Jubak's Journal
Recent articles:
• Follow the cash flow to 5 great stocks, 4/8/2003
• Fundamentals fail in a fluky first quarter, 4/4/2003
• Reformed? Doesn't look that way, 4/3/2003
More...
| | Jubak's Journal
The increasing risk in 'safe' investments
After three rough years for stocks, investors have spent the last six months looking for safety in investments such as municipal bonds and REITs. But just how safe are they?
By Jim Jubak
For the last three years, safety has paid -- and paid very well.
While the Dow Jones Industrial Average ($INDU) has dropped 10% on average for each of the last three years, bonds have returned about 11% on average, while real estate investment trusts have returned a whopping 15% a year.
No one knows if stocks will turn in another losing performance in 2003. Stocks have recorded only one four-year losing string, and that was from 1929 through 1932, when the world was in the grip of the Great Depression. Even with corporate spending frozen by the Iraq war and the U.S. economy still working its way through the excesses of the bubble that broke in 2000, the odds are against stocks turning in a fourth down year in a row.
Some Wall Street strategists even go so far as to say that stocks at current prices are less risky than many of the safe investments of the last three years. Thats not so much because stocks are a roaring buy with the Nasdaq ($COMPX) just below 1,400. It's because many of the havens sought out by investors during the bear market in stocks are increasingly risky.
Take REITs. In 2002, investors looking for safety and income higher than that paid by bonds poured almost $3.5 billion into mutual funds that own these pools of office, retail, industrial and space. Thats a 20-fold increase from the $179 million that went into these funds in 2001.
The payoff
The bet on safety paid off in last year. Top REIT mutual funds such as Alpine Realty Income & Growth Fund (AIGYX) returned 15% in 2002.
But risks started to rise in the sector in last year's second half. Office vacancies climbed above 15% in the third quarter. Vacancies in the rental housing market rose to near 10% by the year's end. In the first quarter, the office vacancy rate hit 16.2%, the ninth straight quarter of climbing vacancies and falling rents.
All of that cut into returns for REIT investors. The sector is up just 1.2% so far in 2003.
But those developments also have changed the risks of the sector. High vacancy rates threaten the hefty payouts from REITs. In 2002, 30 top REITs generated only $1.14 in cash to cover each $1 of dividends, according to a Lehman Brothers survey. Investors who want to see what can happen to a sector when worries about dividends start to climb dont need to look any further than the collapse in the prices of utility shares.
A downturn like this isnt necessarily in the cards for REITs, but investors who last year diversified into the sector to move away from stocks now own a sector that's likely to track the economy as closely as stocks will.
Another risk shift
The bond sector shows the same kind of shifts in risk.
Look at municipal bonds. Theyre certainly less safe than they were a year ago. Mayors and governors have used all kinds of gimmicks to plug the budget gap created by a slow-growth economy. The more they use budget gimmicks, the more likely it is that something will go wrong.
Thats why municipal bond prices tumbled on word that the Illinois legislature had refused to reduce the $12 billion appeal bond Philip Morris, a unit of Altria Group (MO, news, msgs), is due to post on April 21. The size of the appeal bond has raised worries that the company would seek bankruptcy protection, or at least miss the $2.6 billion payment due as part of the tobacco industrys massive legal settlement with states and localities. Philip Morris accounts for about 54% of all such payments, and states such as New York and California have already borrowed extensively against future payments.
The reduction of safety in REITs and municipal bonds doesnt mean that investors should shun all attempts to diversify away from stocks or all of the asset classes that did well last year.
The value in junk
For example, junk bonds, the high-yielding bonds issued by companies with less than perfect credit ratings, did well last year and look poised to repeat that performance this year. Thats because the trends that worked in their favor in 2002 are still in place in 2003. If the economy improves, so will the credit rating of the companies that issued these bonds, giving them a boost in price. If the economy just keeps fumbling along, investors will still reap the high yields on these bonds. Only if the economy tanks are these bonds more risky than they were in 2002.
But investors do need to look at the safety of each of the "safe" investments in their portfolios with fresh eyes in 2003. Past performance is no guarantee of future returns, the Wall Street fine print reads. And nor does last years safety guarantee say anything about this years risk.
Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. The Wednesday edition stems from Jim's appearance on CNBCs Business Center most Wednesday nights at approximately 5:45 p.m. ET. Selected CNBC stories can be found in the TV Reports index.
At the time of publication, Jim Jubak did not own or control shares in any of the equities mentioned in this column. He does not own short positions in any stock mentioned in this column.
| |
|
|
|
|
MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.
|
