Bonds Surprise So Far in 2014

How quickly things change! At the start of the year, no one wanted to have anything to do with bonds. Interest rates were going higher and bonds were expected to respond by losing more value.

Everyone looked for a repeat of 2013 when the bond market took a big hit after former Federal Reserve Board Chairman Ben Bernanke hinted in May that the stimulus program known as quantitative easing would soon begin to wind down. The sell-off that followed hit bond prices hard, driving up the yield on 10-year U.S. Treasuries by a full percentage point. Bond funds lost ground for the first time in several years, with the average Canadian fixed-income fund falling 1.75 per cent in 2013.

The ripple effect hit other types of interest-sensitive securities, including REITs, preferred shares and high-dividend stocks.

At the beginning of this year, I suggested that one appropriate strategy in this situation would be to underweight bonds in your portfolio. But I stressed the importance of keeping some bonds and/or bond funds as protection against a stock market retreat. “It’s never a good idea to abandon bonds entirely,” I wrote at the time.

Well, as I write in late February some of the numbers are surprising. Many stock market indexes have lost ground so far this year. As of the close of trading on Feb. 24, the Dow was down 2.2 per cent year-to-date. Overseas, the Tokyo Nikkei, last year’s hottest market, had dropped 8.9 per cent and Hong Kong was in the red. Among the few bright spots, surprisingly, was our own S&P/TSX Composite Index, with a year-to-date gain of 4.4 per cent.

RELATED: Bonds — The Great Stabilizer

But guess what? Bonds are surprisingly profitable so far in 2014 and are easily outperforming the Dow. The DEX Universe Bond Index, which tracks all types of Canadian bonds, posted a 2.38 per cent advance for 2014 to the close on Feb. 24. Provincial bonds did especially well, moving up 3.13 per cent.

But the biggest bond winner, by far, was the DEX Maple Bond Index, which is up an amazing 20 per cent year to date. Maple bonds are denominated in Canadian dollars but issued by foreign corporations, typically for raising capital for Canadian operations. They are sold mainly in the institutional market so it is difficult for individual investors to buy them.

I have not been able to find any bond fund that focuses exclusively on Maple bonds. The closest is the iShares DEX Short Term Corporate Universe + Maple Bond Index Fund (TSX: XSH). But because of its short-term bias, its returns don’t come close to reflecting the performance of the pure Maple Bond Index.

As an alternative, I suggest you look at a global bond fund, of which there are many available such as the Renaissance Global Bond Fund. This fund invests in a portfolio of global bonds, with a large percentage in U.S. issues. It has an outstanding record, with a five-year average annual compound rate of return of 5.9 per cent to Jan. 31. The decline in the loonie has helped it to a gain of 4.4 per cent so far this year.

The fund is managed by Brandywine Global, an independent subsidiary of Legg Mason. The MER of 2.06 per cent is high for a bond fund, but the results make it worth the price. The minimum investment is just $500. Try to get the front-end load units at zero commission; the code is ATL1028.

Ask a financial adviser if this fund is appropriate for your portfolio.

Gordon Pape’s new book, RRSPs: The Ultimate Wealth Builder, is now available in both paperback and Kindle editions. For information on a three-month trial subscription to Gordon Pape’s Internet Wealth Builder newsletter go here