Bond Funds Take Hit by Rise in Yields

Treasury yields are on the rise. Short-term yields that slipped into negative territory in December and hovered near zero for most of January have begun to inch up.

The move higher is more pronounced farther out on the yield curve. On Jan. 30, 12-month T-bill yields were up 13 basis points to 0.47% from year-end. Over the same period, the 10-year generic U.S. government yield rose nearly 63 basis points to 2.84%, while the 30-year yield gained almost 93 basis points to 3.60%.

The Federal Reserve would like to keep interest rates low to encourage borrowing by consumers and businesses to resuscitate economic growth. However, unprecedented government deficits as far as the eye can see, coupled with the expectation of record borrowing levels to pay for the upcoming stimulus package, can't be ignored. To fund this borrowing, higher rates are starting to be demanded.

Bond prices move in the opposite direction to their yields. The recent pull-back from the massive flight to quality of U.S. government debt has sent prices lower and yields up. Two of the best-performing fixed-income mutual funds in January bet on higher interest rates.

The top-performing open-end, fixed-income fund in January is the ProFunds Rising Rates Opportunity ProFund(RRPIX Quote), which gained 20.13% during the month. The fund is 125% leveraged to the inverse price movements of recently issued long bonds.

Similarly, the Rydex Series -- Inverse Government Long Bond Strategy Fund(RYJUX Quote) is designed to increase in value as bond prices fall. This resulted in a January advance of 14.31%.

The other eight funds listed below focus on various geographic segments of the municipal bond market. Unfortunately, every single one of the muni funds charges investors either a front or back load, tagging investors either coming or going.