[robjh22]

Hi gang, and greetings.

I don't understand bonds. Or bond funds. I've read all the "bonds for dummies" articles you can imagine but I guess I'm just too dumb.

I have two basic issues: 1) when I read a headline like http://money.cnn.com/2012/04/16/markets/bondcenter/spanish-bonds/index.htm (soaring yields), I don't know if that's good news or bad or what to do with it. I think it is bad news for the sovereign: the yields are soaring because prices are falling, and prices are falling because no one wants to buy. I get that. But does it matter if you are already the holder of a bond and hold it to maturity?

Who does what when they see news like this? Do bond holders panic and sell? Or do buyers come in and buy these discounted bonds because they feel like eventually the issuer will pay, especially if it's a sovereign government?

Making it more confusing, I invest in short term bond funds. Is the manager of my fund going to panic or buy more? Or do they have to make educated guesses just like equity fund managers who have to decide if Apple is too high or just starting to take off?

Thanks for not booing me out of the room; I've really tried to understand this. Though on some days I think I know more than the pros, who find ways to lose billions even though they have masters degrees in finance! I mean, weren't all those guys at Lehman and Bear Stearns smarter than me???

[TSO]

Let's put it this way. Your yields depend on the purchase price and the coupon rate. Purchase price stems from interest rates -- the opportunity costs of sticking to the same security.

The YTM is essentially your required rate of return here. If it rises, prices fall (as they are really the net present values of your purchase price, the amortization of your dc/premium, and th coupon).

From the pov of a current holder, it doesn't affect YOUR yield to maturity as you already bought it. However, it DOES affect your balance sheet b/c of mark-to-market rules, and this can cause significant unrealized losses. It may also foreshadow DEFAULT ON MATURITY because the rising yields suggest increasisg risk premiums.

Conrarians will buy distressed debt for several reasons. One, to take restructuring hostage until their ransom is paid. Two, to exploit market psychology and sell to an idiot. Three, to reap high yields, optimisic of the future, the way value investors trade (really another way to exploit the market)
Post Merge: May 25, 2012, 08:16 AMIf you're investing in ST funds, well, your manager MAY be panicking. Why? There is a huge default risk looming over the eurozone (b/c of missed deficit targets, greece's exit threat, competitveness issues in weaker euro econs, and the human preference for freedom and political autonomy) even more so in the long maturity side.

Sure, the ecb may be hard-pressed to let all tose debt default, but that doesn't eliminate the sticky situation. For all I know, your manager has already exited and went to a different country or just stayed away from sovereign debt. I have no idea -- I don't specialize in fixed income.

[robjh22]

Thanks, TSO. I own about half and half bonds and stocks, mostly through funds, mostly because I don't know any better. Let me ask a followup: if there is a flight out of equities if and into bonds, that means prices rise and yields fall, right? What does that really mean if you already are invested in a bond fund? I can imagine being it both good and bad: the yield to maturity fall on the bonds I hold, which is bad, but the fund manager may make money selling bonds the fund holds, which is good, hence my abiding confusion. Thanks again.

[TSO]

if they're running away ino fixed income because of the "perceived safety", yeah, prices should rise. But the next question is where? Which security?

If you're already invested in a bond, it is a question of GETTING YOUR PRINCIPAL BACK. If your manager has invested inea safe position, then your returns will most likely come from abusing the increasisng demand for "safe haven assets". otherwise, he's one of those parties either panicking or buying like hell. If it's the latter, he's prolly not investing in sovereign debt (pls confirm with the mf's prospectus). if the former, your company may incur losses from being compelled to buy "safe" securities at a premium.

The bottom line is, it depends on your manager's asset allocation and risk tolerance. And since we're tal%ing about a mutual fund here (rather than a hedge fund), chances are he's gonna go after safety and prioritize that before yields. Even if he buys a us or asian bond now, if euro keeps going the way it's going, his premium could very well be offset by a further rise in prices.