THE Chicken Little school of investing may have felt like a safe bet when the sky was falling. But some investors who socked away their cash in money market accounts or Treasury bonds only a few months ago are already growing tired of the monotony.
“The zero rate of return isn’t as attractive as it used to be,” Gary Schatsky, a fee-only financial planner in New York, said with a wry laugh.
So Mr. Schatsky has begun nudging his clients to venture a bit farther out on the yield curve. Not way out there, mind you, but at least far enough to include high-grade corporate bonds in the fixed-income portion of their portfolios.
Mr. Schatsky favors short-term corporate bond funds now, he said, because he worries that efforts by the Federal Reserve and the government to stimulate the economy could lead to higher inflation. “Intermediate bonds will get smacked down if inflation picks up,” Mr. Schatsky said.
Because bond prices and yields move in opposite directions, if interest rates eventually rise because of inflation, the prices of existing bonds would fall.
On the other hand, Mr. Schatsky said, should the economic situation become even gloomier, short-term bonds might be less risky than bonds with longer maturity dates. “There is a lower probability that a company will go from solvency to bankruptcy in a year or two,” he said.
Tad Rivelle, chief investment officer at Metropolitan West Asset Management, a money management firm in Los Angeles that specializes in bonds, said that the debt of many large American corporations with “fortresslike balance sheets” had fallen to extremely low prices. He said bonds issued by General Electric, JPMorgan Chase and Berkshire Hathaway were among those that are now inexpensive.
“The markets aren’t being rational,” Mr. Rivelle said. “Once we get out of this difficult period, those companies will be extraordinarily profitable.”
Many financial advisers say it is too soon for individual investors to buy funds that own lower-rated corporate bonds. Officially, these are called high-yield bond funds; unofficially, they are known as junk bond funds.
The high-yield bond category suffered its worst year on record in 2008, according toMorningstar. Falling bond prices pushed high-yield funds to double-digit yields, which might look tempting to some investors now. But financial advisers say the yields went so high because many investors expected bankruptcies to rise among companies with poor credit ratings.
Aaron Gurwitz, the head of global investment strategy at Barclays Wealth, a division of London-based Barclays Bank, said that it was too soon for individual investors to own high-yield bonds, but that they should own high-grade corporate bonds, either through a diversified mutual fund or a separately managed account.
“We are advising clients to move from a very defensive position to a less defensive position,” Mr. Gurwitz said.
A large part of the appeal of owning bonds, for many investors, has historically been the income from interest payments. This can be especially true for investors who are either inretirement or getting close to it. But in recent years, many investors who were seeking yield emphasized stocks, because federal taxes were lower for dividends than for interest.
This strategy has hit many investors hard in recent months, said David Darst, the chief investment strategist for Morgan Stanley’s Global Wealth Management Group. He said the steady stream of dividend cuts had taken a huge toll on investors who were relying on their stock portfolios for income.
Traditionally, Mr. Darst said, income investors tilted toward stock sectors like banking and real estate — precisely where dividends have recently been in retreat. So Mr. Darst has started recommending that clients who are worried about dividend cuts move some assets to high-grade corporate bonds from stocks.
Because of the relatively unfavorable tax treatment of bonds, Mr. Schatsky recommended owning most bonds — except tax-exempt municipal bonds — in a tax-sheltered account, like an individual retirement account or a 401(k).
Like many investment advisers, he also emphasized the importance of owning low-cost mutual funds, particularly with fixed-income funds, because the annual expenses directly reduce the yield. Even slight differences in bond fund expenses can add up when compounded over time.
And Mr. Schatsky strongly cautioned individual investors against owning corporate bonds directly. “For people who have their own bond portfolios, certainly this is a nightmarish time to sell,” Mr. Schatsky said. “The market is extremely thin.”
