Stocks are front page news, typically pushing bonds to reside in the recesses of the investment conversation. But bonds and fixed-income investments hold a place in the investment sphere. Loans to corporations, municipalities, and governments in the U.S. and internationally offer investors an income stream and provide entities with funding. These loans are bonds, which pay regular interest or coupon payments to the owners. “There will always be a place for bond investments for most investors. Bonds provide diversification from stocks and hard-asset investments, providing a steady source of income in many cases under most scenarios,” says Andrew Aran, partner at Regency Wealth Management. Here a few reasons to bulk up your bond investments.
Bonds are inversely correlated with stock market returns
Jack Janasiewicz, senior vice president at Natixis Investment Managers, likes bonds because they offset equity risk with downside protection. The negative correlation between stocks and bonds can shore up investors’ capital when stock prices fall. Long-term U.S. Treasurys are a safe investment to counter stock market risk, Janasiewicz says. There are periods when the 10-year Treasury bond outperforms the S&P 500 (.SPX). In 2008, as stocks tumbled 36.55%, the 10-year Treasury gained 20.1%, according to Federal Reserve Economic Data. In 2018, despite an S&P 500 loss of 4.23%, the 10-year Treasury was essentially flat, dropping only by 0.02%.
Emerging markets issues are a good choice
A contrarian pick today is the nondomestic bond sector. “Funds of emerging market government bonds are generally yielding between 4.5% and 6% annualized,” says Steven Jon Kaplan, CEO of True Contrarian Investments in New York. Investors are so busy chasing high-yield bond funds or junk bonds, which are currently paying below prior level returns, that they ignore safer government bonds of emerging markets, which hold long histories of steady payments, Kaplan says. Suggested exchange-traded funds include: WisdomTree Emerging Markets Local Debt Fund ETF (ELD) with a 5.83% yield, iShares JP Morgan EM Local Currency Bond ETF (LEMB) with a 3.42% yield and Cambria Sovereign Bond ETF (SOVB) with a 4.35% yield.
The economic cycle emphasizes the need for bonds
The 10-year bull market and years of outstanding economic growth suggest that we’re near the peak of an economic cycle. “This is a good time for investors to evaluate whether they should sell some stock and increase their bond holdings,” says Mayra Rodriguez Valladares, managing principal at MRV Associates in New York. Valladares recommends the safest AAA-rated corporate, sovereign and municipal bonds. Top intermediate corporate bond funds include: SPDR Portfolio Intermediate Term Corporate Bond ETF (SPIB) with a 3.12% yield, Invesco Fundamental Investment Grade Corporate Bond ETF (PFIG) with a 2.91% yield and iShares Broad USD Investment Grade Corporate Bond ETF (USIG) with a 3.44% yield.
Mortgage debt is strong
Investors may not think about who owns their mortgage debt. But owning mortgage-backed securities, known as MSBs, allows investors to profit from homeowners’ debt payments. Carl Ludwigson, director at Bel Air Investment Advisors in Los Angeles prefers mortgage-backed bonds to corporate bonds because of the strong balance sheets of U.S. homeowners. MBS offer high yields and low correlations to equities. Popular mortgage-backed ETFs include: iShares MBS ETF (MBB) with a 2.69% yield, Vanguard Mortgage-Backed Securities ETF (VMBS) with a 2.84% yield and SPDR Bloomberg Barclays Mortgage-Backed Bond ETF (MBG) with a 3.37% yield.
Short-term U.S. Treasurys offer higher yields than cash
“We find current value in short U.S. government notes yielding 2.25% for one to two years,” Aran says. Short-term Treasury bond funds or individual Treasury bills and notes offer safety, principal stability and decent returns, experts say. The current yields for 26-week Treasury bills are at about 2.4%, while the two-year notes yield 2.26%. Investors who prefer funds might consider Aran's pick: iShares Floating Rate Bond ETF (FLOT), which includes a diversified portfolio of corporate bonds. FLOT's current yield is 2.68%. Another choice is the Vanguard Short-Term Treasury Index ETF (VGSH) with a 2.04% yield.
Bond values should remain steady
When interest rates rise, bond values fall and vice versa. But as interest rates remain relatively steady, investors can be confident that, at least for the near future, their bond’s principal investment value will remain constant. This interest rate projection suggests that intermediate-term bond funds are appropriate for cash flow and portfolio diversification. Investors seeking simplicity can invest in a diversified intermediate bond fund. The SPDR Portfolio Aggregate Bond ETF (SPAB) with a 2.99% current yield has a lot going for it. With a mix of Treasurys, mortgage-backed securities and corporate bonds and an average maturity of 8.14 years, this fund will be more volatile than a shorter maturity bond fund if interest rates change.
Muni returns are a good option in high-income tax states
A municipal bond is issued by a state, municipality or county to fund expenses such as infrastructure projects and schools. In some cases, muni bonds' returns are higher than those of taxable bonds. The BlackRock California Municipal Opportunities Fund Institutional Shares (MACMX) currently yields 2.61% tax free. This investment seeks to provide shareholders with income exempt from federal and California income taxes. MACMX has an effective duration of 4.8 years. Duration explains that should interest rates increase 1%, then the fund’s price will decline by approximately 4.8%, and vice versa. Overall, experts say to avoid the herd mentality of chasing returns and stick with a balanced investment strategy.
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