Mutual funds in the U.S. that focus on bonds have the highest percentage of their assets in cash since 2008, which may temper a rise in yields from about record lows as managers put that money to work.
Mutual funds in the U.S. that focus on bonds have the highest percentage of their assets in cash since 2008, which may temper a rise in yields from about record lows as managers put that money to work.
Managers are sitting on about $243 billion of cash and short-term securities, or about 9.79 percent of assets, after investors plowed $90 billion into taxable bond funds this year, according to Morningstar Inc. and the Investment Company Institute in Washington. That's up from 9.1 percent last year and above the average of 8.43 percent in the decade ended 2010.
Few managers see scope for yields on everything from Treasuries to junk bonds to fall, and many said they are poised to redeploy the cash into bonds as they rise because the economy isn't strong enough to generate faster inflation or cause the Federal Reserve to raise interest rates this year. Each time the yield on the benchmark 10-year Treasury approached 4 percent in the past three years, investors drove it lower. It ended at 2.91 percent last week.
“We are looking for a more severe down move in prices, for a better level to buy,” said Jeffrey Gundlach, whose $8.51 billion DoubleLine Total Return Bond Fund beat 99 percent of its peers in the last year by returning 13 percent, according to data compiled by Bloomberg. “To hold cash you have to have a conviction that prices of something that you'd otherwise own will go down, which is exactly what happened in June.”
Buying Opportunity
Gundlach, the chief executive officer of Los Angeles-based DoubleLine Capital Inc., said in a telephone interview that he has 10 percent of the fund's assets in cash, about five times what it usually holds. He views a move in the 10-year Treasury yield above 3.5 percent as a buying opportunity.
Bonds rallied last week even as Moody's Investors Service and Standard & Poor's put the U.S.'s AAA credit rating on review for downgrade as lawmakers dicker over raising the nation's $14.3 trillion debt ceiling and cutting the budget deficit.
Treasuries extended last week's advance, pushing the yield on the benchmark 10-year note one basis point lower to 2.90 percent, as of 11:12 a.m. in New York, according to Bloomberg Bond Trader prices. The 3.125 percent security due May 2021 rose 3/32, or $94 cents per $1,000 face amount, to 101 30/32.
Last week's auctions of three-, 10- and 30-year Treasuries all attracted higher-than-average demand. The bid-to-cover ratio on the $13 billion in bonds, which gauges demand by comparing total bids with the amount offered, was 2.80, above the average of 2.64 at the prior 10 sales.
‘Put to Work'
“The market is saying that regardless of what happens, there is money to be put to work in all the ultra high-grade sovereigns,” Jim Vogel, head of agency-debt research at FTN Financial in Memphis, Tennessee, said. “There's cash on the sidelines from profit-taking in the second quarter. There's money coming in from global investors.”
Assets in bond funds rose to $2.6 trillion at the end of 2010 from $1.5 trillion at the end of 2008, according to the Investment Company Institute.
Fixed-income securities have returned an average of 3.73 percent this year, according to Bank of America Merrill Lynch's U.S. Market Index, which has about 10,300 securities with a market value of $17.9 trillion. The index has risen every month this year except in June, when it fell 0.3 percent.
Treasuries handed investors a 3.54 percent gain this year, the Bank of America figures show.
Growth Slowdown
Bonds are attractive as the economy slows, inflation remains contained and analysts push back their estimates of when the Fed will raise interest rates.
The median estimate of 62 economist surveyed by Bloomberg News from June 28 to July 7 is for gross domestic product to expand 2.5 percent this year. That's down from 3.1 percent in the January poll. Figures from the Labor Department on July 15 showed that consumer prices fell 0.2 percent in June, the first decline in a year as energy costs dropped.
Fed Chairman Ben S. Bernanke told Congress last week that the central bank is prepared to take additional action, including buying more government bonds, if the economy appears to be in danger of stalling.
Futures traded at the Chicago Board of Trade show the Fed, which last month ended its $600 billion Treasury purchase program, isn't likely to raise its target rate for overnight loans between banks from a range of zero to 0.25 percent until at least the second quarter of next year.
Thornburg Fund
“Yields are pretty low, but at the same time economic fundamentals in the U.S. and most developed markets are poor. So it's unlikely that the Federal Reserve will raise rates in the next year,” said Jason Brady, a managing director at Santa Fe, New Mexico-based Thornburg Investment Management Inc., which oversees $84 billion.
Thornburg's Limited Term U.S. Government Fund, which invests 80 percent of its assets in U.S. government issued or guaranteed securities, had 9.5 percent in cash as of June 30, about double the typical 5 percent, Brady said. The $340.3 million fund's 3.28 percent return in the last 12 months beat 90 percent of its peers, according to Bloomberg data.
Pacific Investment Management Co., the manager of the world's biggest bond fund, isn't likely to be swapping idle cash for longer-maturity Treasuries. Bill Gross, Pimco's co-chief investment officer and manager of the $242.8 billion Total Return Fund, has said Treasuries are unattractive because yields are too low relative to the risk of faster inflation.
‘Liability Burden'
The Total Return Fund had approximately 29 percent of its assets invested in cash and equivalents as of June 30, equivalent to about $70 billion. While Gross boosted the fund's investment in U.S. government securities to 8 percent of assets in June from 5 percent in May, he told CNBC on July 13 that their Treasury investment is in two-year and three-year notes.
“The U.S. basically has a $60 trillion net present value liability burden, and that constitutes Medicare, Medicaid and Social Security in combination,” Gross said July 15 on Bloomberg Television's “Surveillance Midday” with Tom Keene. “It certainly exceeds those liabilities in Greece or Portugal or Spain. Ultimately the U.S. has a big, big problem.”
Treasury 10-year yields, which serve as a benchmark for everything from mortgages to company bonds, will likely rise to 3.55 percent by year-end, according to the weighted average estimate of 62 economists and strategists surveyed by Bloomberg.
The yield, which has ranged from 2.04 percent to 4.27 percent since the start of 2008, slid back below 3 percent last week as traders sought the safest assets on concern Europe's dent crisis was spreading.
Europe Crisis
Moody's cut Ireland to below investment grade on July 12, while Italy's 10-year bond yield rose to 6.02 percent on July 12, the highest since the euro was created in 1999. The 17- nation common currency touched $1.3837 on July 12, its weakest level since March.
“It's a period now where you need to be cautious,” Terry Belton, the global head of fixed-income and foreign-exchange research at JPMorgan Chase & Co., said in a July 7 “Bloomberg Surveillance” radio interview. “So earning zero or close to zero for a short period of time is not the worst thing in the world in the very near term.”
Belton's fixed-income research group was No. 1 last year in Institutional Investor magazine's poll of U.S. money managers.
BlackRock ‘Defensive'
The $21 billion Loomis Sayles Bond Fund is holding the highest levels of reserves since 2007, according to Kathleen Gaffney, co-manager along with Dan Fuss. The fund, which according to Bloomberg data has advanced 8.4 percent over the past five years to beat 96 percent of peers, has about 9 percent of assets in cash and equivalents and nothing in Treasuries.
“We normally park our reserves in Treasuries but the Treasury market is too volatile these days,” Gaffney said in a telephone interview from Boston.
Rick Rieder, who oversees $595 billion as chief investment officer of fundamental fixed-income at BlackRock Inc. in New York, said he is holding “high levels of cash” in various bond portfolios. The fixed-income portion of BlackRock's Strategic Income Opportunities Fund has 43 percent of its assets in cash and cash equivalents.
Rieder said his firm is “underweight” Treasuries relative to benchmark indexes, although he may be a buyer if yields on the 10-year Treasury rise above 3.5 percent.
“We're a bit defensive because the downside risks are significant, but we also think there's going to be opportunities to take advantage of as we learn more about the debt ceiling situation and the European debt crisis,” Rieder said in a telephone interview.
--Bloomberg
