The typical short-term taxable bond fund is down a hard-to-digest 4% to 6% this year through Sept. 9. Rapidly rising interest rates demanded these high costs and claimed two years or more of returns. But you know that.
So here’s a question: What’s the typical growth rate of these funds’ cash distributions since just before the Federal Reserve cut interest rates in March? The answer: 94%. Monthly payouts from the 10 largest bond funds of this type are rocketing, almost doubling already, with more increases to come.
American Funds Intermediate Bond Fund of America (FIBX (opens in new tab)), a short-term fund despite its name, tops the list, up 246% since early March. Annualizing the last monthly payment gives a return of 4.2% — roughly where economists and pension fund managers expect the Fed to hike short-term rates over the next few months before pausing to assess the impact on the economy , inflation and investor sentiment .
True, a fund that pays you 4.2% but has a minus 6% total return year-to-date still doesn’t sound appealing, especially next to my brokerage firm’s published list of 6-24 month certificates of deposit showing the 3rd quarter .25% to 3.50% – and I spotted this offer two weeks before the Fed’s September rate hike.
What’s probably the most rewarding way to take advantage of stronger near-term interest rates once the Fed has plateaued? And do short-dated bond and bond-type mutual fund and exchange-traded fund managers have strategies to capture additional returns? I’ve asked short-term borrowers if better conditions are near.
Better days are ahead for bond funds
It’s no surprise to report that her answer is yes.
Matt Freund, head bond strategist at Calamos Investments, says the time to stay away has come and gone. “Every day it looks like you’re getting paid for the risks you take,” he says.
Translated: Even with higher bank savings rates, bonds and debentures newly issued or rated on the open market at a yield of 3% to 5% are much more enticing than bonds that were yielding less than 2% six months ago.
I understand that super safe CDs, treasury bills and money market funds are now paying a fair wage. But I can’t ignore the uptick in the fund’s payouts — and why it will continue for a while after the Fed stops raising rates.
In an environment of rising interest rates, there is always a lag in a Fund’s interest-generating power as lower-yielding material gradually matures and higher-yielding debt instruments take its place. I asked Columbia Threadneedle portfolio manager Ron Stahl how long he had been with a fund like Columbia Short Duration Bond ETF (SBND (opens in new tab)) or Columbia Short Term Bond Fund (NSTRX) to keep increasing monthly payouts after Fed stops rising. He didn’t want to be pinned down lest anyone interpret that as a guarantee, but it could take up to four months.
Freund notes that his firm’s short funds buy floating-rate and short-term high-yield debt that pays more and more for a decent amount of time, whatever happens to Fed fund rates. Your short-term fund may not double the monthly pay package in 2023, but your income should be more than able to keep up with the Powells and the Yellens. The immediate future looks brighter for this troubled financial community.