Jacobs: Beware of Bonds

12/06/2002 12:00 am EST


Sheldon Jacobs

Author, Investing Without Wall Street, Five Essentials for Financial Freedom

The American Association of Individual Investors held a six-month contest from May 3 through Nov. 1. First place went to Sheldon Jacobs, editor of The No-Load Fund Investor. His current stock market outlook? “We continue to anticipate that stocks will make major gains next year.” The advisor, however, is less sanguine about bonds. Here he picks three funds that will benefit from rising interest rates and falling bond prices.

“The place to be the last 31 months was in bond funds. The average taxable, investment-grade bond fund gained a cumulative 23.4% in this period, quite a contrast to the losses incurred in equity investing. There are times when stocks and bonds move in tandem, but more frequently they move in opposite directions because they compete for investment dollars. The Federal Reserve has maintained low short-term rates for nearly a year. Even if long-term rates do decline further, they can only drop another 1% to 2% while, in contrast, the potential for rates to rise is far greater. Thus, the chances of bond prices declining over time are far greater than rising. We urge you to stay away from long-term bond funds. For investors who wish to speculate on lower bond prices, or hedge their fixed-income portfolios, we now follow three funds that can be used to ‘go short’ the fixed-income market:

Rydex Juno Fund aims for net asset value changes equal to and in the inverse (opposite) direction of the daily price movement of the current 30-year US Treasury bond. Launched in 1995, it engages in options and futures designed to benefit from declines in bond prices. It lost 17.1% for the first nine months of this year, but gained 4.4% in October.

ProFunds Rising Rates Opportunity was launched on May 1, and provides leveraged short exposure to the 30-year US Treasury bond. The fund is designed to track 125% of the inverse of the daily price movement of the most recently issued long bond. In other words, the fund’s NAV rises when Treasury bond yields rise and prices decline. The fund is for investors who expect the yields on the 30-year US Treasury bond to increase in coming months, and also for investors who want to hedge against price losses in their long bond fund portfolios.

ishares Lehman 7-10 Year Treasury Bond Fund (IEF ASE) is an exchange-traded fund (ETF). It has an average maturity of 7.96 years and a 30-day SEC yield of 3.6%  It has a low, low expense ratio of 0.15%. Year-to-date through September, its index has returned 14.4%. While the fund itself is long, its shares can be shorted because it is traded on the American exchange. Unlike the two short funds (Juno and ProFunds), the iShares Lehman fund tracks the total return of bonds, not just price. Shorting iShares produces a return that is inverse to the total return of the bond, less the cost of margin interest.”


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