‘94/’95 : Have Bond Funds Really Bottomed? Pros Disagree

If virtually everybody hates bond mutual funds, is it time to buy? Or is everybody right?

The average taxable bond fund posted a negative “total return” of 3.3% last year, meaning the funds’ principal values fell so sharply that all of their 1994 interest earnings were wiped out and then some.

As calculated by Lipper Analytical Services, last year was the first year since 1974 that stock and bond funds both declined in value--a measure of the severity of the rise in market interest rates in 1994.

Tired of watching their share prices slide, investors have been dumping bond funds in droves in recent months. If longer-term interest rates continue to rise in 1995 as the economy expands, the sellers could look smart, because bond values would keep eroding.

But precisely because interest rates jumped so sharply in 1994, many bond pros argue that the worst is over. With long-term bond prices down nearly 20% versus a year ago, “we’ve been through so much already that you have to think about putting some money to work now,” contends Cathy Jameson, head of fixed income investments at Wood Struthers & Winthrop in New York.

Even though the Federal Reserve Board is expected to boost short-term interest rates (now around 6%) further this year to slow the economy, long-term bond yields of around 8% don’t necessarily have to go higher--and may drop, many Wall Streeters say.

But that rosy scenario is based on some key assumptions: that inflation stays subdued, that world economic growth doesn’t zoom, and that the unraveling of three years of heavy bond speculation-- a la Orange County--is ending.

Some experts suggest that to play it safe, investors looking to make new commitments to bonds stay with short- to intermediate-term funds, meaning those that own bonds maturing in two to seven years. A three-year U.S. Treasury note now yields 7.78%; a 30-year T-bond yields only 0.10 point more, at 7.88%.

Others say the play in shorter bonds now is too easy--another hint to speculators, at least, to chance “going long.” Says Robert Markman, a Minneapolis money manager: “It’s almost laughably easy to be a contrarian these days.”