A turbulent stock market adds to the luster of bonds

By , Staff writer of The Christian Science Monitor

Stocks may have stampeded to record highs, but bonds, low returns not withstanding, are attracting more money than at anytime in the past 12 months.

Despite the increase, bond experts see turbulence and uncertainty ahead for fixed-income products.

Investors have marched to bonds looking for havens from the volatility - and possible lower gains in 1999 - of the US stock market.

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Bonds represent a conservative alternative to stocks, and the message from many investors is that they favor the certainty of profit over the size of profit.

Funds that invest in intermediate-term bonds, those with maturities between 5 and 10 years, may produce total returns of around 8 percent this year, says Tim Schlindwein, a mutual-fund expert with Schlindwein Associates, Chicago.

"That will compare well with equity funds, which I believe will probably come in with lower returns than in 1998," he says, perhaps in the 11 percent range.

Indeed, despite the sparkling numbers for the overall stock market in 1998, the average stock mutual fund gained only 7 percent.

And the possibility of a similar outlook for 1999 adds to the popularity of bonds funds.

They attracted an estimated $75 billion last year, more than double the level in 1997.

The shift to bonds was notably evident at the end of 1998. In November, bond funds brought in more than $9 billion, the largest infusion for the year, says Chris Wloszczyna, spokesman for the Investment Company Institute in Washington. (Returns for December are not yet final.)

Returns for bond funds were all over the map in 1998, mirroring turbulence in financial markets in general.

Holders of Treasury long bonds (30 year maturities) came in at the top of the class, with a cumulative average return of almost 11 percent, according to preliminary analysis by Morningstar Inc. in Chicago.

International bond funds also did well, at just under 9 percent; intermediate-term bonds at 7.3 percent; long-term corporates at 6.5 percent; and short-term bonds at 6.3 percent .

Municipal bonds returned between 4.5 percent and almost 6 percent, depending on the origin of the bond. High yield (junk) bonds hit the skids, down 0.8 percent.

The key to the bond-market rebirth remains the crucial issue of a flight to safety, plus - during much of 1998 - solid gains in the price of US Treasuries, as interest rates dropped.

With the US economy slowing, keeping inflation and interest rates low, investors should continue their affection for Treasuries, lured by solid returns plus safety.

But the Treasury rally may be ebbing. Investment firm Tucker Anthony sees T-bond yields oscillating between 4.5 percent and 5.5 percent in 1999, depending on economy growth.

In buying into bond funds, say experts, consider these steps:

Focus on intermediate-range bonds, from five to 10 years. They come close to the returns of longer bonds with less turbulence.

Look for an all-weather bond fund, one with a mix that includes government and corporate issues. Examples: Pimco Total Return Bond (800-927-4648) and Vanguard Total Bond Market Index (800-662-7447.)

Avoid funds with expense ratios above 1 percent. Fidelity and Vanguard bond funds, for example, have low ratios, as do funds from Pimco, Columbia Fixed-Income Securities (800-547-1707), and Harbor Bond Fund (800-422-1050).

If you already have a large bond portfolio, as is the case with many older investors, don't ignore stocks. They add the important element of growth to a portfolio.

Many bond professionals see the best bond opportunities this year in municipal and junk bonds.

Some long-term munis now offer yields equal to or higher than comparable Treasury issues. If you are in a high tax bracket, muni funds will likely exceed returns on Treasuries.

Junk bonds also offer gains for aggressive investors. The yield on the Merrill Lynch junk bond index, for example, is now outpacing its historical average. But experts caution that junk bonds are often issued by firms with debt problems.

If the economy were to slow sharply, such companies could default.

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