Bond prices have fallen hard since early November, driving up yields. But now, yields may be high enough to draw some investor money away from stocks.
Certainly, the complexion of the two markets has changed a bit over the past few sessions. As recently as Feb. 10, bond buyers were in a funk, with the yield on the longest-dated (30-year) Treasury ticking up to 4.77%. The 30-year hadn’t been that high since April.
But a successful Treasury auction concluded the week, and yields began to fall. Late Tuesday afternoon, the 30-year yield had eased to 4.66%. That’s good enough for about a $15 gain in the price of a $1,000 bond.
I’m gaining more and more confidence that an important top for yields is at hand, and right now, I really like Western Asset Emerging Markets Debt Fund (NYSE: ESD).
ESD is a closed-end bond fund that employs no leverage (borrowed money), and is tossing off a handsome 7.3% yield — double the yield of a U.S. Treasury bond with a maturity comparable to the fund’s average of 12.8 years.
Over 90% of ESD’s bonds are denominated in dollars, so you aren’t taking significant currency risk. However, it’s worth thinking carefully about the fund’s credit risk (i.e., the possibility that one or more bond issuers might not pay principal and interest in full and on time).
At last glance, 94% of ESD’s portfolio consisted of government paper. Good enough, but which governments? Brazil, Russia, Mexico and Turkey account for more than half the total. All four have greatly improved their financial standing in the past decade; indeed, the market now views them as better credit risks than Italy!
Lest you get too comfy in your chair, I should add that ESD — like many other emerging-markets bond funds — also dabbles in Venezuela and Argentina (together, about 12% of the portfolio). But that’s part of the game: If you buy these offbeat credits at a high enough yield and the feared default never happens, it’s possible to rake off a spectacular return.
Over the past seven calendar years (through Dec. 31, 2010), a $10,000 investment in ESD has grown to $18,400 — almost three times as much wealth as an S&P index fund has created during the same period. That’s the benefit of getting your “paycheck” (interest) up front!
Now that bond prices generally seem to be bottoming out, the downward pressure on ESD’s share price is ebbing, making this an opportune time for us to strike. Buy ESD at $18.50 or less.
