Rising bond rates offer some investors new strategies
Rising bond rates offer some investors new strategies
Investors are ditching short-term bonds, and home buyers are reconsidering options in the wake of a recent bond-market rout marked by rising long-term rates. The new strategies are evidence that some investors, particularly income-oriented investors, can benefit from the bond market's woes.
THE RATE GAME
With long-term rates now higher than short-term rates, investors and home buyers should consider new strategies.
Long-Term Rate Rise Prompts Strategy Shift
As Yield Curve Returns to 'Normal,' Investors Start to DitchShort-Term Bonds, While Home Buyers Reconsider Options
By JANE J. KIM and RUTH SIMON
June 20, 2007; Page D1
The recent bond market rout is prompting some fixed-income investors and mortgage shoppers to rethink their strategies.
Some investors have begun buying bonds with longer maturity dates, taking advantage of yields that moved higher as bond prices fell. Meanwhile, as rates on 30-year mortgages also jumped, some borrowers have begun taking another look at adjustable-rate mortgages. Bank of America Corp., for instance, says it's seeing increased interest in hybrid ARMs that carry a fixed rate for the first three, five, seven or 10 years and then adjust annually.
The new consumer strategies reflect a significant shift in the yield curve, or the difference between the yields on short-term and long-term bonds. For the first time in about a year, long-term bonds are returning more than short-term instruments. That represents a more normal state of affairs, because investors expect to reap greater rewards for locking up their money for a longer period of time.
Mike Bangs, a Houston retiree, says he started buying longer-term municipal bonds in the past two weeks as yields rose on the long end. "Until recently, I wasn't getting good prices in the 15- to 20-year range," says the 62-year-old, who has typically bought bonds with terms ranging from 10 to 15 years. "Recently, it's gotten" to where the longer-dated issues are attractive.
Of course, rising rates are generally bad news for investors' existing bond holdings, because newer issues make the older lower-yielding bonds less attractive. Indeed, bond mutual funds, which had seen record inflows through May, saw two of the biggest single-day outflows in the past two weeks in over two years, according to TrimTabs, an independent research firm that tracks fund flows.
What's more, some money managers expect long-term interest rates will continue to move higher amid concerns over global inflation and other factors. And some investors are keeping their powder dry. "Fair value? Yes, but I think they can get cheaper before the green light to buy bonds is turned on," says Dan Shackelford, portfolio manager of T. Rowe Price Group Inc.'s New Income fund and Inflation-Protected Bond fund.
The yield on 10-year Treasury notes -- a benchmark that influences many long-term interest rates, including home mortgages -- was at 5.085% yesterday after hitting a recent end-of-day peak of 5.249% last week. That's nearly half a percentage point above three-month Treasury bills, which yielded 4.643% at yesterday's close. About a month ago, the roles were reversed, with the yield on the three-month bill topping that of the 10-year note.
The steepening of the yield curve creates new planning opportunities for income-oriented investors, who have gravitated to cash and other short-term investments in recent years. Retail investors are likely to start slowly in coming weeks by rolling over their short-term CDs into intermediate-term bonds, with three- to five-year maturities or longer, says Tom Ricketts, president and chief executive of Incapital LLC, a Chicago investment bank that specializes in underwriting bonds for retail investors.
Municipal bonds are looking increasingly attractive. Marilyn Cohen, president of Envision Capital Management Inc., a Los Angeles investment firm, has been buying more intermediate-term municipal bonds with four- to eight-year maturities, now paying more than 4%. Previously, investors would have had to buy bonds that mature in 10 to 15 years to get the same level of yields, she says.
One investing strategy that is expected to get a boost is "laddering," where investors buy bonds scheduled to come due at several different dates in the future, rather than all in the same year. The idea is that, if interest rates rise, investors may be able to take advantage of higher rates by buying new bonds with money coming from maturing issues. And even if rates fall, investors will have some protection because their overall portfolio return is going to be higher than the market rates.
"It makes sense that bond investors are finally starting to play the curve. Finally something is happening," says James Bianco, president of Bianco Research LLC, a market-research firm in Chicago.
The rise in long-term rates is unwelcome news for most borrowers looking to refinance a mortgage or buy a home. The rate on 30-year fixed-rate loans climbed to 6.86% last week, according to HSH Associates. Though still low by historical standards, that's well above the recent low of 6.16% in December and the highest rate in nearly a year. Mortgage rates fell slightly yesterday to an average of 6.8%, according to HSH.
Fixed-rate loans remain the mortgage of choice for many borrowers in the current environment. Dan Arrigoni, president of U.S. Bank Home Mortgage, a unit of U.S. Bancorp, says more than 80% of the bank's borrowers are opting for a fixed-rate loan. Nationwide, ARMs accounted for just 17.8% of loan applications in May, down from nearly 30% last year, according to the Mortgage Bankers Association.
But as rates move higher, some borrowers are taking another look at adjustables. Peter Foley, an insurance underwriter, was considering both a fixed-rate loan and an ARM to finance his purchase of a 2,600-square-foot home in Canton, Conn. But after rates moved higher, Mr. Foley opted for a $375,000 ARM that carries a 5.99% rate for the first four years. "As we got closer to ... closing time, the fixed-rate option has pretty much come off the table," says Mr. Foley, who believes the ARM's four-year fixed-rate period provides sufficient protection against future rate increases. Michael Menatian, the mortgage banker who arranged for the loan, says he has seen a jump in the number of borrowers taking such loans.
The benefits of taking out a hybrid ARM have increased recently, although the spread between rates on hybrids and fixed-rate loans is small by historical standards. Borrowers can cut the rate on their loan by about 0.28 percentage point by opting for a hybrid ARM that's fixed for five years instead of a 30-year fixed-rate mortgage. That spread is the widest since October, but well below the 0.68 percentage-point average over the past 14 years, according to HSH Associates.
For now, hybrid ARMs are likely to get more attention from borrowers with larger loan balances. "The jumbo category [loans above $417,000] is where you're probably going to see the most movement," says Brad Blackwell, a national sales manager for Wells Fargo & Co., in part because borrowers with larger loan amounts tend to be more sophisticated. The potential savings from switching to an ARM can be greater, too, for borrowers with larger loans.
As mortgage rates moved upward, many borrowers rushed to lock in a loan ahead of future increases. "When interest rates go up, traditionally, the fence sitters kind of scamper to do something," says Mr. Arrigoni. He says U.S. Bank's loan volume climbed 40% the day after 10-year Treasury rates jumped.
For borrowers facing a rate increase on their adjustable-rate mortgage, "there's still some benefit to refinancing," says Keith Gumbinger, a mortgage analyst with HSH Associates. "But it's not nearly the compelling sort of move it was a few weeks ago."
Some borrowers considering a cash-out refinancing might decide to postpone that move because of higher rates, although there's no assurance that rates will fall substantially, says Greg McBride, a senior financial analyst with Bankrate.com. On a $300,000 loan, the recent half-percentage-point increase in rates will cost borrowers about $100 a month, he says.
Mitch Ohlbaum, a mortgage broker in Los Angeles, says he's counseling clients looking to refinance to wait until rates fall or, if they need to pull out cash, to take out a fixed-rate home-equity loan, particularly if they have a low rate on their current mortgage. Rates on fixed-rate home-equity loans currently average 8.12%, according to HSH.
Write to Jane J. Kim at jane.kim@wsj.com and Ruth Simon at ruth.simon@wsj.com
Full article and diagrams
interest rates, fixed income investments, bonds, market rates, mortgage rates
Investors are ditching short-term bonds, and home buyers are reconsidering options in the wake of a recent bond-market rout marked by rising long-term rates. The new strategies are evidence that some investors, particularly income-oriented investors, can benefit from the bond market's woes.
THE RATE GAME
With long-term rates now higher than short-term rates, investors and home buyers should consider new strategies.
- Fixed-income investors may want to consider buying longer-term bonds and CDs.
- Building 'ladders' of investments that come due at different dates can hedge against interest-rate risk.
- Some borrowers are taking another look at hybrid ARMs, mortgages that carry a fixed rate for several years.
Long-Term Rate Rise Prompts Strategy Shift
As Yield Curve Returns to 'Normal,' Investors Start to DitchShort-Term Bonds, While Home Buyers Reconsider Options
By JANE J. KIM and RUTH SIMON
June 20, 2007; Page D1
The recent bond market rout is prompting some fixed-income investors and mortgage shoppers to rethink their strategies.
Some investors have begun buying bonds with longer maturity dates, taking advantage of yields that moved higher as bond prices fell. Meanwhile, as rates on 30-year mortgages also jumped, some borrowers have begun taking another look at adjustable-rate mortgages. Bank of America Corp., for instance, says it's seeing increased interest in hybrid ARMs that carry a fixed rate for the first three, five, seven or 10 years and then adjust annually.
The new consumer strategies reflect a significant shift in the yield curve, or the difference between the yields on short-term and long-term bonds. For the first time in about a year, long-term bonds are returning more than short-term instruments. That represents a more normal state of affairs, because investors expect to reap greater rewards for locking up their money for a longer period of time.
Mike Bangs, a Houston retiree, says he started buying longer-term municipal bonds in the past two weeks as yields rose on the long end. "Until recently, I wasn't getting good prices in the 15- to 20-year range," says the 62-year-old, who has typically bought bonds with terms ranging from 10 to 15 years. "Recently, it's gotten" to where the longer-dated issues are attractive.
Of course, rising rates are generally bad news for investors' existing bond holdings, because newer issues make the older lower-yielding bonds less attractive. Indeed, bond mutual funds, which had seen record inflows through May, saw two of the biggest single-day outflows in the past two weeks in over two years, according to TrimTabs, an independent research firm that tracks fund flows.
What's more, some money managers expect long-term interest rates will continue to move higher amid concerns over global inflation and other factors. And some investors are keeping their powder dry. "Fair value? Yes, but I think they can get cheaper before the green light to buy bonds is turned on," says Dan Shackelford, portfolio manager of T. Rowe Price Group Inc.'s New Income fund and Inflation-Protected Bond fund.
The yield on 10-year Treasury notes -- a benchmark that influences many long-term interest rates, including home mortgages -- was at 5.085% yesterday after hitting a recent end-of-day peak of 5.249% last week. That's nearly half a percentage point above three-month Treasury bills, which yielded 4.643% at yesterday's close. About a month ago, the roles were reversed, with the yield on the three-month bill topping that of the 10-year note.
The steepening of the yield curve creates new planning opportunities for income-oriented investors, who have gravitated to cash and other short-term investments in recent years. Retail investors are likely to start slowly in coming weeks by rolling over their short-term CDs into intermediate-term bonds, with three- to five-year maturities or longer, says Tom Ricketts, president and chief executive of Incapital LLC, a Chicago investment bank that specializes in underwriting bonds for retail investors.
Municipal bonds are looking increasingly attractive. Marilyn Cohen, president of Envision Capital Management Inc., a Los Angeles investment firm, has been buying more intermediate-term municipal bonds with four- to eight-year maturities, now paying more than 4%. Previously, investors would have had to buy bonds that mature in 10 to 15 years to get the same level of yields, she says.
One investing strategy that is expected to get a boost is "laddering," where investors buy bonds scheduled to come due at several different dates in the future, rather than all in the same year. The idea is that, if interest rates rise, investors may be able to take advantage of higher rates by buying new bonds with money coming from maturing issues. And even if rates fall, investors will have some protection because their overall portfolio return is going to be higher than the market rates.
"It makes sense that bond investors are finally starting to play the curve. Finally something is happening," says James Bianco, president of Bianco Research LLC, a market-research firm in Chicago.
The rise in long-term rates is unwelcome news for most borrowers looking to refinance a mortgage or buy a home. The rate on 30-year fixed-rate loans climbed to 6.86% last week, according to HSH Associates. Though still low by historical standards, that's well above the recent low of 6.16% in December and the highest rate in nearly a year. Mortgage rates fell slightly yesterday to an average of 6.8%, according to HSH.
Fixed-rate loans remain the mortgage of choice for many borrowers in the current environment. Dan Arrigoni, president of U.S. Bank Home Mortgage, a unit of U.S. Bancorp, says more than 80% of the bank's borrowers are opting for a fixed-rate loan. Nationwide, ARMs accounted for just 17.8% of loan applications in May, down from nearly 30% last year, according to the Mortgage Bankers Association.
But as rates move higher, some borrowers are taking another look at adjustables. Peter Foley, an insurance underwriter, was considering both a fixed-rate loan and an ARM to finance his purchase of a 2,600-square-foot home in Canton, Conn. But after rates moved higher, Mr. Foley opted for a $375,000 ARM that carries a 5.99% rate for the first four years. "As we got closer to ... closing time, the fixed-rate option has pretty much come off the table," says Mr. Foley, who believes the ARM's four-year fixed-rate period provides sufficient protection against future rate increases. Michael Menatian, the mortgage banker who arranged for the loan, says he has seen a jump in the number of borrowers taking such loans.
The benefits of taking out a hybrid ARM have increased recently, although the spread between rates on hybrids and fixed-rate loans is small by historical standards. Borrowers can cut the rate on their loan by about 0.28 percentage point by opting for a hybrid ARM that's fixed for five years instead of a 30-year fixed-rate mortgage. That spread is the widest since October, but well below the 0.68 percentage-point average over the past 14 years, according to HSH Associates.
For now, hybrid ARMs are likely to get more attention from borrowers with larger loan balances. "The jumbo category [loans above $417,000] is where you're probably going to see the most movement," says Brad Blackwell, a national sales manager for Wells Fargo & Co., in part because borrowers with larger loan amounts tend to be more sophisticated. The potential savings from switching to an ARM can be greater, too, for borrowers with larger loans.
As mortgage rates moved upward, many borrowers rushed to lock in a loan ahead of future increases. "When interest rates go up, traditionally, the fence sitters kind of scamper to do something," says Mr. Arrigoni. He says U.S. Bank's loan volume climbed 40% the day after 10-year Treasury rates jumped.
For borrowers facing a rate increase on their adjustable-rate mortgage, "there's still some benefit to refinancing," says Keith Gumbinger, a mortgage analyst with HSH Associates. "But it's not nearly the compelling sort of move it was a few weeks ago."
Some borrowers considering a cash-out refinancing might decide to postpone that move because of higher rates, although there's no assurance that rates will fall substantially, says Greg McBride, a senior financial analyst with Bankrate.com. On a $300,000 loan, the recent half-percentage-point increase in rates will cost borrowers about $100 a month, he says.
Mitch Ohlbaum, a mortgage broker in Los Angeles, says he's counseling clients looking to refinance to wait until rates fall or, if they need to pull out cash, to take out a fixed-rate home-equity loan, particularly if they have a low rate on their current mortgage. Rates on fixed-rate home-equity loans currently average 8.12%, according to HSH.
Write to Jane J. Kim at jane.kim@wsj.com and Ruth Simon at ruth.simon@wsj.com
Full article and diagrams
interest rates, fixed income investments, bonds, market rates, mortgage rates
Labels: bonds, fixed income investments, interest rates, market rates, mortgage rates
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