Kiplinger\'s Personal Finance 03.2020

20 KIPLINGER’S PERSONAL FINANCE^ 03/2020

INVESTING

quality bonds. ISHARES AAA - A RATED

CORPORATE BOND ETF (QLTA, 0.15%, $55)

offers exposure to the highest-rated

corporate IOUs and yields 2.42%.

Try emerging-markets bonds for extra

income. This isn’t the risky sector it

once was. Today, more than half of the

emerging-markets bond universe is

investment grade. The dollar isn’t as

strong as it was in late 2017 and early

2018. In fact, it was relatively stable
      in 2019 against a basket of foreign cur-
      rencies. And many analysts expect it
      to weaken this year. “Dollar weakness
      is positive for EM assets because gov-
      ernments and companies have a lot of
      dollar-denominated debt. When the
      dollar rises, it’s like a tax,” says Alec
      Young, FTSE Russell’s managing di-
      rector of global markets research. And
      when it weakens, it’s like a rebate.
      Be prepared for volatility. The ride
      with emerging-markets bonds is twice
      as bumpy as the typical core bond
      fund. But securities in this sector, on
      average, yield twice as much. ISHARES
      J.P. MORGAN USD EMERGING MARKETS BOND
      ETF (EMB, 0.39%, $115) yields 4.31%. This
      ETF sidesteps the impact of currency
      swings by buying dollar-denominated
      bonds. For a boost in income, you
      could pair your dollar-based ETF
      with the version that invests in IOUs
      in local currencies, ISHARES J.P. MORGAN
      EM LOCAL CURRENCY BOND ETF (LEMB, 0.30%,
      $44), which yields 5.50%.

STOCK INVESTORS

See what supports your dividends. Avoid

companies with a lot of debt. Pro-

fessional stock (and bond) pickers

scrutinize balance sheets and income

statements to get a sense of whether

a company has the wherewithal to

pay its debts—because if it comes to

a choice between making a debt pay-

ment or paying a dividend, the former

will always win. “Understanding what

a company intends to do with its debt

and how it intends to pay it down is

paramount to what we do,” says Capi-

tal Group’s David Bradin, an invest-

ment specialist at American Funds.

Federal Reserve said in late 2019 that

it does not plan to raise rates until

after a significant and sustained up-

tick in inf lation. Says Capital Group’s

fixed-income specialist Margaret

Steinbach, “Rates will be lower for

longer and longer and longer.” None-

theless, investors wary about the risks

embedded in the corporate-debt

bender can shore up their portfolios

with that in mind. (Returns, prices and

other data are through December 31.)

BOND INVESTORS

Build a core. A well-balanced portfolio

needs a core bond fund for ballast.

A true core bond fund holds mostly

A-rated debt and no more than 5% of

assets in high-yield bonds. The manag-

ers at BAIRD AGGREGATE BOND FUND (SYMBOL

BAGSX, EXPENSE RATIO 0.55%) buy only

investment-grade bonds. More than

half of the fund’s assets sit in triple-

A-rated debt, including Treasuries and

government-backed mortgage securi-

ties. The rest of the fund’s holdings

include high-quality corporate debt

(40%) and other asset-backed securi-

ties (8%). The fund yields 2.09%,

which may not impress income seek-

ers, but its main role is to hold up in

hard times. Consider it an insurance

policy against a recession.

Beef up your safe havens with other

government bonds. Agency mortgage-

backed securities come with the

same guarantee of Treasuries and

a touch more yield. Stable interest

rates should keep prepayments—a risk

with mortgage debt—at bay. VA NG UA R D

MORTGAGE-BACKED SECURITIES comes

in an exchange-traded-fund share

class (VMBS, 0.05%, SHARE PRICE $53) and a

mutual fund class (VMBSX, 0.07%). Both

hold only triple-A-rated mortgage

bonds. The ETF yields 2.55%, and the

mutual fund yields 2.53%, a tad more

than the typical core bond fund.

Move up in corporate quality. Everything

worked in fixed-income markets last

year. Take some profits in junkier debt

and bolster your exposure to higher-

and market conditions have been

perfect for borrowing. The value of

outstanding IOUs issued to investors

and other institutions by large, non-

financial U.S. companies—$10 trillion,

reports the St. Louis Federal Reserve—

has nearly doubled over the past

decade. That’s equivalent to half the

country’s gross domestic product.

Many firms have used the borrowed

money to fund acquisitions. For exam-

ple, CVS Health borrowed $45 billion

to acquire Aetna in 2018. Others have

issued debt to fund share buybacks—

including Apple, which launched a

massive bond offering in 2013. Still

others have borrowed to make or bol-

ster dividend payments.

But there’s a fine line between smart

borrowing and overextension, and

some market watchers see worrisome

signs. The quality of the debt is one

issue. Half of all high-quality corpo-

rate debt is rated triple-B, the lowest

rung of investment-grade credit. When

triple-B-rated companies slip up, they

risk a rating downgrade to “junk”

status, which can stoke investor fears

and send the bond market reeling.

Another worry is that yield-starved

investors have become complacent

about taking on greater risk to eke out

higher fixed-income returns, only to

be unpleasantly reminded of the con-

sequences when the economy sours.

Finally, some analysts fear that firms

borrowing to fund share buybacks or

dividends instead of reinvesting in the

company are putting short-term inter-

ests ahead of long-term growth. “Debt

isn’t necessarily bad,” says Capital

Group investment specialist Dale

Hanks. “It’s about how it’s utilized.”

Risks of a credit crunch remain

muted as long as interest rates stay low

and the economy hums along. But if

rates rise or business slows, firms with

hefty debts may have to sell assets or

cut dividends to cover their obliga-

tions. If the country falls into a reces-

sion, some firms may default, which

can send financial markets plunging.

Fortunately, interest rates should

hold relatively steady for now. The