Page 13 - Kiplinger's Personal Finance - November 2018
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change in principal value—most types
       of bond funds are either in the red
                                          Playing Defense
       or barely positive for the year so far.
       The culprit, of course, is the Fed. As   Not All Stock Sectors Get Mauled
       it raises short-term interest rates in
       the strong economy, it drives down   In a bear market, nearly all stocks fall. But some hold up much better than others. Here are
       the principal value of older fixed-rate   average bear market declines for Standard & Poor’s 500 index industry sectors since 1946:
       bonds and pushes up their yields.
                                          Consumer                                             Consumer
       That’s part of the logic of rebalancing   staples  Health care  Utilities  Energy  Materials  Financials  Technology discretionary Industrials
       your portfolio by trimming stocks
       and buying bonds: You’re taking prof-
       its in stocks to pick up higher yields
       on fixed-income assets. Still, it can be
       hard to trade a winning investment   –10%
       for one that’s almost certain to come      –13%
       under price pressure.
         With the Fed planning more rate
       hikes in 2019, there are defensive                 –20%
       moves you can make with bonds. One
       is to keep most of your bond allocation                   –24%    –25%
       in short- or intermediate-term, high-                                    –27%    –28%
       quality bonds rather than in longer-                                                    –30%
       term issues. If market interest rates                                                           –32%
                                          SOURCE: CFRA
       continue to rise, the shorter a bond’s
       time to maturity, the smaller the
       decline in principal value caused by   The second argument for holding   TIPS are best owned in tax-deferred
       higher rates. The trade-off is that   bonds is for insurance: If some calam-  accounts. Buy them directly from
       you’ll earn a lower current yield on   ity were to suddenly rock the economy   Uncle Sam at www.treasurydirect
       shorter-term bonds than on longer-  and the stock market, it’s likely that   .gov, or check out VANGUARD INFLATION-
       term issues. Funds that focus on inter-  money would pour into the relative   PROTECTED SECURITIES (VIPSX).
       mediate-term bonds, which mature   safety of high-quality bonds, pushing
       in five to 10 years, are a good compro-  prices up and yields down. In the   AN ALTERNATIVE HEDGE
       mise, and among these it’s hard to   midst of the financial crisis a decade   Investors looking for a buffer in a
       beat DODGE & COX INCOME (DODIX, YIELD   ago, high-quality bonds bucked the   rough stock market might consider
       3.2%). The actively managed fund’s   downtrend. The Bloomberg Barclays   alternative funds. These funds use
       total return has trounced the average   U.S. Aggregate Bond index returned   often-complex strategies aimed at gen-
       intermediate-term bond fund over the   5.2% in 2008, compared with a nega-  erating returns unrelated to moves in
       past three, five, 10 and 15 years.  tive 37% total return for the S&P 500.   stock and bond markets overall.
         Another defensive move is to shift   The greatest danger to bonds and   In general, investors should think of
       part of your bond allocation to cash   stocks alike would be a sudden accel-  alt funds as a potential portfolio cush-
       accounts, such as money market mu-  eration in inflation that would force   ion, not a huge moneymaker. Laura
       tual funds, which have very low risk   the Fed to hike rates aggressively, says   Tarbox, a CFP at Tarbox Family Of-
       of principal loss. The average money   Bob Doll, chief stock strategist at   fice, uses alternative funds for about
       fund was recently yielding 1.6%; we   Nuveen Asset Management. For years,   15% of clients’ assets. She doesn’t ex-
       like VANGUARD PRIME MONEY MARKET FUND   “Low inflation has been financial as-  pect the alt funds to shoot the lights
       (VMMXX), yielding 2.1%.            sets’ best friend,” Doll says. If markets   out. “We’re looking for 6% to 8% an-
         But nervous investors should fight   sense that that era is over, “you’d want   nual returns, completely uncorrelated”
       the urge to hunker down in too much   to own fewer bonds and stocks both.”  to the stock market, she says.
       cash. The argument for holding bonds   One exception: Treasury inflation-  There are plenty of caveats with
       instead of going entirely into green-  protected securities, or TIPS. The   these complex investments, including
       backs is twofold. First, if it’s income   principal value of these bonds is guar-  typically high management fees. Some
       you need, bonds provide more of it   anteed to rise with inflation. If you   alt funds charge 2% or more annually.
       than cash accounts, with the yield on a   don’t own TIPS, this is a good time to   Nonetheless, we think some funds are
       five-year Treasury note recently 2.9%.   buy them, as inflation creeps higher.   worth considering now. SCHWAB HEDGED

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   K11I-BETTER INVESTOR.a.indd   57                                                                     9/21/18   3:05 PM
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