In 86 of the last 100 measurements, the plain old 5-year T-bill places right up there with the top fixed-income funds. Unless you're reinvesting your gains, why would you bother with a fund?
By Scott Burns
We need a ceremony.
Perhaps a small parade of happy Treasury-note owners followed by a frustrated mass of fixed-income mutual fund shareholders hurling Molotov cocktails.
The occasion is the 100th five-year test period. In each period I have compared the simple purchase of a five-year Treasury note to ownership of 20 major government securities funds. In the 100th period -- the one that began in April 1996 and ended in March 2001 -- direct ownership of a five-year Treasury note did better than the government fund.
This is not a surprise.
It's getting a little predictable. In my previous test, the five-year T-note had done better in 85 of 99 periods. As of 2001, it had done better in 86 of 100 periods. In beating an index of 20 funds, the five-year T-note also did better than 14 of the 20 funds.
This not a surprise, either. Usually, it places in the top five.
This is important information. The only place you will read about it is here. Don't expect it from your helpful mutual fund company.
This information is particularly important for people who are retired and are taking income from their investments. It is less important if you are reinvesting all income.
Why the distinction?
Simple. One of the troublesome things about fixed-income investing is the reinvestment of interest income. It comes in small, inconvenient amounts that tend to reduce your rate of compounding. The best way to eliminate this annoyance is to buy fixed-income mutual funds. Then you have all income automatically reinvested in new shares.
People who are spending their interest income, however, don't have a reinvestment problem.
That's what my research project was set up to test.
Each month I buy a five-year Treasury note and total the income received between issue and maturity. I do the same for each of 20 government securities funds. I buy (on paper) $10,000 of each fund, take the income, and record the principal remaining at the end of five years. Then I adjust the amount of income received upward or downward to bring the principal back to $10,000.
In most periods the government funds lose principal. Some of it is lost to front-end sales commissions. Some of it is lost because the fund declines. Either way, the investor is losing money against the simple alternative of a five-year T-note.
In the period ending March 31, 2001, you would have bought a T-note for $10,000 in April 1996 and earned 6.30 percent a year, a total of $3,150.
The worst-performing fund in the group for this period was AXP Federal Income A (IFINX) shares. With a 4.75 percent front-end load, the amount invested is reduced to $9,525 and that, in turn, declines to $9,378 over the five-year period. During that time, the fund distributed $2,788 in interest income. This might have appeared to be a 5.58 percent yield on the original $10,000 investment.
But we don't have our original $10,000 investment. We have only $9,378.
We've actually lost $622 of principal over the period. If we adjust our return downward, our actual net return shrinks to a measly 4.33 percent. (If you want to get technical, it's actually lower because the interest income was taxable. We'd have to set aside more of our income earnings to deliver the $622 of after-tax income needed to restore our original principal. I've left out that complication to keep things simple.)
The Big Government Fund Report
The chart compares the performance of a simple 5-year Treasury note purchased at the beginning of the period with the performance of each of 19 major government securities funds and an index of the same funds.
| Performance report | | Fund | End value | Total income | Excess over 10k | Avg./ year | | Vanguard GNMA (VFIIX) | $10,192 | $3,425 | $3,617 | 7.23% | | American Century GNMA Inv (BGNAX) | $10,172 | $3,222 | $3,394 | 6.79% | | Fidelity Government Income (FGOVX) | $10,184 | $3,127 | $3,311 | 6.62% | | Scudder GNMA AARP (AGNMX) | $9,993 | $3,208 | $3,201 | 6.40% | | Morgan Stanley U.S. Govt Secs B (USGBX) | $10,078 | $3,113 | $3,191 | 6.38% | | Vanguard Short-Trm Fed (VSGBX) | $10,227 | $2,944 | $3,171 | 6.34% | | ---5 Year Treasury: 4/96--- | $10,000 | $3,150 | $3,150 | 6.30% | | Federated Govt Income Secs F (FGOIX) | $10,014 | $3,117 | $3,131 | 6.26% | | Dreyfus GNMA (DRGMX) | $9,932 | $3,102 | $3,034 | 6.07% | | ----Portfolio Average--- | $9,793 | $3,064 | $2,857 | 5.71% | | Franklin U.S. Govt Secs A (FKUSX) | $9,603 | $3,203 | $2,806 | 5.61% | | Merrill Lynch US Govt.Mtg D (MDFSX) | $9,861 | $2,871 | $2,732 | 5.46% | | Scudder U.S. Govt Secs A (KUSAX) | $9,376 | $3,267 | $2,643 | 5.29% | | Liberty Fed Securities A (CFSAX) | $9,516 | $3,119 | $2,635 | 5.27% | | Federated Fund for US Govt A (FUSGX) | $9,599 | $3,011 | $2,610 | 5.22% | | --- U.S. Government Securities --- | $9,649 | $2,956 | $2,605 | 5.21% | | Putnam U.S. Govt Income A (PGSIX) | $9,577 | $3,012 | $2,589 | 5.18% | | Putnam American Govt Inc A (PAGVX) | $9,737 | $2,822 | $2,559 | 5.12% | | Lord Abbett U.S. Govt Secs A (LAGVX) | $9,307 | $3,236 | $2,543 | 5.09% | | Liberty Int. Govt A (CUSGX) | $9,569 | $2,898 | $2,467 | 4.93% | | AXP Federal Income A (IFINX) | $9,378 | $2,788 | $2,166 | 4.33% |
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Source: Morningstar Principia Pro, March, 2001 data
While this is bad news for government securities funds as a group, there is also some good news for a few funds on the list. The top-performing fund is Vanguard GNMA (VFIIX). Over this period, your original investment grew to $10,192, while the fund distributed $3,475 of interest income for a total gain of $3,617 and an equivalent return of 7.23 percent. Basically, Vanguard GNMA zapped the five-year T-note.
It turns out that Vanguard has been in the No. 1 position most of the time.
With $13.6 billion in assets under management, Vanguard GNMA is the second-largest fixed-income fund in a universe of 2,200 taxable fixed-income funds. Only 106 fixed-income funds have assets of $1 billion or more.
Success has been rewarded.
Two other funds can get in the ring: Fidelity Government Income (FGOVX). And American Century GNMA (BGNAX). Fidelity Government Income has taken the No. 1 position a few times; both funds have regularly placed second or third.
Copyright 2001 Universal Press Syndicate
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