Approach Long Term Bonds with Care

The WSJ‘s Jason Zweig is advising yield-hungry investors to tread carefully in the bond market, especially if considering long term treasury bonds.

In the column, Don’t Trip in Your Search for Higher Bond Yields, Zweig points out that bond investors have already enjoyed a very good year but are now at risk of seeing their holdings get hurt by rising interest rates.

As the economy improves, the Fed will likely fight inflation by tightening the money supply – the net result will be rising interest rates.

Bond investors are sensitive to this environment because the value of bonds is inversely related to interest rates. The degree of sensitivity increases with the term length of the bonds. Treasury bonds are especially vulnerable to rising interest rates because they are long term and aren’t related to the strength of the economy.

For investors who are looking to move cash out of low-yield money market funds, Zweig recommends a short term bond fund that invests in investment-grade corporates.

Several ETF choices are available including the Vanguard Short-Term Bond ETF (BSV) a fund that invests in U.S. government, investment grade corporate and international bonds with maturities of 1 – 5 years. BSV has a 30 day SEC Yield of 1.82% and an expense ratio of 0.14%.

Investors with a slightly higher risk tolerance should consider the PowerShares Active Low Duration Fund (PLK). The ETF invests at least 80% of its assets in a portfolio of U.S. government, corporate and agency debt securities and is limited to 25% of its total assets in non-investment grade securities. The 30 day SEC yield is 0.62% and the distribution yield is 1.72%.

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