The past three years have proven that investors, young and old, need to have a stake in bonds. While a stalled economy has put a damper on stocks since 2000, the Federal Reserve’s efforts to spark a recovery have given a boost to bond fund investors. Portfolios made up of short-term government obligations, such as Treasury and agency bonds, reported average total returns of 8.1%, 7.3%, and 6.7% for 2000, 2001, and 2002, respectively, years when the Standard & Poor’s 500 logged losses of 9.1%, 11.9%, and 22.1%.
Why have bonds done so well? Whenever Fed Chairman Alan Greenspan drops interest rates to prod borrowing and economic activity, the fixed income securities that bond portfolios hold appreciate in value. The Fed has slashed rates 12 times since 2001, producing a boon for fund investors.
Now that interest rates have dropped to record levels, some observers fear the bond run is over. The Fed’s latest adjustment left the Fed fund’s rate, or the interest charged to banks for short-term loans, a mere 1.25%. Indications are that rates may soon rise.
Higher rates are not good news for bond fund investors. The value of bond funds increases when interest rates fall and decreases when rates rise. This makes them a more volatile investment than bonds themselves.
“Investors who are somewhat late to the fixed income rally should be concerned about putting money in funds that carry a fair amount of interest rate risk,” says Morningstar analyst Bradley Sweeney. “Short-term government bond funds are one of the more conservative options available.”
With that in mind, we screened data from Morningstar, the Chicago firm that monitors mutual funds, to dig up solid short-term government portfolios. Our chart ranks the top 10 by three-year average annual total returns at the end of the first week in March. Fidelity’s Intermediate Government Fund (FSTGX) garnered the top spot. Despite its name, Morningstar classifies the fund as a short-term government holding. The Fidelity fund, which focuses primarily on Treasuries and mortgage-backed securities issued by the federal government, boasts a 9.8% average annual total return over the three-year period ending March 7, 2003. Second place goes to RBC Government Income (CSICX), a fund whose portfolio was dominated by mortgage-backed bonds issued by federal agencies such as Fannie Mae. The RBC fund averaged an annual total return of 9.4%.
Top Short-Term Government Funds