I have been getting out of bonds for the last couple of weeks. I finally decided to get out when someone suggested I consider emerging market bond funds for better yield. Looking at the charts, the growth and the yield looked great. Then I looked at what these folks actually own in their funds. Somehow, I don't feel good about funneling money to Vladimir Putin to buy a country dascha or Hugo Chavez for his latest cancer surgery. Buyers of this paper forget how debts in places like Moscow and Caracas can easily get erased if it becomes inconvenient to pay them back. My favorite was DLENX. Here's the fund objective, as shown on the Schwab website. The bolding is mine.
The investment seeks high total return from current income and capital appreciation. The fund intends to invest at least 80% of its net assets (plus the amount of borrowings for investment purposes) in fixed income instruments. It may invest, without limitation, in fixed income instruments of any credit quality. The fund may invest up to 20% of its net assets in defaulted corporate securities. The portfolio manager intends to seek to construct an investment portfolio with a weighted average effective duration of no less than two years and no more than eight years. The fund is non-diversified.
Folks, when you have to stretch this far for yield, something is very wrong. On top of that, it's becoming increasingly clear that the Fed cannot buy enough debt to keep interest rates down forever. We are already seeing mortgage rates start to rise, and borrowing is becoming more difficult for everyone. The bank purse strings are tightening, quite possibly in anticipation of higher rates going forward. Finally, here and at other financial websites and forums, the undercurrent of unease is getting stronger. Once savvy individual investors pull out, the crowds will follow.
I still have inflation protected securities and a little in high quality short and medium term bonds. The rest of what used to be in bonds is in cash, waiting for the right opportunity. I have my finger on the trigger to dispose of the remaining bonds if conditions worsen. And if I'm wrong, I can always buy them back.
If you own bond funds and you don't know what is in those funds, now would be a good time to look at that. A lot of fund managers have been juicing their yields with preferreds and derivatives. What you think you own and what you actually own may be two different things. Do your homework now, so you can make good decisions as conditions change.