Bond-Fund Investors Are Cautious Following Spring Interest-Rate Rout

BOND funds have been playing poor cousin to their glamorous equity relatives lately. Though the stock market has showed recent weakness, investors seem to like it far better than the troubled bond market.

In the 12 months ended in March, investors poured $182 billion into stock mutual funds and only $5.3 billion into bond funds. This year, avoiding bond funds hasn't been a bad choice: As signs of economic strength drove up interest rates, bond funds posted slightly negative returns on average in the first quarter of 1996.

What's in store for the rest of the year? And for the long haul, is the old advice of keeping 60 percent of your money in stocks and 40 percent in bonds any good?

Experts are divided on both questions, but many are cautious about bonds.

For one thing, they warn, the bond market has become more volatile, often mirroring the stock market in its swings. Partly, this represents the influence of so-called "hedge funds," representing large investors such as George Soros. These funds often make big bets using futures contracts on issues such as currency values and interest rates.

"If Soros puts $2 billion into [such] derivatives, he could control $50 billion in bonds," says Ken Heebner, co-manager of CGM Fixed-Income Fund, which led corporate bond funds in first-quarter performance.

But the volatility has other causes. Last Wednesday, for example, inflation concerns caused US Treasury bonds to fall sharply in value. That pushed the yield (annual interest rates) on long-term Treasuries to 6.95 percent, up from 6.84 percent just a day earlier.

"I don't see that the bottom of this bond market has yet been reached," says Jeremy Siegel, an economist at the University of Pennsylvania's Wharton School in Philadelphia. Last year's 2.5 percent inflation "may be the low point for this decade," he says.

If interest rates have to be jacked up to tame inflation, that's bad news for bond prices, which move opposite to interest rates. Some observers say the Federal Reserve could eventually push rates up, though few expect this to occur for several months.

Moreover, for long-term return on investment, experts say bonds won't match stocks.

In addition, Mr. Siegel, author of the book "Stocks for the Long Run," says he thinks bonds have even more risk than stocks "once inflation is taken into account."

Peter Van Dyke, who manages several bond funds for the investment firm T. Rowe Price in Baltimore, says a position of 100 percent stocks is perfectly acceptable if your investment horizon is several decades.

Mr. Van Dyke predicts long-term bond yields may dip, "perhaps ... down to 6.5 percent" later in the year. But he and other fund managers say they aren't counting on falling interest rates to provide capital gains in their funds.

Mr. Heebner at Boston-based CGM, for example, bases his efforts on finding bonds of companies that are improving their overall performance. This will boost the quality, and hence the price, of the bonds. That strategy has been working well: The fund gained almost 7 percent in the first three months of 1996.

One option for the cautious, experts say, is to invest in short-term bond funds, which react only modestly to interest-rate shifts; or stable, $1-a-share money-market funds.

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