Bonds take off, besting stocks

Nearly 3% average return beats 91% of equity funds

Real estate also proved strong

Unexpected interest-rate drop tied to performance

Your Money

October 10, 2004|By Bill Atkinson | Bill Atkinson,SUN STAFF

They aren't sexy and they often don't get a lot of attention, but bond funds are back -- at least for now.

Responding to a sluggish job market and what seemed to be a slowing economy, bonds took off in the third quarter, returning nearly 3 percent on average and beating 91 percent of all equity funds.

The performance handily beat the returns of diversified equity funds, which lost 2.76 percent. They held the largest chunk of investors' money, some $2.7 trillion, by the end of the quarter Sept. 30, according to Lipper, a New York-based mutual fund tracking company.

Bond funds even smoked science and technology funds, which lost 10.97 percent in the quarter; small-cap growth funds, which fell 6.19 percent, and funds focused on Japan, down 9.58 percent.

Of 199 equity funds managed by Maryland institutions, 44 -- just 22 percent of the group -- had positive returns, according to a quarterly survey by Bloomberg.

Even William H. Miller III, Legg Mason Inc.'s superstar portfolio manager, had a tough quarter: His Value Trust lost 5.8 percent. If performance doesn't improve soon, Miller could snap his 13-year streak of beating the Standard & Poor's 500 stock index.

"Bonds had a great quarter and everything else stunk," said Russel Kinnel, director of fund research for Morningstar, a Chicago-based mutual fund rating firm. "It is proof about just how unpredictable the markets are. The one thing we knew for sure was interest rates were going to go up. Naturally they went down."

Bond investors in Maryland as well as the rest of the country loved that surprise. Falling interest rates sent investors scrambling for bond and real estate funds.

Of the 102 Maryland bond funds, all except one had positive returns in the quarter. That was a sharp contrast from the year's second quarter, when all Maryland bond funds posted negative returns as interest rates rose and investors prepared for the economy to take off.

The Scudder Emerging Markets Debt fund led the bond funds, returning 10.2 percent for the quarter that ended Sept. 30. The fund, which invests in the bonds of emerging countries, returned 13.2 percent over the past 12 months and 18.3 percent over the past three years, according to Bloomberg.

`Done pretty well'

Other strong performers included the T. Rowe Price Emerging Markets Bond Fund, up 8.8 percent; the T. Rowe Price U.S. Treasury Long-Term, up 5.1 percent; and the Legg Mason High-Yield Portfolio, up 4.9 percent.

"If you have been just in bonds over the last four or five years, you have done pretty well," said Kent Croft, president of Croft-Leominster Inc., a Baltimore-based money management firm. He manages the Croft-Leominster Income Fund, which rose 3.8 percent in the quarter.

About nine months ago, Croft, anticipating that interest rates would rise from record lows, began moving money out of long-term debt and into short-term securities like Treasury bills and high-quality commercial paper. Now, about 60 percent of the portfolio is in longer-term corporate bonds.

"We might be sacrificing some yield now, but we think it is more risky to have everything in longer maturities," he said.

`A great quarter'

The money in Treasury bills and the commercial paper is "really our dry powder," Croft said, that can be invested when rates rise.

Although the third quarter for equity fund investors was tough, it wasn't a disaster.

People who pumped money into international, gold, real estate and natural resources funds did well.

"For the folks who are in the more conservative income-oriented classifications or emerging markets, it was actually a great quarter," said Martin Vostry, a research analyst at Lipper in Denver.

The T. Rowe Price Latin America Fund was the best-performing fund in the quarter, returning 14.7 percent. It was followed by the T. Rowe Price New Era Fund, which returned 12.2 percent, and the Brown Advisory Real Estate fund, up 8.3 percent.

The New Era Fund, which has $1.9 billion in assets under management and is managed by Charles M. Ober, got a boost from oil stocks, which have climbed as oil prices have risen, and from companies that make steel, copper and building materials.

Neglected

"My area has been neglected for so many years," said Ober, whose fund was ignored during the technology boom of the late 1990s. "People are coming back to the idea that resource is a good place to invest."

Ober's favorite stock: Nucor Corp., the Charlotte, N.C.-based steelmaker, which is up 69 percent since the year began and trades in the $94 range.

"It has been a great stock," he said.

The portfolio received a bump from Bucyrus International Inc., a Milwaukee equipment maker that went public in July. Its stock has jumped to around $32 a share from $18, the initial public offering price.

"It has been a moon shot," Ober said.

Vostry, the Lipper analyst, said equity funds could still struggle the rest of the year as investors continue to worry about rising oil prices, a weaker than expected economy and war.

"From a fundamental standpoint, they [mutual funds] can definitely go up," Vostry said. "Whether they can go gangbusters, I don't think so."

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