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By Christine Benz and Shannon Zimmerman | 09-05-2012 02:00 PM

Be Prudent in the Hunt for Yield

Investors should appreciate the risk trade-off, the effects of inflation, and the value that a fund manager can add in certain higher-yielding assets, says Morningstar's Shannon Zimmerman.

Christine Benz: Hi, I'm Christine Benz for Morningstar.com.

Investors have been gravitating to some higher-yielding fund categories, but associate director of fund analysis Shannon Zimmerman says they should make sure to go in with their eyes wide open.

Shannon, thank you so much for joining me today.

Shannon Zimmerman: Always good to be with you, Christine.

Benz: Shannon, you have been talking about investors on the hunt for yield, and let's talk about what you see as some of the risks that are embedded in some of these higher-yielding fund sectors that investors have been gravitating to.

Number one, you say is that on an inflation-adjusted basis, some of those really enticing yields might not be all of that good after all?

Zimmerman: Right. Well, even just in absolute terms, they are not all that enticing. But if you are comparing the lay of the land, you see, for instance, in the high-yield category, the average yield there is about 7%. Well that looks great--not in an absolute terms necessarily--but in relative terms, relative to what you could get in investment-grade bonds. But your point is a very good one.

When you adjust for inflation, and you talk about real yields versus nominal, the named, yield it's a big, big difference. So, right now, for instance, among Treasuries, you have to get to the 20-year flavor of T-bills before you get positive in terms of the real returns. Everything else, the one-year, three-year, five- and seven-year are yielding negative amounts, which in a nutshell means that once you adjust for inflation, investors are actually paying Uncle Sam for the privilege of parking their cash in those bonds.

As a safety play, I guess it make some sense, but as a play toward making sure that you're going to be able to preserve your purchasing power into retirement, it doesn't make a lot of sense.

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