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Three Bond Classes: Year-to-Date Returns

by: Brett Steenbarger August 20, 2008 | about stocks: BLV / ITE / TLO    
Brett Steenbarger

Brett Steenbarger

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One way that investors signal their sentiment toward the economy is through their differential interest in various classes of bonds. If there is a flight to safety, we expect Treasury bonds to outperform other bond classes. If investors are risk-seeking, they will gravitate to high-yield bonds. If the outlook is questionable for companies, we will see corporate bonds underperforming Treasuries and tax-exempt bonds.

For this look at year-to-date performance among bond classes, I examined bond funds within the Vanguard family. Here are some of the observations:

1) Treasuries have outperformed - Intermediate-term Treasuries [VFITX] and long-term Treasuries [VUSTX] are the only groups with positive price returns for the year.

2) Intermediate-term has outperformed long-term - Price performance has been better for intermediate-term tax exempt bonds [VWITX] than for long-term tax exempts [VILPX]; for intermediate-term investment grade corporate bonds [VFICX] than for long-term investment grade corporate bonds [VWESX].

3) Investment grade has outperformed high yield - Price performance has been better for long-term investment grade corporate bonds [VWESX] than for high-yield corporate bonds [VWEHX]; slightly better for insured long-term tax-exempt bonds [VILPX] than for high-yield tax-exempt bonds [VWAHX].

We we see is that, in relative terms, bond investors have been gravitating toward safety (Treasury yields) and away from corporate and high yields. With concerns regarding inflation and perceptions of a maintenance of Fed ease, intermediate-term bonds have outperformed long-term ones.

It is when we see underperformance at the shorter-end of maturities and among Treasuries relative to corporates that we'll know that themes have changed (tighter Fed, more confidence in the economy). I'm also watching the relative performance of tax-exempts to see if they are hurt by continued housing weakness (and questions about municipal defaults) or if they become bond darlings in the face of likely tax hikes from the next administration.

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This article has 2 comments:

  •  
    Aug 20 03:48 PM
    It is a nice graph which says that fear is running the markets these days, but you have not seen anything yet. Treasuries will become even more valuable when equities dive and fear grips the traders. I will sell then and of course, I am short too. I wonder if PM will come in out of the cold?
    Reply
  •  
    Aug 21 10:41 PM
    Brett: A good observation but the question is why? Why do high grade municipal bonds on the intermediate and long term part of the curve out yield Treasurys?
    Why has the intermediate portion of both the Treasury and muni curve out performed the long end? The muni/treasury relationship has created what I feel are rare opportunities in muni bonds. If you want to put on an abritrage trade then you can buy PZA (a muni ETF) and buy TBT ( a short treasury ETF) and wait for the spread to collapse.

    Reply
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