May 17, 2021

Common Sense: Bearish Times for Bonds

The month of May, and this first week of June, were terrible for many fixed-income investors who have spent the last few years reaching for higher yields. If there was an index for fixed income with the household-name status of the Dow Jones industrial average or Standard Poor’s 500 index for stocks, the carnage in fixed-income markets would have been a big story and we’d all be talking about a bear market in bonds.

Consider the damage: mutual funds that invest in long-term United States Treasury bonds lost an average 6.8 percent in May, according to Morningstar, with the loss in principal wiping out years of interest payments. But that’s not the worst-hit sector. Higher-yielding bonds and fixed-income securities, to which investors have turned in droves in recent years, have suffered even more, especially mortgage-backed securities and emerging market debt, as well as just about anything that uses borrowing to boost returns.

Many individual securities and funds were hit much harder than the averages. Vanguard’s Extended Duration Treasury Index fund was down more than 6 percent in the last month. In the mortgage area, Annaly Capital management, a popular real estate investment trust that invests in mortgages, fell 8.7 percent, and an iShares mortgage exchange-traded fund lost 10.4 percent. Pimco’s Corporate Opportunity Fund, which is managed by the star analyst Bill Gross and which invests in a mix of corporate bonds and mortgage-backed securities and uses some borrowing, lost nearly 13.4 percent. Annualized, such declines are off the charts.

“There are many closed-end bond funds and mortgage finds that were just annihilated in May,” said Anthony Baruffi, a senior portfolio manager at SNW Asset Management in Seattle, which specializes in fixed-income assets.

This week, the bond markets’ jitters spilled into the stock market, with major indexes gyrating around the globe. The Dow Jones industrial average dropped more than 200 points on Wednesday, only to bounce back Thursday and Friday. High-dividend stocks, which many bond investors also looked to in their quest for income, were pummeled. Shares of Procter Gamble dropped more than 6 percent the last week in May.

The severity of the market reaction shows how skittish investors have become about ultralow interest rates. Bond prices fall when interest rates rise, with longer-maturity, higher-yielding and riskier bonds the hardest hit — the very assets that the Federal Reserve’s ultralow interest rate policy has encouraged income-seeking investors to embrace.

Fixed-income funds are where investors have traditionally looked for safety and low volatility, unlike stocks, and such precipitous moves are rare. To put this in perspective, the recent plunge in prices of fixed-income securities had analysts reaching back to 1994, when the Fed began raising rates and 10-year Treasury rates rose two and a half percentage points. That year, Orange County, Calif., had to declare bankruptcy after its bond portfolio plunged in value.

The sudden recent moves in the markets have left many experts scratching their heads, because, on the face of things, not much has changed in the overall economic outlook. This week’s employment number — American employers added 175,000 new jobs in May — was the average rate for the past year, suggesting slow but steady growth in the economy. Other measures released in May, like consumer confidence, consumer spending, and personal income, were generally positive, but nothing to suggest any imminent surge in economic growth.

“Last week’s sell-off was very indiscriminate,” said Jonathan A. Beinner, chief investment officer for global fixed income and liquidity at Goldman Sachs Asset Management. Added Mr. Baruffi, “I was surprised at how severe the market reaction was.”

Article source: http://www.nytimes.com/2013/06/08/business/bearish-times-for-bonds.html?partner=rss&emc=rss

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