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Bond Returns, Fund Surprises, and Sector Secrets

A roundup of investment news from Morningstar Advisor magazine.

Morningstar Analysts, 08/23/2010

Examining Stocks' Excess Returns Over Bonds
Investors who have yet to get back into the market may still be hesitant to do so, while those who have returned might be thinking about abandoning ship yet again. In volatile times, the relative safety of fixed-income investments can be quite alluring. However, by taking on less risk, the potential for higher returns most likely will also diminish. According to Morningstar research and communications manager Jim Licato, a simple illustration of excess returns may help pacify investors in situations such as these.

The images below illustrate the excess returns of stocks over intermediate-term government bonds for 60-, 120-, and 240-month rolling periods from January 1926 to May 2010. The outperformance of stocks becomes more apparent the longer the rolling period. While stock returns may fluctuate widely from year to year, holding the asset for longer periods of time results in apparent decreased volatility and higher returns than bonds.
(View the related graphic here.)

Midyear Fund Surprises
There have been more than a few surprises for fund investors so far in 2010, and associate director of fund analysis Dan Culloton recently put together a list of the seven biggest for mid-2010. They are, in no particular order:

* Vanguard 500 VFINX getting a new ETF share class.
* DoubleLine Total Return DBLTX crossing the $1 billion mark in less than three months.
* Janus Worldwide JAWWX manager Laurent Saltiel jumping ship for AllianceBernstein.
* Kevin O'Boyle's resignation as manager of the 5-star Presidio Fund.
* Treasuries' surprising performance.
* Gold's continued rally.
* Equity-fund investors' rush to the exits after the flash crash on May 6.

The Best Sectors to Own When Everything's Down
"Recession-proofing" comes up, unsurprisingly, with every recession. Some experts suggest investments in the consumer staples or utilities sectors, although there's no definitive answer. To get a sense of which areas of the market might perform the best in times of trouble, Preethi Parmar, a Morningstar senior research and communications analyst, looked at how sectors performed relative to each other during recent down years.

The table at right shows the number of years of negative performance for 12 sectors from 1992-2009 and the sectors' average negative returns during this time period.

The media sector had the most years of negative performance (seven), with an average return of negative 21% during years that had negative returns. The hardware sector experienced five years of negative returns with an average return of negative 30.5% during those years, the highest average negative return within the group. The best performer under poor market conditions: consumer goods. The consumer goods sector experienced only four years of negative performance in the past 18 years, with an average return in negative years of negative 8.9%.

There's also some interesting sector data to be found in individual years of poor returns. In 2002 (when all sectors experienced negative returns), the hardware sector had the worst returns (negative 41.3%). The worst- performing sector in 2008 (another year when all sectors were down) was financial services (negative 50.1%). However, consumer goods performed the best among all 12 sectors in both of these years, with returns of negative 4.1% in 2002 and negative 22% in 2008.
(View the related graphic here.)


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