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Fund Manager: High-Yield Bonds To Outpace Other Bonds

- Alan Lavine and Gail Liberman

High-yield bonds could outperform other types of bonds this year, according to Pax World High-Yield Bond Fund Manager Diane Keefe.

Keefe only invests in socially responsible companies--companies that don't pollute the environment, or manufacture arms, alcohol or tobacco. The companies also have good employee relations. Her fund is the only socially responsible high-yield bond mutual fund available to investors.

When you invest in high-yield or "junk" bonds, you need to be careful not to put all your money in them. Reason: They are among the riskiest of all bonds. The 2003 rally in the high-yield industry's distressed debt could come back to haunt investors, Keefe cautions. Also, some high-yield bonds are overvalued landmines.

"The rating agencies still have whole industries on watch for downgrade, not upgrade," she says. "The quality of financial reporting is still questionable - it remains to be seen whether these companies are as good as the prices of their bonds suggest."

However, Keefe says two key factors could combine to benefit investors in high-yield bonds:

  • Favorable interest rates. Keefe expects interest rates to be stable or rise slightly. But a possible rise in interest rates could affect government or other corporate debt more than it would affect high-yield bonds.

  • A strengthening economy. With the third-quarter gross domestic product (GDP) currently at 8 percent, U.S. corporations are producing more cash flow.

    This could cause the price of their debt and the quality of their bonds to rise. "Companies that refinanced their debt in 2003 have been able to lock in low long-term rates that will improve their cash flow," she said. This could make their high-yield bonds more appealing.

    Keefe cited four high-yield bonds of socially responsible corporations held by the fund.

  • St. John's Knits. The company is a family-owned, high-end retail supplier that continues to do well. Keefe believes that high-end retail is more recession-resistant due to the fact that more economically stable customers continue to shop in bad times.

  • Simmons Mattresses. Pax World High Yield Fund purchased the fixed rate bonds from Simmons Mattresses when interest rates were higher. Now that interest rates have fallen, Keefe has purchased the company's floating rate notes, which should pay more cash as rates rise.

  • Nature's Bounty. This vitamin company, whose products are sold through Wal-Mart and other stores, manufactures its own vitamins and also sells them online.

  • Blue Ridge Paper. This privately held company makes packaging for Minute Maid Orange Juice and is owned by its employees.


    Alan Lavine and Gail Liberman are husband and wife columnist and authors of The Complete Idiot's Guide To Making Money With Mutual Funds, (Alpha Books). Al and Gail's new book is Rags to Retirement, (Alpha Books).

    To read more columns, please visit the column archive.

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