Bonds to the Rescue in Tough Times

With almost a decade in the business, whether in Thailand or abroad, I am always doing bond fund manage¬ment. Through the bad old days of Thai baht devaluation in 1997 and its ensuing crisis in 19981999, the 20022003 credit crunch in the US, and lately the spectacular subprimeled crisis, I have seen it all.

The reader may ask "Why do you say so? What's wrong with being a bond fund manager"? Well, life is not easy being one. Not only are bonds often viewed as a less sexy asset class, inferior to their rockandroll cousins (namely stocks), but they are often treated as an afterthought. That is, investors usually think of them when it is already too late!

When things are nice and calm, and life is beautiful, nobody thinks of putting their money in bonds. However, when things turn rough, life may no longer be beautiful.

The crisis has already hit. Bond prices are already way up, stock prices way down, and investors say to themselves, "I should have more of my assets invested in bonds." I always want to say, "I told you so, my dear investors", but of course I don't say that, or my career, in bonds or not, would be finished. So I keep on doing what I do, and hopefully someday soon my investors will learn.

Let's use the most recent experience to see how invest¬ments in bonds would have done for you. First, let's recall the financial environment in early June 2007. At the time, the US subprime problem was just emerging, but it was not a big worry to most people. Stocks felt like they could keep doling out doubledigit returns without a problem, as they have done dur¬ing the past few years.

One year later, subprime became a blownout crisis. Global equity came down - 12.5 per cent from June 2007 to June 2008. However, the global gov¬ernmentrelated bond index gave a staggering return of some 13 per cent during the same time period, while the basic US government bonds returned some 10 per cent.

Generally, these safe govern¬ment bonds have a very low yield. In June 2006, their average yields were only 45 per cent. Hence, investors had no interest in them. When the crisis hit, how¬ever, the flight to quality bonds and the possibility of rate cuts by central banks drove up the prices of these bonds. So investors earn both the coupons and the runup in prices. And only investors in openended bond funds, not the closedend ones, stand to gain in this situation. Hence, in a wellbalanced portfolio, the gains in these bonds generally help to off¬set loses investors incur in stocks.

Investors in closedend bond funds would have earned 2.53.5 per cent returns during the oneyear time period. Not bad, but incomparable to the over10 per cent returns from investment in the safest government bonds in the world. In closedend bond funds, the style popular in Thailand, investors only earn the coupons, not the price apprecia¬tion.

Seeing a lot of investors who had put a largerthanprudent portion of their portfolio in stocks having a tough time, I hope that by contributing this column, I would spark some interest in openended bond funds among Thai investors.

Kate Hathirat is the head of Fixed Income at Aberdeen Asset Management, Thailand