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Fixed Income Markets in Review

2013 has been a challenging year for the broad fixed income market, but there have also been some positive developments. Let’s review what’s transpired so far, and discuss how investors may position their portfolios for the road ahead.

Recent Volatility Has Created Opportunity

In the first half of the year, there has been some significant volatility in the fixed income market. Part of this was due to statements in May from the Federal Reserve, which led to some speculation that the Fed could begin to taper its bond buying program (also known as quantitative easing) as early as this fall. These expectations drove down U.S. Treasury prices, which causes yields to rise across the fixed income market (since bond prices and yields have an inverse relationship).

Detroit Files for Bankruptcy

Another notable event this year has been the July 18 bankruptcy filing by the city of Detroit, which is the largest Chapter 9 filing in history. This was not unexpected by the market. While this may be a long, drawn-out process for Detroit, we do not see any indications of such severe credit deterioration in other major cities, and we view the overall market implications of this bankruptcy filing to be limited. The situation surrounding Detroit highlights the need for professional fixed-income management, with the resources to undertake extensive bond research and an understanding of state and local municipal finance regulations. It is important to note that no Dreyfus fixed-income funds had purchased any of Detroit’s unsecured general fund obligations or unlimited general obligation bonds.

Improving Fundamentals and Reforms

There have been a number of positive developments within the municipal bond market. State and local municipalities in general appear to have been getting their financial houses in order, implementing pension reform and spending restraints. Federal tax revenue is on the rebound, with 13 quarters of positive growth. All of these improvements bode well for a strengthening economy. And, despite the volatility in the market, municipal yields have been higher than U.S. Treasuries.

MUNICIPALS MAY PROVIDE A DESIRABLE TAXABLE EQUIVALENT  YIELD ADVANTAGE

Source: U.S. Census Bureau, Rockefeller Institute State Revenue Report, August 2013, No. 92.

The Way Forward

As a result of these developments, the yield curve has steepened. Bonds with shorter maturities may offer greater stability in a rising rate environment, but also lower yields. Bonds with longer maturities may offer higher yields, but may also have increased volatility, although the higher coupon on these bonds may help offset some of that volatility. So what is an investor to do? Consider this Dreyfus solution.

Dreyfus Short-Intermediate Municipal Bond Fund

  • For investors concerned about the potential for rising interest rates, the fund’s focus on shorter duration municipal bonds may provide greater price stability compared to longer duration funds.
  • Municipal bond funds also offer higher after-tax yields than comparable taxable investments.

 

Investors should consider the investment objectives, risks, charges, and expenses of a fund carefully before investing. Download a prospectus, or a summary prospectus, if available, that contains this and other information about a fund, and read it carefully before investing.

Asset allocation and diversification cannot assure a profit or protect against loss.

Main Risks

Bond funds are subject generally to interest rate, credit, liquidity and market risks, to varying degrees, all of which are more fully described in the fund’s prospectus. Generally, all other factors being equal, bond prices are inversely related to interest-rate changes, and rate increases can produce price declines.
Equity funds are subject generally to market, market sector, market liquidity, issuer and investment style risks, among other factors, to varying degrees, all of which are more fully described in the fund’s prospectus.
High yield bond funds involve increased credit and liquidity risk compared with higher-quality bond funds. Below-investment-grade bonds are considered speculative as to the continuing ability of an issuer to make interest payments and repay principal.
Foreign bonds are subject to special risks including exposure to currency fluctuations, changing political and economic conditions, and potentially less liquidity. The fixed income securities of issuers located in emerging markets can be more volatile and less liquid than those of issuers in more mature economies.
A decline in the value of foreign currencies relative to the U.S. dollar will reduce the value of securities held by the fund and denominated in those currencies. Foreign currencies are also subject to risks caused by inflation, interest rates, budget deficits, low savings rates, political factors and government control.
There is no guarantee that dividend-paying companies will continue to pay or increase their dividends.