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Strategies & Market Trends : Booms, Busts, and Recoveries -- Ignore unavailable to you. Want to Upgrade?

To: Oak Tree who wrote (34605)	6/1/2003 3:07:35 PM
From: EL KABONG!!!	Respond to of 74559

Oak Tree, Why would short and intermediate term bonds or bond funds go down if interest rates increased? Why wouldn't they just go up slower? -- It didn't decrease in value --it stayed the same. If interest rates were to increase, they increase (mostly) for new issues. Previously issued bonds would (mostly) still carry the lower interest rate. Therefore, if I were a seller of an old bond (at a lower interest rate) I'd be competing for a buyer with newly issued bonds (at a higher interest rate). What bond buyer in his/her right mind would buy a lower interest bond when they could buy a higher interest bond for the same money? Therefore, as the seller, I have to discount the value of my bond (in other words, make up the difference in interest rates from the principal within the bond) at the time of sale, which makes the bond worth less at face value. Since bond funds own literally tons of these older bonds, they lose value on the old bonds when the interest rates rise. They make up some of the loss (but usually not all of it) on the higher interest rates paid on the newer (higher interest rate) bonds. Another way of expressing this is that the ultimate yield is inversely proportionate to a rising/falling interest rate. While I'm asking questions. Why would it be unsafe to buy muni's? Large cities do not go bankrupt, they raise taxes or get bailed out by the fed's. So there is lots of insurance against a loss. On the flip side, there are no taxes so any profits go a long way. Two reasons, primarily... First, municipalities can and do sometimes default on bonds. Remember the great Orange County, California default of a few years ago? Also the WHOOPS default some time prior to that? But the main reason munis are risky right now is the exact same reason that government bonds or corporate bonds are equally risky. With interest rates at near record lows, it is a more likely event that in the future, interest rates will rise rather than go lower (the Fed rate is currently at 1.25% percent, and theoretically can't go below 0%), so there's simply a very limited possibility that interest rates will decrease much further in the near term future. As was discussed above, when the interest rates on current bonds goes up, the value of existing bonds goes down. So, people that buy into bond funds, whether corporate, government or munis, have plenty of downside risk to them. Rising interest rates are generally not good for existing bondholders. Falling interest rates are good for existing bondholders. KJC

To: Oak Tree who wrote (34605)	6/1/2003 3:10:39 PM
From: KyrosL	Respond to of 74559

Jay's idea is that gold will rise relative to the dollar, not that short term bonds or munis will default -- in fact Greenspan will make sure they don't default by buying them as a last resort.

To: Oak Tree who wrote (34605)	6/1/2003 10:03:01 PM
From: energyplay	Respond to of 74559

Re: Bonds - A pretty good explaination of the interest rate / bond value see-saw is in "The Bond Bible" , Marilyn Cohen I beleive is the author. Or look for bond web site on google - www.bondsonline.com I think has one. Munis - Cities and states can and do go bankrupt. Federal gov't does not, because they can print money. Fed govt. may not bail out, or may insist bond holders take a haircut. See Argentina for recent example of this. I believe a number of cities went BK in US great depression. Munis which are general obligation bonds are backed by taxing power of the local government. Many special purpose bonds, like water district, tobbacco revenue, highway, industrial park, etc. are only backed by cash flow from specific assets. Problem with those assets or cash flows can result in default. Muni bond insurance works well most of the time, but may fail at times when multiple governments are near default. Like now, with some states having huge deficts. Most muni bond funds will be full of various types of bonds, some with very solid ones, others with lots of junky bonds.