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Thomas Kenny



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The Favorable Inflation Backdrop Remains a Major Positive for Bonds

Thursday April 17, 2014

Inflation remains low worldwide, and that's nothing but good news for bond investors. In the United States, inflation came in at 1.5% in the 12 months ended in March, well below the Federal Reserve's 2% target rate. This is a positive for the bond market in two ways. First, it creates a lower hurdle at which investors can earn a positive real (after-inflation) return. Second, it increases the odds that the Fed can maintain its low rate policy for a longer period of time.

The inflation picture isn't just positive here in the United States. Japan continues Read More...

Why Corporate Bonds May Have Limited Upside From Here

Wednesday April 16, 2014

Corporate bonds have delivered excellent relative performance thus far in 2014, building on the trend that was in place last year. Through April 15, the iShares Investment Grade Corporate Bond ETF (LQD) had returned a robust 4.3% year-to-date, comfortably ahead of the 2.6% return of the Vanguard Total Bond Market ETF (BND). One result of this strong performance is that the yield spread of the BofA Merrill Lynch US Corporate Master Option-Adjusted Index has declined to 1.16 percentage points, down from 1.28 at the start of the year and the 2013 high of 1.72 set on June 24.

Does this mean that the yield spread can't fall any further? Not necessarily. While the 1.16 yield spread is the lowest point since July 2007, it's still well above where it stood for most of 2004-2006. The yield spread on investment-grade corporates held beneath 1.0 for most of this interval, and even traded as low as 0.79 in March 2005. A similar move is possible today given the improving economy, the low default rate, and the record high cash balances on corporate balance sheets.

It's also worth noting that investors can still make money even when spreads are low. Read More...

Reassessing Fed Policy on a Day-to-Day Basis is Foolish

Saturday April 5, 2014

It's time for investors to calm down. With the U.S. Federal Reserve now well into the process of tapering its quantitative easing policy, investors are tripping over themselves to interpret how each individual piece of economic data affects the potential timing of the Fed's first interest-rate increase. The most recent example was Friday's jobs report, which prompted the media to pore over each element of the numbers to gauge the likely path of Fed policy.

The trouble with this approach, besides encouraging investors to embrace short-term thinking, is that Read More...

Do You Understand the Risks of Your Senior Loan Fund?

Friday April 4, 2014

Senior loan funds have been one of the hottest investments in the fixed-income world in the past 12 months. From March 31, 2013 through the same date this year, the flagship fund in this category - the PowerShares Senior Loan Portfolio (BKLN) - has hauled in $4.4 billion in new assets. The other three senior loan ETFs attracted $780 million of their own in that same period - and this is only counting ETFs, not the various mutual funds that invest in this category. But do investors understand what they're buying?

Senior loans have a lot going for them. As outlined here, they offer above-average yields, diversification benefits, and a way to hedge against the potential impact of Federal Reserve interest-rate hikes when that time finally comes. But these funds also feature a high degree of Read More...

The Best and Worst Bond ETFs of the First Quarter

Tuesday April 1, 2014

The first three months of the year brought a recovery in the bond market, as outlined in my First Quarter Bond Market Performance Overview, providing relief to the owners of bond funds and ETFs. But where was the best place to be invested? The short answer: leveraged bond funds, which invest in such a way as to generate returns two to three times that of specific bond-market segments. Also, two municipal bond funds make the top ten list - including a high-yield municipal fund, which reflects the prediction we made here at the end of last year. Conversely, the worst funds were those that bet against the market, and that were hit hard by the environment of rising bond prices. Keep in mind, all of the funds on this list are very high risk and not for novice investors.

The top ten ETFs of the first quarter:

Despite an Ugly 2013, Actively Managed Bond Funds Have Outperformed Over Time

Thursday March 20, 2014

It's a widely held belief that index funds outperform actively managed funds over the long term, and that's certainly been the case when it comes to stock funds. In the bond world, however, managers have added meaningful value in recent years.

Standard & Poor's released its semi-annual S&P Indices Versus Active Funds (SPIVA) U.S. Scorecard yesterday, and the results were encouraging for anyone invested in actively managed bond funds. In the five-year period ended December 31, 2013, active managers outperformed in Read More...

The Fed Shifts Policy, Markets Overreact... Again

Wednesday March 19, 2014

The financial markets were spooked on Wednesday afternoon when the new U.S. Federal Reserve chairperson, Janet Yellen, refined the Fed's guidance for future rate policy. Asked how much time she expects to elapse between the end of the Fed's quantitative easing policy (which is widely expected to occur later this year) and its first rate hike, Yellen responded, "The language that we used in the statement is considerable period. So I, you know, this is the kind of term it's hard to define. But, you know, probably means something on the order of around six months, that type of thing." This would put the timing of the first rate increase at either the April or June 2015 Fed meetings.

Stocks, bonds, and gold all fell on the news, a rare case of all three asset classes moving in the same direction simultaneously. However, the reality is that Read More...

The Danger of Shifting Your Longer-Term Allocation for the Wrong Reason

Wednesday March 12, 2014

Individual investors are generally regarded as being terrible at making decisions with their money, buying at the highs and selling at the lows. And there's more to this claim than just anecdotal evidence. This week's issue of Barron's published an article titled "Fund Investors: Your Own Worst Enemy" that illustrates investors' tendency to fail miserably at their efforts to time the market. Over time, investors' returns have underperformed the return of the average fund by a full 2.5 percentage points.

By definition, this is impossible to do with a buy-and-hold approach. Instead, it indicates investors are taking a bite out of their potential returns in some fashion. The likely cause: Read More...

Muni Market Relieved as Puerto Rico Finalizes Bond Offering

Tuesday March 11, 2014

For now, bond investors can remove Puerto Rico from their list of issues to worry about. Since last year, the perilous state of the island's finances has led to concerns about a possible default. If such an event had occurred, the reverberations would have been felt throughout the municipal bond market in general, and among funds holding Puerto Rican debt in particular.

These concerns were alleviated today when the country successfully issued $3.5 billion of 21-year debt at a yield of 8.727%. The offering received more than $16 billion in orders, indicating that investors remain hungry for yield even with the high risk associated with Puerto Rico. Keep in mind, this is a tax-exempt offering so the tax-equivalent yields are even higher, particularly in locales with a state and/or local income tax.

Following the offering, the ratings agency Standard & Poor's removed Puerto Rico from "CreditWatch" status, which indicates Read More...

February 2014 and Year-to-Date Bond Market Performance

Friday February 28, 2014

Continued evidence of sluggish economic conditions helped the bond market deliver a second straight month of positive returns in February.

The most recent phase of the rally had a different character than the move that occurred in January. During the first month of the year, concerns about turmoil in the emerging markets, together with signs of slower growth, fueled a "flight to quality" that benefited the rate-sensitive areas of the market (including long-term Treasuries, TIPS, mortgage-backed securities, and municipals). At the same time, the credit-sensitive segments - while positive - came up short in terms of their total return. In February, this relationship changed: a revival in investor risk appetites, along with a substantial gain in stock prices, fueled outperformance for Read More...

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