| Bonds Online |
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| 5/10/2013Market Performance |
| Municipal Bonds |
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S&P National Bond Index
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3.00% |
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S&P California Bond Index
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2.96% |
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S&P New York Bond Index
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3.13% |
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S&P National 0-5 Year Municipal Bond Index
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0.70% |
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| S&P/BGCantor US Treasury Bond |
400.09 |
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| Income Equities: |
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| Preferred Stocks |
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S&P U.S. Preferred Stock Index
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848.03 |
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S&P U.S. Preferred Stock Index (CAD)
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636.26 |
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S&P U.S. Preferred Stock Index (TR)
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1,701.05 |
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S&P U.S. Preferred Stock Index (TR) (CAD)
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1,276.26 |
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| REITs |
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S&P REIT Index
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174.07 |
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S&P REIT Index (TR)
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425.30 |
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| MLPs |
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S&P MLP Index
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2,469.58 |
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S&P MLP Index (TR)
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5,428.50 |
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See Data
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Outlook 2010: Positivity
A worldwide economic recovery this year should be good news for most assets. |
FINANCIAL PLANNING - Jan. 1, 2010 - By Donald Jay Korn
Last November, Federal Reserve officials projected that the U.S. economy would expand at a slow rate in 2010. Not everyone agrees; and the surprise is that many market strategists are more optimistic than the Fed. "We think the economic outlook will be better than the consensus forecast," says Paul Zemsky, New York-based head of asset allocation and multi-manager investments for ING Investment Management. "We look for unemployment to reach its highest level in the first quarter of 2010 and then start to drop. Economic growth for the year might be 3% or higher."
Zemsky's optimism is based on a forecast that includes an improved housing market, a pickup in consumer spending, a recovery in business investment and continued fiscal stimulus from federal government initiatives. "We could see a better economy, better earnings and a better credit market," he says. Indeed, U.S. home prices improved in the second and third quarters of 2008, according to the S&P/Case-Shiller Index, providing hope that the housing market (and the U.S. economy) has seen this cycle's bottom.
According to the strategists interviewed for this article, 2010 looks like a good time for investors to take some risks, but not bet the farm. Low-risk alternatives, such as bank accounts and U.S. Treasuries, offer scant returns, they say; instead, moderate-risk vehicles, such as large-cap stocks, corporate bonds, munis and commodities, belong in clients' portfolios now.
STICKING WITH STOCKS
Slow or not-so-slow, most analysts are looking for economic expansion in the United States and around the world this year. Worldwide, government stimulus programs have helped to calm fears and boost confidence; in many countries, expansion is already under way. Economic growth is likely to boost corporate profits and may continue the stock market surge that began last March.
"I would definitely keep investing in equities," says Bob Froehlich, senior managing director in the Chicago office of Hartford Financial Services. "At some point in 2010, profits may no longer come mainly from cost cutting and productivity improvements. Top-line revenue growth may be added, which should help to sustain the rally in stocks." According to Bloomberg, corporate profits climbed 21% from January through September, the biggest nine-month gain in five years.
The consensus seems to be that domestic issues are less promising than foreign ones and stocks from emerging markets in particular. "Emerging markets remain the investing story of our time," says Erik Ristuben, chief investment officer with Russell Investments in Tacoma, Wash. In Russell's most recent survey of more than 200 investment managers, as of the end of the third quarter of 2009, 67% were bullish on emerging- markets equities, while 63% were bullish on stocks from developed markets outside the United States, he says. By contrast, bullishness on U.S. stocks ranged from 49% (for mid-cap value) to 59% (for mid-cap growth).
Why are emerging markets so appealing? "The emerging markets have asserted their economic independence during a challenging time in the United States," Ristuben says. "Investors had feared that emerging markets would suffer even more if the United States hit a rough patch, and that may no longer be the case."
Zemsky explains, "Emerging markets are a leveraged play on growth." As the worldwide economy recovers, emerging markets should grow faster than the developed nations because they have more people moving up to middle-class lifestyles, exporters to sell products to industrialized countries and, in some cases, commodities-based economies that will benefit from rising demand. Predicting further pressure on the U.S. dollar, Zemsky recommends a 2010 portfolio that's overweighted in international stocks, with the expectation that emerging markets will outperform developed foreign markets.
The emerging markets of Asia, particularly China, Korea, Singapore and India, may be especially appealing, according to Froehlich, who would place as much as 60% of an investor's equity allocation in foreign stocks. "China and Korea recently have reported double-digit growth rates," he says. By comparison, U.S. economic growth in the third quarter of 2009 was first reported at 3.5% and then revised down to 2.8%.
Inside and outside the United States, Froehlich prefers large-cap multinational stocks. "Investors are still nervous after being whipsawed in recent years," he says, "so they probably will gravitate to companies with strong balance sheets and names they know." Moreover, multinationals may have substantial exposure to the economic growth expected in the emerging markets, with fewer risks.
SUPERIOR SECTORS
In the Russell survey of investment managers, technology was far and away the leader, with a bullish rating of 78%. According to Ristuben, this is the most bullish rating for any equity sector since Russell began its survey of investment managers. Generally, both consumers and businesses can be expected to spend more money on technology in an expanding economy.
"Technology was good in 2009 and will probably be just as good in 2010," Froehlich says. "When companies are making money, they will invest in the technology that improves their productivity."
What's more, Morningstar reports that the average tech fund has net capital losses (realized and unrealized) equal to 104% of its assets. The average diversified equity fund has net capital losses (realized and unrealized) equal to 41% of its assets. Therefore, if tech stocks continue to appreciate, investors who buy and hold those funds probably won't have taxable capital gains distributions for a while.
Healthcare is another appealing sector. "Bullish opinions jumped from 44% to 56% in our latest survey," Ristuben says. "Politics is a factor, but investment managers apparently like the message from Washington that any final legislation will be cheaper to implement and less comprehensive than the original proposal."
As Froehlich puts it, "Wall Street overreacted to proposed healthcare legislation. Stocks were priced as though these companies would never make money again. All those baby boomers are getting older and they'll need more medical care. This is a good time to buy."
Bruce Berkowitz, manager of the Fairholme Fund, points out that some healthcare companies are well valued now. "Investing is all about what you pay for a stock," he says. "The market seems to fear that the Obama plan will destroy healthcare. Stock prices are down dramatically. Health insurers, such as Humana, WellPoint and WellCare, are cheap relative to the cash they generate."
Despite all the controversy, Berkowitz doesn't see an expanded federal role in healthcare as a major threat to leading health insurers. "If these companies don't do it, who will?" he asks. "The government does not have anyone; all it can do is print checks." Among other healthcare companies, Berkowitz holds Pfizer, which he calls well valued relative to its cash flow.
Froehlich lists financial stocks among his favorite sectors for 2010. "I think the yield curve will be steep," he says. "The Fed won't raise short-term interest rates until a strong economic recovery is apparent, while global economic strength will put pressure on the long end, causing long-term interest rates to rise. A steep yield curve helps lenders, who profit from the spread between short- and long-term rates."
While banks may benefit from a steep yield curve, brokerage firms and asset managers also may show rising profits, according to Froehlich. Those companies stand to gain from a healthy stock market and the uptick in merger-and- acquisition activity.
Berkowitz, too, is finding financials more attractive now. "When financials crashed, we stayed away," he says. "It was hard to know who owed what to whom. Now prices have been driven down by fears, but some financial stocks will do well." Fairholme Fund gets exposure to financials via Berkshire Hathaway, where Warren Buffett has picked such holdings as Goldman Sachs, Wells Fargo and American Express as well as various insurance companies.
Yet another promising sector is energy, which is "likely to outperform as a growing global economy increases demand for oil and gas," Froehlich says. As of this writing, oil prices have been trading around $75 a barrel-half the 2008 peak-so there might be room for substantial increases in 2010 if economic activity accelerates.
FIXED INCOME: INTERESTING TIMES
While many observers are optimistic about the prospects for equities this year, they're more cautious about fixed income. Morningstar's general bond fund group was up over 12% for 2009, through October, bringing the annualized 10-year return to 5.1%, versus an annualized 1.4% for domestic stock funds over the past decade. Their taxable bond fund group was up more than 18% for 2009, through November, bringing the annualized 10-year return to 5.1%, versus an annualized 1.5% for U.S. diversified equity funds over the past decade.
But the capital appreciation party appears to be over, and coupon seems to be the new magic word. "This will be a year for clipping the coupon," says Jim Sarni, managing principal at Payden & Rygel, an investment management firm in Los Angeles. Similarly, Jason Brady, co-manager of Thornburg Investment Income Builder Fund, warns: "There are only so many years that you can outearn the coupon."
What that means is investors should not expect to enjoy capital gains from their fixed-income holdings in 2010. This year, experts believe, investors should be happy if they can collect their fixed-income holdings' promised interest payments and avoid capital losses.
"Certainty is expensive, so yields are low," Zemsky says. "In the bond market now, taking some risks seems better." He likes corporate bonds, including high-yield issues.
High-yield bonds remain appealing, according to Zemsky, because the spread over Treasury yields is still significant. According to Morningstar, the average high-yield bond fund now yields more than 8%, versus 4.2% for general bond funds and less than 3% for government bond funds. Fears of a weak economy and substantial junk-bond defaults have kept prices depressed. "There's still a lot of pessimism, and high-yield bonds are still cheap," Zemsky says. "Defaults on high-yield bonds should fall if the economy improves; they could be a pleasant surprise."
Sarni concurs that the high-yield market looks appealing. "Previously, defaults were projected at 15% to 16%," he says. "Now that's down to 10% to 12%, and we think defaults could go below 10%. The sweet spot is probably in high single-B and low- to mid-BB bonds." That is, look for relatively high quality in the high-yield market rather than the lowest-rated or unrated bonds. Nevertheless, planners probably won't want to overload on junk. Investment-grade corporate bonds can deliver decent yields with less risk of default; they also stand to do well if the economy improves.
Ginnie Maes also look appealing to Sarni. These mortgage-backed securities have full federal backing, but they tend to lose value when interest rates shoot up or down. For investors willing to take some risks in search of higher yields, Brady suggests non-U.S. dollar bonds and mortgage REITs, where yields might be in the high single digits or low double digits.
While taxable bonds and mortgage securities may be suitable for tax-deferred accounts, many planners prefer municipals for clients' taxable accounts. In 2010, there seems to be little reason to change that approach. "Tax-exempt bonds are historically cheap," Zemsky says. "Investors worry about state and municipal budgets. Tax rates probably are going up-in 2011 if not 2010-so the demand for municipal bonds should remain strong."
The financial professionals interviewed for this article generally showed a lack of enthusiasm for Treasury bonds, given today's low yields. Nevertheless, some exposure to safe and liquid Treasuries may be practical. This year, intermediate to slightly long maturities should offer respectable yields and reasonable interest-rate risk. "The Fed probably will be on hold for most or all of the year," Zemsky says. "If short-term interest rates stay low, the yield curve will remain steep and the best place might be bonds with maturities of five to 10 years."
COUNTING ON COMMODITIED
Froehlich suggests an asset allocation for 2010 that includes 60% in equities, 15% in fixed income and 5% in cash. The other 20% would be in alternative investments. "I'm extremely bullish on commodities," he says. "As economic growth picks up and inflation starts to rise, commodity prices are likely to increase."
For calendar year 2008 and the first three quarters of 2009, the Dow Jones-UBS Commodity Index was off 30%, even after a strong recovery in 2009. So this may well prove to be a good time to buy commodities. The commodities funds in which clients typically invest are heavily correlated to energy prices, so an economic expansion that increases demand for oil and gas would boost returns.
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Income Security Recommendation January 2013 Issue.
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