matter how much the Fed raises rates."
The reason is because bonds in floating rate portfolios don't have fixed coupons on them. Instead, they will float and change over time reflecting any movements in interest rates.
In Franklin's fund, the average reset for the entire portfolio is 42 days.
Take the money. Most bond fund investors reinvest all interest income that their funds kick-off instead of taking the monthly, quarterly or annual income that they provide. But if you don't need that income, instead of reinvesting it all whys not use some of it.
Margaret Patel, portfolio manager of Pioneer Strategic Income Fund, (formerly this fund was the Third Avenue High Yield Fund), said that many of the income investors she has talked with aren't only income investors but are folks who would like to participate in other areas of the market as well. Her idea may make you money from the money you've already made.
"You'll have an income stream off of this fund and if you think equity funds are attractive, take that dividend stream and invest some of it in gold, emerging markets, bio/tech or whatever type of fund you'd like," says Patel.
Pointing out that sooner or later dividend streams from fixed-income funds change, Patel says that by using that income to make other investments, you're building up value.
No matter what type of bond fund you choose, don't forget to check the overall ratings on the bonds in its portfolio as it will impact the fund's yield. And since not all bond funds are created equally, some are riskier investments than others.
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