Betting on bonds despite the trend

Fund report Judith Rehak IHT Saturday, March 22, 2003   After two years of a U.S. bond bonanza created by tumbling interest rates, most fixed-income experts are warning that the bond party is over and that it's time to switch into equities. Daniel Fuss, manager of the $1.3 billion Loomis Sayles Bond Fund, sees things differently. "It's a fascinating time for bonds right now," he said recently, citing big value distortions between government and corporate issues in the United States, and widely varying yield curves between the United States, Europe and Australasia. That spells opportunity for Fuss, who shops the world for his favorite value plays, from investment grade to the decidedly risky. One of the best long-term performers in the multisector category, his fund returned 13.18 percent last year, and as of Friday, a gain of 5.8 percent for 2003. An off-shore version, the CDC AM-Loomis Sayles Bond Fund, returned 15.60 percent and 3.65 percent respectively. So how is the portfolio positioned right now? With nowhere to go but up for U.S. rates, Fuss has sold off all of his U.S. Treasury issues. But 20 percent of the fund remains in his longtime favorites, Canada's federal and provincial bonds. Canadian rates are already rising, so he has switched half of the provincials into shorter maturities. "We've made our money, but we still like the currency," he said. The Canadian dollar has been strengthening against the U.S. dollar, which lifts returns. Fuss also owns AAA-rated short-term sovereign debt from Norway, where rates are kept high to hold down inflation. The current yield on Norwegian debt of about 1.5 years is roughly 4.90 percent, versus a meager 1.40 percent on a comparable U.S. Treasury. With this solid background as ballast for the portfolio, Fuss has added riskier fare. He likes U.S. corporates in depressed cyclical industries that should benefit from an improving economy. For example, he owns convertible preferred bonds from International Paper Co., and he notes that he already sees prices of certain grades of paper "rising and sticking". Even racier are carefully selected junk bonds from shaky survivors of the telecom meltdown, like Lucent Technologies Inc. and Corning Inc., both suppliers of telecommunications equipment. "It's risky," Fuss acknowledged, "but I don't mind taking risk at 40 cents on the dollar when the odds are 10 to one in your favor, and as long as you can diversify." His Lucent bonds have doubled in price. "I wouldn't buy any more," he said. Fuss has also dipped into a few of Europe's struggling telecoms. He owns convertibles in Britain's Colt Telecom Group PLC, where he is betting on revenue growth and better financial management, the latter installed by Fidelity Investments, the U.S. financial group whose investment unit is a majority owner of Colt. Colt is also buying back its bonds, another positive sign, Fuss said. Turbulence in emerging markets can yield onetime opportunities as well. In January, the fund boldly snapped up two bonds from Cerro Negro Finance, a venture between Petroleos de Venezuela SA, Venezuela's state-owned oil company and ExxonMobil Corp.,during a crippling strike of oil workers and widespread political unrest. The strike has now ended, and Fuss figures it's in the interest of both ExxonMobil and the government to get production going again. Meanwhile, one bond price has already popped 3.25 percent "The rating agencies are worried about the government, and so are we," Fuss said. "But that's when you buy cheap bonds."