Good Income with Little Risk

07/14/2009 1:00 pm EST

Focus: BONDS

Richard Band

Editor, Profitable Investing

Richard E. Band, editor of Richard Band’s Profitable Investing, finds a good short-term bond fund with a superb track record in good years and bad.

2008 was one of the scariest years in history—for stock market investors, certainly, but also for folks who expect their bonds to deliver steady income and modest fluctuations of principal.

During the October financial crisis, investment-grade corporate bonds (not “junk”) plunged 17% in less than a month. Even good-quality state and local government bonds skidded 12% or more in the blink of an eye.

Since then, of course, corporate and municipal bonds have mounted a brisk recovery. Meanwhile, Treasuries—which benefited late last year from a panicky “flight to safety” and the Federal Reserve’s bond-buying program—have nosedived. Since December 31st, a typical Treasury bond with 20 or more years to maturity has lost 22%, including accrued interest. If you picked the wrong bonds at the wrong time, the past nine months or so have been no fun at all.

At some point, probably during the first half of 2010, interest rates will begin to rise across the board, reflecting the clash between private borrowing and the Treasury’s voracious appetite for credit. When that fateful day arrives, the resale value of virtually all bonds (except the shortest maturities) will suffer.

For now, though, with the economy stabilizing and much of the speculative water wrung out of Treasuries, risks in most sectors of the bond market have subsided. In fact, bonds may be setting up for a nice little rally over the next few months. As income investors, we want to take advantage of it, without leaving ourselves vulnerable.

Here’s what I suggest. First, keep the lion’s share of your bonds—65% or more—in short maturities (five years or less). No-load mutual funds are wonderfully convenient for this purpose, since you can buy or redeem them every business day at net asset value.

Among the taxable bond funds with a short maturity structure, my hands-down favorite is Weitz Short-Intermediate Income Fund (WEFIX), [which has a] $2,500 minimum. At present, this fund has an average maturity of about three years, which dampens—although it certainly doesn’t eliminate—swings in the share price.

Portfolio manager Tom Carney continues to amaze with his consistent performance in good bond markets and bad. Not only did he avoid last year’s catastrophe, posting a positive return, but he’s putting up excellent numbers in 2009 as well. Year to date (through May 31), WEFIX has returned 5.4%, half again better than its peers.

Since Carney came on board as lead manager in 1996, the fund hasn’t had a single losing year. In a shaky world, you need a steady hand. Current yield: 3.8%. WEFIX is available without a transaction fee through leading discount brokers such as Fidelity, Schwab, and TD Ameritrade.

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