TimingCube - Bond funds versus money market funds - bond funds,money market,retirement plan,treasure bills,junk bonds,interest rates

Follow TimingCube »

	Turbo Model				Classic Model


		Share

Signal Update

Current Signal Performance as of

Signal Type	Trade Date	Index	Return since issued
		Nasdaq 100
		Russell 2000
		S&P 500
		QQQQ

Cumulative Returns since First TimingCube Live Signal () as of

Index	Long Only	Long Only with Margin	Long & Short	Long & Short with Margin	Buy & Hold
Nasdaq 100
Russell 2000
S&P 500
QQQQ

Note: QQQQ returns are included for continuity sake.

Market Update

After a good start following the July 4 Holiday, stocks lost ground Wednesday on record oil prices. Then on Thursday, as they looked headed for a nasty drop following the deadly terrorist attacks in London, markets showed their resilience by staging an impressive reversal that carried the major indices into positive territory for the day. Investors kept bidding the market higher Friday, embracing a strong earnings report from Alcoa and encouraging employment data. The net result is that major indices all finished the week with significant gains, the Russell 2000 even closing at a new all-time high.

For the week, the Russell 2000 and Nasdaq 100 respectively gained 2.97% and 2.87%. As for the S&P 500, it finished 1.46% higher. All three indices rest above both their 50-day and 200-day exponential moving averages (EMAs). The week's action has gone to reinforce our current Buy signal, which therefore remains in effect.

Trend Timing School

Bond funds versus money market funds

Here's a strange topic for TimingCube, an outfit that normally focuses exclusively on stock market timing!

Well, on second thought there are a number of circumstances for which such an evaluation could come in handy in order to find the best alternative to cash. Many of us are restricted to a Long Only strategy in our retirement plans. During Sell signals, instead of going short, we have to sit in cash, typically in a money market fund to at least earn some interest. The same situation arises when we are lucky enough to have new money to invest, e.g. the semi-monthly contribution to a 401(k) plan, which we prefer to keep in cash until the next signal is issued. Of course such an assessment would also be helpful if we ever have a Cash signal (so far, none was ever issued).

Since almost every retirement plan and broker offers a number of bond fund choices, many come to wonder why they would not be better than the money market fund.

And the short answer is: it depends. Let's just state clearly that at times bond funds can lose money.

Before we go much further we need to establish a base of understanding, sorry for the experts. Contrary to stocks which represent ownership in a company, bonds are debt instruments, or loans for which you are the lender, if you buy the bond. The borrower is generally a government entity (the U.S. government, states or municipalities) or a large corporation. While they are often called fixed-income investments because of the yearly interest rate they pay until maturity, there are other variables that come into play. Their value fluctuates with interest rates and, as stocks, with the laws of offer and demand.

Bonds come in many flavors of issuers, maturity dates, interest rates, risk level, etc. Everything from rock solid treasury bills to junk bonds. The same goes with bond funds and it is hard to generalize, but one thing they all have in common is that your principal can fluctuate up or down (unlike a money market fund or cash) and in periods during which interest rates (also known as yields) go up, bond funds tend to decrease in value.

The largest broad bond funds tend to be the safest. Two well-known giants are the PIMCO Total Return Fund (PTRAX) - see the return graph below - and the Vanguard Total Bond Market Index Fund (VBMFX), but there are many other ones that are similar, and there are even bond ETFs to be found as well (see FAQ of the Week below).

The 3-year chart of the PIMCO fund below clearly shows that while in a general uptrend, the share price can drop substantially at times. Worse, and not shown on this chart, are times, like the late seventies and early eighties, when long interest rates zoomed to over 18% and bonds were in a desperate bear market.

The stock market and bonds often move in opposite directions. During stock market declines, bonds are seen as a safe haven and their prices go up as a function of increasing demand. But then there are also times when they move in the same direction. The same goes with another generalization that “short and long-term interest rates generally move together”, as this has not been the case in the last year or so. Although short-term rates have been rising under the stimulation of the Federal Reserve Boards' nine consecutive rate hikes over the last year (known as tightening), yields for long bonds have kept coming down (which is bullish for bond funds). With the yield on a 30-year U.S. treasury bond at about 4.3% it is easy to see why bond funds are more attractive than money market funds (paying only about 2% currently), provided that the long-term bond bull market continues with the rates continuing to come down.

The reason TimingCube does not recommend bond funds is that our Model does nothing to predict the future of interest rates. When we issue a Sell signal for stock market investments, long-term interest rates could be going down as they are now (and bond funds would be best), or they could be going up (and then money market funds would be safest). So, if you have a good handle on the future direction of interest rates, or a crystal ball, you are all set. And as fate would have it, you could even play the interest rates both ways thanks to our friends at ProFunds and Rydex who have come up with bond funds that use derivatives to move in the opposite direction of the 30-year Treasury bond, i.e. they make money when rates go up, the ProFunds Rising Rates Opportunity fund (RRPSX) and the Rydex Juno Investor fund (RYJUX).