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High-yield funds specializing in short-duration bonds have performed exceptionally well in 2013, returning nearly as much as funds with unlimited portfolios, logging a 6.1% return compared to 6.56% for all U.S. high-yield funds and 6.55% for high-yield funds specializing in longer-term bonds. Compare that to the average taxable bond fund which has returned -0.28% this year.
And that trend looks to continue in 2014 as companies issue record amounts of short dated junk debt to feed demand. As investor afraid of rising interest rates, are increasingly eschewing longer-dated junk bonds in favor of shorter-dated options.
Short term is better in a rising rate environment because the prices of longer-term bonds are more sensitive to interest-rate moves. When rates rise, the prices of existing bonds fall as they become less valuable relative to newly issued debt with higher yields.
That applies to all bonds, but short term junk bonds are particularly attractive since the Fed has promised to keep interest rates low in the short term. This should keep junk bond default rates at an all time low. The danger is that default rates could increase dramatically when rates begin to rise.
Todays Other Top Stories
ETF Trends: – Problems mount for muni bond investors. – Exacerbated by Detroit’s bankruptcy filing, Illinois’ unfunded pension obligations and Puerto Rico distress, municipal bond exchange traded funds were battered as rates steadily rose since the start of May.
Advice IQ: – Pension woes & muni bonds. – Most public pension funds are significantly underfunded when their liabilities are valued using economically reasonable assumptions. In fact, the Pew Trust estimated that total underfunding was roughly $1.4 trillion as of 2010. That means the total value of pension fund assets is roughly $1.4 trillion less than the amount these funds owe to current and future retirees.
Gant Daily: – Wells Fargo & Co. ordered to repurchase $94M of municipal auction-rate securities. – Wells Fargo & Co.’s brokerage unit was ordered by an arbitration panel to buy back around $94mn in municipal auction-rate securities from a New Jersey family.
Bloomberg: – Tax-Free bonds go first-to-worst on risk adjustment. – U.S. municipal debt is set to trail stocks, commodities, Treasuries and corporate bonds in 2013 when adjusted for volatility, halting a two-year streak of outperforming those assets.
The Street: – Avoid Chicago’s bonds; It could be the next Detroit. – A recent report by the Economist Intelligence Unit rated Chicago one of the top 10 cities in the world for its ability to “attract capital, business, talent and tourists.” Although that certainly will focus global attention on “The Second City,” Chicago’s precarious financial condition could result in it becoming even more well known — for going broke.
LearnBonds: – Individual bonds – A must own allocation for your portfolio. – If we live in a world in which most, if not all, asset classes are being propped up by central-bank liquidity, then I want to own the one asset that I know will protect my principal and make planning for the future an easier task.
ETF Trends: – Inverse Treasury ETFs thrive as rates soar. – As yields on benchmark 10-year Treasuries touch a two-year high, more investors are beginning to understand the potential negative effects of rising rates in their bond portfolios. Nevertheless, there are a number of inverse exchange traded funds that can hedge against misfortunes in the Treasury market.
James Montes: – The 10-year Treasury note is the canary in the gold mine. – The US 30 Year Treasury Yield closed at a 3.94% yield. This sets the market to test and challenge the 2011 highs of 4.4% to the 4.75% yield. With the long-term bond substantially above the 50 and 200 day moving averages, we can clearly come to the conclusion that the trend is much higher for long and short-term bond yields and much lower prices – (the inverse relationship to price).
Barry Ritholtz: – A (somewhat) bursting bond bubble. – The long history of long (10-year U.S. Treasuries) yields (%).
WSJ: – Long-term junk bonds fall out of favor. – Rising interest rates are driving investors toward shorter-term securities. And that means that issuers trying to lock in cash for longer periods are facing a tougher sell, the WSJ’s Katy Burne and Mike Cherney write.
Kiplinger: – 5 Types of income investments that should shine in 2014. – Here are five income categories that should continue to perform well in 2014.
WSJ: – Unusual emerging-market bond bet pays off. – For most emerging-markets investors, 2013 was a year to forget. The beginning of the end of the U.S. Federal Reserve’s giant stimulus program sucked money out of risky assets. The J.P. Morgan Emerging Market Bond Index has lost more than 5%, its worst performance in half a decade. But a handful of fund managers bucked the trend, with some unusual strategies.
FT: – A tougher year for emerging markets. – Since the financial crisis, the global economy has travelled at two speeds. Developing countries have steamed ahead, powered by China’s voracious appetite for raw materials. Meanwhile, the west has limped along, as households and states cut back spending to address towering debts.
Bloomberg: – Stocks $3.7 trillion year beats bonds most ever on funds. – Five years after the equity bull market started, U.S. investors returned to stocks in 2013, just in time for the best relative returns versus bonds on record.
Philly.com: – Your Money: Fed’s bond tapering good news for investors. – Investors should celebrate that the Federal Reserve is finally getting out of the investment business. Why? Because it provides some certainty.
WSJ: – In search of the perfect portfolio. – If you’re looking for an investment portfolio that you could just forget about—and which would still earn good returns in any environment—what would you put into it? It is surprisingly hard to find a good answer—especially in the current situation, with stocks and bonds seeming so expensive.
Mashable: – We wouldn’t ask you to read a story about bonds unless it was important. – The U.S. 10-Year Treasury bond on Friday closed above 3% for the first time in more than two years. That should put a smile on your face, even if you don’t follow financial news.
Business Recorder: – Bond funds end bad year with another headache: tax-loss selling. – As the calendar closes down on 2013, many US money managers are finding themselves in an unfamiliar position: selling some of the bond funds that have long been mainstays of their clients’ portfolios. With the benchmark Standard & Poor’s 500 Index up around 25 percent for the year, financial advisors are looking to sell some of their worst-performing bond funds before the end of December, in order to book losses to offset capital gain taxes on their stock portfolios.
IndexUniverse: – Why own bonds? – The economy might be on the mend, and the U.S. Federal Reserve might be taking its foot off the gas when it comes to pumping money into the system, but that doesn’t mean things couldn’t go wrong.
Morningstar: – State street proposes actively managed ‘flexible allocation’ ETF. – Morningstar’s Robert Goldsborough looks at the raft of ETF filings from the past week, which include some very narrowly tailored funds.
Implied 2 year yield of the fed funds strip is around 26-27bps. So UST 2 year trades at a term permium of 10-11bps.
— Ed Bradford (@Fullcarry) December 30, 2013
#muniland still on vacation. trading vol down 48% from average Monday with $542mln traded. NYC and Cal state most traded
— Taylor Riggs (@TaylorRiggsMuni) December 30, 2013
2013 Learning: Cash can be a very expensive insurance policy; #moneymarket reform may push investors to non-traditional liquidity solutions
— NorthernTrustAM (@NTInvest) December 30, 2013