Rethink your bond strategy for retirement

Robert Powell's Retirement Portfolio
Article from http://www.marketwatch.com/story/
May 11, 2013, 7:01 a.m. EDT

Time to re-evaluate definition of fixed income

The pundits would have us believe that the bull market in bonds is over. That bond prices have nowhere to go but down and yields up.

Case in point: Berkshire Hathaway BRK.A +1.01%   BRK.B +1.05%  Chairman and Chief Executive Warren Buffett told CNBC this week that bonds are “a terrible investment” right now. And Loomis Sayles’ Dan Fuss earlier this year said the fixed-income market is more “overbought” than at any time in his 55-year career.

Overbought and terrible investments as bonds might be, the market doesn’t seem as convinced. Consider, for instance, the yields on Treasury Inflation Protected Securities, also known as TIPS. Those that mature in five years yield -1.28% while those that mature in 10 years yield -0.48%. See Daily Treasury Real Yield Curve Rates.

In other words, bonds might not be the best investment, but the looming bond losses predicted by Fuss, Buffett and others might be a long way off. If that’s the case, what should those planning for or living in retirement do with the money they’ve allocated to fixed-income securities?

And, what if Buffett, Fuss, and others are right in their assessment, that bonds are a terrible investment? What then? Buy, sell, hold or hide your head in the sand? What’s a retiree or retirement saver to do?

In the main, advisers we interviewed agreed with Buffett and Fuss. They say the great bull market in bonds is over, though it might be a while before the bear market begins. Call it a holding pattern with the best bet being avoid or sell long-term bonds.

For instance, William Suplee IV, president of Structured Asset Management, says there are few reasons to own long-term bonds, or TIPS for that matter. “Bonds have run the full cycle from 1950 to 1982 and back till today,” said Suplee. “There is almost nothing left in the long end with one big exception.”

And that exception is this: Should there be a Japanese-style long-term deflationary spiral then long bonds are still a good investment. “But that’s only under that type of scenario and it doesn’t look that probable,” Suplee said.

As for TIPS, Suplee said those investments are “fully priced” and the only reason to hold them now is as an inflation hedge. “If we have big inflation they will help, but not as much as you would wish because of the pricing,” he said. “The real yield will be below inflation.”

Another manger is of the same opinion. “We wouldn’t touch TIPS at these prices,” said Christopher Pavese, the chief investment officer at Broyhill Asset Management.

In the event of hyperinflation, however, Suplee said TIPS will be like gold as a store of purchasing power except for the fact that they have poor tax consequences. “TIPS are taxable and don’t throw off cash flow,” he said. “Ouch?”

(TIPS, for those for whom such instruments are a prudent investment, are best owned in qualified accounts, he said.)

But no matter whether you own TIPS in a taxable or tax-deferred account, Suplee said, the day is dawning when it will be time to get out of them. “Keep durations short,” he said, noting that TIPS, though there’s no associated cash flows, do have an inflation adjustment and tend to have longer durations in some circumstances.

Others agree that it’s time to avoid or dump long bonds. “If the bull market in bonds isn’t over, then you have to ask yourself if you feel lucky, or if you want to become a trader, because the risk level is too high to justify a ‘buy-and-hold’ approach,” said Michael Falk, a partner with Focus Consulting Group and chief strategist at Mauka Capital.

To the extent you cannot spend less in retirement, retire later or work some, his advice to retirees and would-be retirees would be to shorten the maturities of the bonds or bond funds in your portfolio. Consider also adding to the mix a type of annuity that provides a monthly income when you’re age 80+. “The annuity would help to protect against outliving your slower-growth/less-income producing portfolio,” Falk said.

 Bonds still have a role in your portfolio

No matter whether the bull market in bonds is over or not, others insist that fixed-income securities still have role to play in your portfolio. “Interest rates have declined substantially over the past 30 years, and at today’s low levels, investors need to accept that the great returns they have generated in the past will not be earned in the future,” said John Nersesian, a managing director of wealth management services at Nuveen Investments. “However, we believe bonds still play an important role in building a diversified portfolio for most investors. An allocation to bonds, by definition, is money that is not allocated to stocks.”

What’s more, Nersesian said bonds tend to do well during periods of equity weakness. So, an allocation to this asset class offers a significant benefit—that being a reduction in volatility. And reducing volatility is important for two reasons. “One, volatility during retirement forces the investor to liquidate more assets at depressed prices which increases the risk of failure,” Nersesian said. “Additionally, volatility causes emotional stress for the investor which can often lead to poor decision making.”

Remember, he said, it’s not the average rate of return that determines investor success. “It’s how the return is achieved (sequence, volatility, and the like),” he said.

The days of simply investing 60% in stocks and 40% in plain-vanilla bonds, however, may no longer be sufficient for investors. “Investors need to think creatively in today’s interest-rate world,” said Nersesian. “Diversifying your sources of income can provide some advantages.”

Nersesian noted, for instance, that there are some interesting opportunities in high yield, foreign debt, preferred securities and municipal issues that allow investors to participate in fixed-income markets.

Others are taking a similar tack. Pavese, for instance, said that most of his firm’s fixed-income exposure is concentrated in more nontraditional segments of the market, such as mortgages. “These securities have had a tremendous run since forced selling punished prices in 2011, and the trade is in later innings today, but historically, late innings have seen the biggest gains in asset prices,” Pavese said. “Particularly, as we see more institutional money flowing into this segment of the bond market. Rising demand plus shrinking supply equals higher prices.”

Time to re-evaluate definition of fixed income

Pavese also suggested that investors should re-evaluate their definition of ‘fixed’ income. “Bonds still play an important role in portfolios from a risk-reduction standpoint,” he said, agreeing with Nersesian. “We even bought some long-term Treasurys recently, to hedge equity risk, as 10-year yields backed up over 2%,” he said. “But ‘fixed’ income will present a big risk to retirement planning once the impact of global money printing shows up in higher inflation down the road. Consequently, high quality businesses that generate and distribute rising cash earnings to investors should play an increasingly important role in portfolios.”

See “Investing for Income” in this week’s Retirement Weekly subscription newsletter to read which companies, according to Pavese, could play an increasingly important role in your portfolio and why.

Rate rise a ways off?

To be fair, unlike Buffett and Fuss, Pavese doesn’t think the bull market in bonds is over. But he does think investors need to be more selective in security selection. “Massive buying of bonds and other assets by global central banks is likely to continue to distort the prices of all assets,” Pavese said. “Quantitative easing will be with us for a very long time. Just ask the Japanese. In this environment, yields will continue to drift lower.”

For his part, Nersesian cautioned against trying to time the market, against predicting when rates might rise. “It’s probably tempting for investors to ‘predict’ the end of the bull market in bonds and the rise in rates,” he said. “Many investors have made this call over the past three years, and rates have remained stubbornly low.”

Diversifying and managing duration risk can help, Nersesian said, noting that a rise in interest rates can be a long-term positive for investors. “It allows for the saver to reinvest maturing funds at higher levels over time,” he said.

Robert Powell is editor of Retirement Weekly, published by MarketWatch. Learn more about Retirement Weekly here. Follow his tweets at RJPIII. Got questions about retirement? Get answers. Email rpowell@marketwatch.com.

Robert Powell is a MarketWatch Retirement columnist. He has been a journalist covering personal finance issues for more than 20 years. Follow him on Twitter @RJPIII.

Robert Powell's
Article from http://www.marketwatch.com/story/

TREASURIES-Bond prices fall as dollar jumps versus yen

* Treasuries drop as yen moved through 100 vs dollar

* Losses extended as yields move above technical resistance levels

* Traders say higher yields could draw buyers next week

By Ellen Freilich

Fri May 10, 2013 5:09pm EDT

Article from http://www.reuters.com/article/2013/05/10/markets-usa-bonds-idUSL2N0DR3YO20130510

NEW YORK, May 10 (Reuters) - Prices for U.S. Treasuries fell on Friday, pushing yields to the highest in about a month and a half, after the dollar shot past the key 100-yen mark and spurred selling in longer-dated government debt.

The yen's weakening against the dollar prompted selling of Japanese government bonds, and Treasuries, bunds and gilts "sold off in sympathy with JGBs," said Thomas di Galoma, senior vice president and head of fixed income rates sales at ED&F Man Capital Markets in New York.

The selloff in Treasuries drove yields through some key technical levels, said John Canavan, fixed income analyst at Stone & McCarthy Research Associates, citing technical points at the 3 percent to 3.02 percent area on 30-year yields, the 1.80 percent to 1.82 percent area on 10-year yields, and the 1.20 percent to 1.22 percent area on 7-year yields.

That encouraged more selling, analysts said.

Some selling was related to "huge" corporate supply due to come to market next week, said Todd Colvin, senior vice president of global institutional sales at R.J. O'Brien and Associates in Chicago.

The benchmark 10-year note was down 24/32 in price during the late afternoon in New York, its yield at 1.895 percent, up from 1.814 percent late Thursday.

The 30-year bond fell 1-13/32 in price as its yield rose to 3.090 percent from 3.019 percent late on Thursday.

Bill Gross, manager of the world's largest bond fund, said on Friday the 30-year bull market in fixed income had come to an end, not just in U.S. Treasuries, but "to all bonds," including high yield debt, citing a "gut feeling" that the bull market ended on April 29. That said, the PIMCO Total Return Fund, which Gross oversees, in April increased its holdings in U.S. Treasuries to 39 percent of its portfolio, the highest in a year.

Still, analysts said major questions about the health of the labor market remain unanswered.

"The key thing to watch is employment," said Jim Sarni, managing principal of Payden & Rygel in Los Angeles.

"The prospects for employment, the Fed has said over and over again (that) is going to be the determinant of a change in QE and monetary policy," he added.

U.S. Federal Reserve policymakers say they want to see unemployment closer to 6.5 percent from its current 7.5 percent.

The evolution of that jobless rate is a major factor for investors trying to gauge when the Federal Reserve could pare its $85 billion per month in Treasury and mortgage-backed securities purchases.

Weak economic data had quieted talk about the Fed tapering off those purchases, but it has been revived by the better-than-forecast April employment report released a week ago, upward revisions to payroll growth for prior months and lower numbers of Americans filing for unemployment insurance benefits.

Nevertheless, a well-received auction of 30-year bonds on Thursday indicated that higher yields would likely bring in new buyers next week, market participants said.

"There's much more interest in buying from banks and insurers and other large market participants around these levels," said Jake Lowery, portfolio manager with ING U.S. Investment Management in Atlanta, Georgia. "We saw that come into play in the 10- and 30-year auctions this week and there's likely more buying to be done."

Dan Heckman, senior fixed-income strategist at U.S. Bank Wealth Management in Minneapolis, said Treasury yields had gotten a little too low and that translated into some weakness in the bonds this week after the better than expected April U.S. employment report was released last Friday.

The stronger April employment figures were followed by "the nice improvement in the new jobless claims data released this week," he said. That encouraged people to start to move out of Treasuries, which, along with this week's refunding supply, helped move yields back up to levels where there will be greater buying interest next week, he said.

Heckman said that while some observers think 10-year yields could rise to 2.25 percent by mid-year, he was more cautious.

"We don't buy that outlook yet. With the payroll tax cut, businesses we talk with get a sense the consumer is a little more cautious here; and we've seen gasoline prices move back up," he said. "There's a limit as to how high yields will go when there is still no inflation threat."

Expectations also eased that a wave of buying from Japan would push yields lower.

The 30-year swap spread, or the cost of exchanging 30-year fixed-rate interest payments for floating rates, remained negative on Friday.

The swap spread - a key measure of the difference between long-term U.S. borrowing costs and private borrowing costs - had neared parity earlier this year on expectations Japanese investors would pour into U.S. Treasuries in a search for yield.

But that buying has not materialized, and swap spreads have retreated from parity, suggesting hedges tied to certain notes, called power reverse dual currency notes, have not been significantly unwound.

Ellen Freilich

Fri May 10, 2013 5:09pm EDT

Article from http://www.reuters.com/article/2013/05/10/markets-usa-bonds-idUSL2N0DR3YO20130510

US stocks still reasonable but bonds awful: Warren Buffett

AP May 7, 2013, 01.03AM IST
From http://articles.economictimes.indiatimes.com/

OMAHA(NEBRASKA): Investor Warren Buffett said even though the stock market is soaring, prices appear reasonable, and stocks would be a better investment than bonds for most people.

Buffett conducted interviews Monday on CNBC and the Fox Business Network cable channels after a weekend full of events in Omaha for Berkshire Hathaway shareholders.

``Bonds are a terrible investment right now,'' Buffett said.

Buffett said bond prices are artificially inflated because the Federal Reserve continues to buy $85 billion of bonds a month, and owners of long-term bonds may see big losses when interest rates eventually rise. He said inflation is also likely when the Fed stops buying bonds.

He said the average investor should keep enough cash to be comfortable and invest the rest in equities.

``Stocks are reasonably priced now. They were very cheap a few years ago,'' Buffett said on CNBC.

But Buffett said most investors pay too much attention when the stock market reaches record highs. He said average investors should pay more attention when stocks hit records in falling prices because that's a sign they are getting cheaper.

The Federal Reserve's efforts to keep interest rates low have helped the stock market soar, Buffett said, but the improving economy has also played a role.

Buffett said he remains a fan of Fed Chairman Ben Bernanke. He also reiterated his support of JPMorgan Chase Chairman and CEO Jamie Dimon. He said that bank, which he has invested in for his personal portfolio, has the right CEO.

Buffett said the current low interest rates continue to make long-term borrowing like 30-year mortgages attractive, but he expects significant inflation eventually.

``Anybody who's borrowing money should borrow out for a long period of time. And if you ever want to get a mortgage, today is the day to get a mortgage,'' Buffett said on the Fox Business Network.

Buffett said he's not sure what will happen when rates rise.

``It won't go on forever and it's going to be very interesting when the first signal comes out that they're going to advance,'' he said.

Buffett, who heads the Berkshire Hathaway Inc. conglomerate, was also asked about aspects of that company, which owns more than 80 companies and holds major investments in Wells Fargo, IBM, Coca-Cola and other iconic companies.

He defended the way the pending $23.3 billion takeover of ketchup-maker H.J. Heinz Co. was structured.

He said he expects Berkshire to own a stake in Heinz forever, and he doesn't see a problem in taking a partner _ the Brazilian investment firm 3G Capital _ in the deal.

Buffett said on CNBC he doesn't consider 3G a traditional private equity firm because it is investing a significant amount of its own money and it runs businesses. Some people had questioned whether the deal that will give Berkshire a 50 per cent stake in Heinz represented a change in investment style for Buffett's conglomerate.

Generally Berkshire buys entire companies outright and allows them to continue operating largely unchanged.

Buffett said he hopes Berkshire's stake in Heinz will grow over time.

On another topic, he said traffic is picking up at Berkshire's BNSF railroad as the economy improves. He said the railroad will likely deliver record earnings this year, but will probably still haul fewer carloads than it did before the recession.

``It's been a terrific acquisition for Berkshire,'' Buffett said.

BNSF contributed $798 million to Berkshire's $4.89 billion first quarter profit the company reported on Friday. The Omaha-based company's overall profit soared 51 per cent over the previous year's $3.25 billion net income.

Berkshire's newest board member, Meryl Witmer, joined Buffett for part of the Fox Business interview. Witmer, 51, is an investment manager with Eagle Capital Partners.

Witmer said she has been impressed with all the Berkshire managers she has met so far.

``They're smart and they're happy and they love being a part of Berkshire,'' said Witmer, who is the third woman on Berkshire's board.

Buffett said Witmer would join the discussion on succession planning at Berkshire when she attended her first board meeting on Monday. He says succession is always the top subject the board discusses, but he said the board is unanimous about who should take over as CEO if he died tonight. That person has not been disclosed publicly.

AP May 7, 2013, 01.03AM IST
From http://articles.economictimes.indiatimes.com/