Bond Investors Took Risks In Jan.; Treasuries Slipped
Investors pumped up riskier categories of taxable bonds in January.
They did it amid signals that investors should prepare themselves to be weaned from central bank support, said Rick Rieder, chief investment officer of fundamental fixed income portfolios for asset-manager giant BlackRock.
High-yield funds led the way for taxables, gaining 1.32% in January, according to preliminary Lipper Inc. data. Flexible-income funds jumped 1.27%. Emerging-market debt funds were about flat with a -0.1% decline.
Reductions in stimulus steps by global central banks would remove a key prop from the markets. But the fact that central banks feel they can move in that direction is a key show of confidence in economic growth, Rieder said.
One sign was late January's $137 billion repayment by European banks to the European Central Bank. It was a key step toward normalization of eurozone liquidity, Rieder said. And it meant a reduction in the ECB's balance sheet.
Another sign was in recent Federal Open Market Committee minutes. About half of the participants said the Fed should complete asset purchases around mid-2013.
A third sign was Federal Reserve Chairman Ben Bernanke's December FOMC press conference remarks, in which he noted the potential risks in letting the Federal Reserve balance sheet get too large due to quantitative easing.
Rieder -- who also is a manager of $4 billion BlackRock Strategic Income Opportunities Fund -- expects the market to continue to tilt to higher-risk products.
He's trimmed long-dated Treasuries and taking profits in sovereigns in places like Italy. "The spread between them and German bunds compressed about 250 basis points the past six months," Rieder said.
During the month, he owned an Italy bond with a 5.25% coupon, rated Baa2 by Moody's, maturing Aug. 1, 2017. Its yield fell 20 basis points to 2.98%, as its dollar price rose 0.70 to 109.56, for a 1.12% total return. "That was a big move, so taking profit made sense," he said.
Also, he's adding to U.S. bonds that get a tail wind from real estate's rebound, such as commercial mortgage and nonagency mortgage-backed securities.
Tax-exempt funds on average gained 0.52% last month. They were driven by strong inflow against typical seasonally weak new issuance, said Dan Loughran, head of OppenheimerFunds Rochester muni team.
Also, we have a new 39.6% top federal tax bracket. In addition, there's a new 3.8% tax on investment income or certain high modified adjusted gross incomes.
For the rest of Q1, Loughran expects demand to continue to top supply even with the usual late-quarter increase in issuance.
But he warns that the four-year muni run is due to pause. "Investors should be satisfied to earn just their coupons," he said.
Market risk appetite last month was illustrated by a Puerto Rico aqueduct and sewer bond he owned, with a 5% coupon, maturing July 1, 2033, rated BBB by Fitch. Its price last month rose to 98.42, yielding 5.13%, from 90.75, yielding 5.82% for a total return of 8.86%.
It sold off in December when Moody's lowered its rating two rungs to Ba1. "In January investors who were willing to take on risk got in, driving up its price," he said.