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Bonds - now a good buy?
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April 4, 2000: 6:33 p.m. ET
In times of stock market turmoil, bonds can be a good bet, but pick carefully
By Staff Writer Jill Bebar
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NEW YORK (CNNfn) - With the recent volatility in the U.S. equities markets, the competition for capital has intensified. Industry analysts say if you are selective in what you buy, bonds present an attractive alternative investment.
The allure of Treasury securities, which are fully backed by the U.S. government, is usually high during times of market turbulence. After suffering one of their worst years on record in 1999, Treasury bonds regained momentum in the first quarter, and after this week's turmoil among U.S. technology stocks they may become more attractive to investors seeking to move their money to a safer bet.
Treasury prices got a strong boost Monday after the Nasdaq composite index fell nearly 350 points, its largest daily point loss on record. And when the Nasdaq plunged over 13 percent at one point on Tuesday, Treasury prices surged and yields fell to their lowest levels since May.
As the stock market clawed its way back to close well off its lows, bond prices also gave back some ground. The 30-year bond finished the day up 20/32 of a point in price, its yield dropping to 5.77 percent from Monday's 5.83 percent.
Be selective
Along with individual investors, institutions such as insurance companies, hedge funds and mutual funds, have long-term strategies that allocate a certain percentage of their portfolios to fixed income debt.
But not all Treasury securities are a good bet right now, market experts say. They recommend only shorter-dated maturities.
Longer-term debt, securities that mature in 10 years or more, are suffering pressure from several sides. A buoyant economy and five interest rate hikes from the Federal Reserve since June -- and expectations of more on the horizon -- have weighed in on the market, which have yields that track the central bank's lending rates.
The market also has to face the deterioration in Treasury debt issuance. Due to a budget surplus, the Treasury Department announced plans in January to reduce the issuance of long-term debt by as much as $30 billion. The government also established a buyback program for 30-year bonds, which marks the first time in 70 years the government has repurchased national debt.
Although issuing less debt is considered a positive factor, as scarce supply results in higher prices, it has created an element of uncertainty. In addition, a decline in market liquidity has occurred, making it more difficult to sell bonds.
David Jones, chief economist at IBJ Lanston Futures, told CNN he was "shocked" at the current low levels of liquidity. (176.4K WAV) (176.4K AIFF)
Meanwhile, in mid-January, an inversion in the yield curve between 10-year notes and 30-year bonds began, in which the shorter maturities have higher yields than the longer maturities. The last occurrence of this inversion was in December 1994.
As a result, experts say, shorter-dated Treasury securities are now more attractive than longer issues because you can get a higher yield with lower risk. This view was reiterated by influential market strategist Abby Joseph Cohen of Goldman Sachs & Co. Last week, Cohen maintained the overall weighting of bonds in her model portfolio at 27 percent, but shifted the allocation to shorter-dated debt from longer-term securities.
Corporate and agency bonds -- a good value
Market strategists view other fixed income securities, notably corporate and agency debt, which offer higher yields, as even better value.
The fixed income market is comprised of government, corporate and agency securities. Government securities are those issues the U.S. Treasury sells in order to finance the deficit. They range from shorter-dated maturities, such as two-year notes, to longer-dated maturities, such as 30-year bonds.
The issues pay a fixed rate of interest until it matures. These securities provide a risk-free investment, but do not protect the investor in a time of rising inflation as the holder of the issue receives the same amount of interest despite the increasing cost of consumer goods.
Corporate bonds are issued by companies. Agency securities are issued by quasi-governmental entities such as Fannie Mae and Freddie Mac. Both, especially corporate bonds, are riskier investments than government debt, but they can also offer investors higher returns.
Corporate and agency issues have been under pressure since mid-January, with yield spreads -- the difference between the yield on a corporate bond and the yield on a Treasury bond with similar maturity -- widening significantly. This, in turn, has made them an attractive alternative to government bonds.
The agency debt market was particularly hit when U.S. Treasury undersecretary Gary Gensler testified before Congress last month, supporting a bill that would effectively diminish the perception that agency securities are fully backed by the U.S. government.
But analysts said volatility amid this sector of the market is not unusual, and many doubt the bill will become law.
"The bottom line is, agencies will maintain their highest credit rating. Agencies are looking like pretty good value," said Josh Stiles, senior bond strategist at IDEAglobal.com.
With the economy in a record period of expansion, corporate bonds are seen as a good buy. Their yields are higher because their stocks have been performing well and have strong earnings growth potential.
 Steve Zamsky, corporate bond strategist at Morgan Stanley Dean Witter, said shorter-dated corporate issues are attractive. And one portfolio manager said his clients, who are mainly institutions, are not concerned with market fluctuations.
"Nobody's called us. Our clients take a longer-term approach and tend to stay the course," said Mitchell Penn, who manages corporate bonds at Legg Mason Capital Management.
Analysts also favor junk bonds, the high-yield segment of the corporate bond market, as long as the economy is able to avoid recession. However, they recommend that individuals invest in junk bonds through a mutual fund, which will allow for the diversification of risk.
Junk bonds, also called high-yield bonds, have a credit rating of BB or lower and are issued by a company that may have difficulty repaying its debt in times of uncertainty or economic slowdown. Because their yields imply a certain level of default, they are more volatile and pay the investor higher returns.
A shifting market
Experts say the market is in midst of a shift as participants adjust to declining supply. The economy will continue to play a significant role. Many expect it to slow down at some point in the future, which in turn will create a good environment for bonds.
Tony Crescenzi, chief market strategist at Miller Tabak & Co., noted Federal Reserve chairman Alan Greenspan was intent on slowing the nation's surging demand and keeping inflation in check. "The market is very confident in Greenspan. He has built up tremendous good will," he said.
But bonds will remain vulnerable to a number of potential scenarios, such as sharp movements in commodity prices and the equities markets. Higher commodity prices, which suggest inflation, often weigh on bonds. Recently, energy prices have declined, but analysts say, that may not be enough.
Morgan Stanley Dean Witter's Zamsky said he is pessimistic about the overall outlook for the fixed income market.
"It's not a great time to buy bonds. We think the Fed has more work to do," he said. "The Fed will continue to raise rates, pushing yields up - that's a concern."
What investors demand will be key to companies issuing strategies. Bob LaBue, vice president of the fixed income syndicate desk at J.P. Morgan, said there will be a more targeted issuance focused where investor demand is. And demand appears to be for issues that are 10 years or less, concentrated in the three-to-seven-year segments.
Peter Horvath, director of debt marketing at Freddie Mac, is upbeat about agency bonds going forward. "The market is going to have to migrate to alternatives to Treasurys - bonds that have Treasury like features, " he said. Freddie Mac provides credit to finance the nation's housing.
In the near term, Ruth Mulligan, vice president of Boston-based Massachusetts Financial Services, a mutual fund company, said she likes agency and corporate issues with intermediate maturities, such as five- and ten-year notes.
"These two sectors have the most to gain in the shortest amount of time going forward," she said. 
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