4. Bond Ladders
Rung Out July 2004, page 88.
Bond ladders, the fixed-income world’s answer to passive dollar-cost averaging, were not as successful as dynamic trading strategies over the past two years at wringing the most real return out of the flailing and flattening yield curve. “It’s an interesting passive strategy,” notes Zane Brown, partner and director of fixed income at Lord Abbett, a Jersey City, N.J., investment company. “But active portfolio management is still likely to offer more value, and I think the movement of the yield curve over the past 12 months reinforces that.”

THEN AND NOW  Bond ladders have performed in line with expectations, despite the flattening of the yield curve over the past 18 months, because losses at the short end have been offset by gains in longer-tenor bonds. However, fixed-income portfolio managers say they have beaten this passive strategy by taking aggressive advantage of opportunities presented by the flattening.

As an example, he notes, “In 2004 we emphasized buying securities beyond the five-year area. Now we can go back and purchase the lower maturities at a much lower price than was available.”

The bond ladder strategy, by contrast, is not designed to identify market opportunities. It simply involves putting a like amount of capital into each of a series of bonds with staggered maturities, using the capital from bonds that mature to reinvest in new instruments. It is designed so that periodically—typically either annually or biannually—the investor always has a segment of the portfolio maturing. If you were to design a 10-year laddered program, for example, you would divide the amount to be invested into 10 equal portions and buy bonds that mature in each of the 10 years. As one set of bonds matures, they are replaced automatically with another set of 10-year bonds, rather like climbing a maturity ladder.

As Worth went to press, increases in the Federal Reserve’s short-term lending rate has made these securities cheaper to buy. However, these pressures have not pushed up rates at or beyond the 10-year section of the curve. A year ago, the 10-year Treasury was trading at 4.24 percent, but its yield has since fallen to 4.14 percent, while the three-month Treasury rate has gone up by around 1.85 percentage points.

This yield curve flattening has been mostly a wash in terms of the performance of bond ladders. In aggregate, the prices of the short-term securities in the ladder portfolio have fallen, but the long-term securities have gone up a bit in value. “So on a net basis, I don’t think [the flattening] should have affected the ladder itself,” Brown notes.

5. Timber Investments
Wooden Performance August 2004, page 86.
Timber has been the darling of private client investment strategists for the last several years, but there are now concerns over its reliance on demand from the increasingly tepid housing sector. Despite this, in 2004 and 2005 timber investments continued to perform well and exhibited very low volatility.

“Fundamentals appear to be relatively well balanced, and absent any shock to the system, we expect that to continue,” notes Kurt Akers, director of research for Global Forest Partners, a timber investment management organization (TIMO) that raised a $300 million fund in early 2004. “While housing might decline in a cyclical manner, we believe that demographics are positive over the long term,” he adds. “Also, the impact of Hurricane Katrina could be positive for the sector, given the amount of rebuilding that will be necessary.”