A primer on bonds; In roller-coaster bond market, it may be time for a good upswing
Bonds, sometimes a testy topic at local school board meetings and sewer commission sessions, could turn out to be one of the ''sleeper'' investment opportunities of the 1980s. But experts suggest caution in investing during these volatile times.
Record-high yields and bargain-basement buys on some debt issues have been prompting many investors to take a hard look at high-quality notes in recent months.
After a recent spate of bond avoidance, caused by a market that crested and troughed like tides in the Bay of Fundy, a number of financial advisers are again urging clients to slip them into their investment portfolios.
''Bonds may be for the '80s what real estate was to the '70s,'' says David Jones, an economist with Aubrey G. Lanston & Co., a New York securities firm.
Traditionally, bonds have been a favorite, relatively risk-free investment for many financial institutions and well-heeled investors. After all, putting your money in a tax-free municipal bond or Treasury bond was like buying a plow horse to till the garden: The performance wasn't always spectacular, but it got the job done.
With bonds, you could almost always be assured of getting your initial investment back at some point, plus a pocketful of interest. Today the situation is the same -- and yet not the same. You still get paid interest regularly. And once the maturity on your bond runs out, you can still be sure of getting back your initial investment. But, given the recent hiccups in the economy and interest rate bounces, the value of the bond may fluctuate wildly while you hold it -- which has made many investors and bond traders gun-shy.
When long-term interest rates started moving toward 20 percent early last year, some investment managers holding bonds with 6 and 7 percent coupons saw their portfolios drop millions in value almost overnight.
Those who actually sold their old notes had to take sizable capital losses. To make matters worse, inflation nibbled away at the interest the bond-bearers were getting.
One result: Many banks and insurance companies, traditionally some of the biggest bond buyers, have retreated from the market and are investing in only short-term debt issues. Stepping into the void has come a new breed of buyer: risk-minded speculators who play the futures bond market as if it were another commodity.
''In terms of trading, it has become the equivalent of pork bellies,'' Mr. Jones says of the bond market. ''It is a wild roller coaster. We've seen huge swings in rates the last two years.''
For now, however, many analysts regard bonds as a good investment because:
* Some of the more popular investment alternatives, such as stocks and real estate, remain flat. In fact, in total return some bonds have been outstripping stocks.
* Many economists expect interest rates to ease at least through the first half of the year. That means bond buyers could cement themselves into a high yield (from 13 to 16 percent) at a time when inflation was easing. Lower interest rates would also drive up bond values.
Some high-rated, low-interest bonds are now selling at nearly half their value. Many counselors have been advising clients to buy these ''deep discounted'' bonds, believing there is still some upward price movement to come.
There is also a platoon of economic seers, looking ahead at the financing needs of government and corporations, who see interest rates rising before midyear and then peaking near last year's highs. Stay clear of bonds, they warn.
In the corporate sector, many utilities and industrial companies are now offering bonds with shorter maturities (10 years instead of 15 or 20). Analysts say the trend is likely to continue. Corporate bonds are those issued by the private sector and are taxable.
Tax-exempt issues - those floated by state and local governments - used to be bought mostly by financial institutions. Now many are being snapped up by individual investors. For a person in a 50 percent tax bracket, for instance, a 13 percent municipal bond would bring the equivalent of a plump 26 percent taxable return.
''The yields we have now are the highest we've ever had,'' says Richard Franke, president and chief executive officer of John Nuveen & Co., an investment firm specializing in municipal bonds. ''Our phones are ringing off the hook.''
One way for small investors to avoid putting all their pennies in one bond pot is to invest in bond mutual funds. With these, a number of investors pool their money to buy a variety of bonds. The fund is then professionally managed. The big advantage: less risk. One snag: You pay a small charge for management of the fund.