Until recently, upward pressure on interest rates this year was modest. That’s the good news. ...
Navigating Another Crisis Successfully
08/07/2012 11:15 am EST
The recent Morningstar Investment Conference brought together some great fund managers and their strategies for successfully navigating these tumultuous markets, observes Russel Kinnel of Morningstar FundInvestor.
“Bonds are disgusting.”
“We are much more worried about interest-rate risk than credit risk.”
“Treasuries are a terrible investment at these rates.”
The above quotes (from Jeremy Grantham, Michael Hasenstab, and pretty much every speaker who offered an opinion on Treasuries, respectively) neatly sum up the biggest theme at our annual Morningstar Investment Conference.
As we are in the midst of yet another scary crisis-driven summer, I know you want to hear the fund world’s current thinking on the big issues facing investors. I’ll walk you through the anti-Treasury idea and a few others, as well as some more fund-specific ideas, and how to put them to work in your portfolio.
Yields on Treasuries have been low for so long that I was happy to be reminded not to get complacent.
As Templeton Global Bond (TPINX) manager Michael Hasenstab, Loomis Sayles Bond (LSBRX) manager Dan Fuss, FPA Crescent (FPACX) manager Steve Romick, and others pointed out, we don’t really know what the market price is for Treasuries, because the Fed is such a huge buyer and many foreign investors ran for the safe-haven cover of US Treasuries amid the euro crisis.
But none of that will last. Fed chairman Ben Bernanke says the Fed will keep rates low through 2014, and you can’t be certain of when the markets will break free of that tether. But when it does happen, interest rates will pop.
As Fuss said, “We are in the foothills of a long rise in interest rates.” Fuss was actually positive about the prospect, because it means bonds will have much higher yields at some point...but of course, that will come later down the road.
It’s striking that managers like Fuss and Hasenstab, who run global portfolios amid the euro mess, are more worried about an interest-rate spike than defaults from Europe or further contagion hitting Italy or Spain. Hasenstab said his response is to shorten duration significantly, meaning he’s in shorter-maturity bonds across the globe.
Moreover, a number of managers pointed out that while some sovereign issuers are choking on debt, corporate balance sheets are as healthy as they’ve ever been, thus suggesting corporate bonds are often a better bet than government debt.
Don’t Panic About the Euro
That’s Hasenstab’s advice on the subject. He pointed to data that show Spain and Italy are much healthier than Greece. He argues that both have moved down the path toward meaningful reform, given the huge threat hanging over their heads.
In fact, Hasenstab pointed out that if you factor in pension and health-care liabilities, Italy is in better shape than most countries, and the United States is among the worst. Yet he is investing elsewhere in Europe: “German exports remain one of the highlights of the whole Eurozone story, and so our exposure in Poland and Hungary is really linked into the German export machine,” he said.
Putting These Insights to Work
Now that I’ve shared some macro insights with you, the question is, what do you do with them?
I’m a gradualist, so I believe in making modest changes based on opportunities and risks. For some, simply rebalancing may be enough. If your portfolio is now light on Europe and heavy on Treasuries, I’d suggest rebalancing to your targeted levels. The same goes for a portfolio that might have grown a big overweighting in small caps over the years, and could use a bit more high-quality large-cap names.
For others, I’d suggest making modest changes using funds that invest with enlightened flexibility. Simply picking asset classes is tough, but some wider-ranging funds have managers with chops to make the most of a wide scope, while still not straying beyond the borders of their expertise. You don’t need a whole portfolio of such funds, but one or two would be welcome additions to many portfolios.
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