Bond funds offer some comfort in stock rout

You may never have thought that your clients would thank you for putting them into bond funds — until now. As the stock market faces the worst January since 2009, some bond funds are alleviating some of the stock market's pain. Bond prices rise when yields fall, and the yield on the bellwether 10-year Treasury note has fallen to 1.94% at midday Wednesday from 2.27% at the end of 2015. By midday Wednesday, the Standard and Poor's 500 stock index had fallen 10.8% for the year. But a few bond funds had eked out gains of 5% or more, and none were among the newly popular unconstrained bond funds. The top-performing bond fund for the year, Vanguard Extended Duration Treasury Index (VEDIX), gained 5.49% through Tuesday, according to Morningstar, the Chicago investment trackers. PIMCO Extended Duration (PEDIX) trailed close behind at 5.38%. The funds posted those gains by investing in long-term bonds, whose prices soar when interest rates fall. Their other virtue: They invested only in the highest quality government bonds, a traditional safe haven in market routs. RISING RATES By and large, these are not big funds, nor are they popular with investors, who have expected interest rates to rise for nearly half a decade. And despite the recent tumble in interest rates, 41% of investors surveyed by Bankrate.com expect higher rates this year. Americans are most worried about how rising interest rates might affect their personal finance situation (18%) and what consequences may be for the economy/stock market (16%) in a rising-rate environment, according to the Bankrate.com survey. Investors aren't alone: The consensus forecast for the 10-year T-note in 2016 was 2.7% at the end of 2015, notes John Lonski, managing director and chief economist for Moody's Capital Markets Research Group. Of course, many bond funds haven't provided a safe haven in this year's downturn. LEGG MASON International bond funds, for example, have been hammered by the soaring value of the U.S. dollar. Legg Mason BW International Opportunities Bond has shed 10.14% of its value, including reinvested interest, since the start of the year. And high-yield bond funds have also been clobbered, falling an average 2.54% through Tuesday. Rates could move down further, despite the Federal Reserve's concerns about inflation, Lonski says. “I think the Fed had it all wrong,” he said. Base metals prices are 26% lower than they were a year earlier, and global government yields are remarkably low. The German 10-year government bond yields just 0.48%, for example, and Japan's 10-year government bond yields 0.82%. Even Italy's 10-year yield is lower than the U.S., offering just 1.65%. “There's a lot more to the bond market than U.S. non-farm payrolls,” Lonski said.