Fidelity Bond Fund Buys Banks, REITs

BOSTON ( TheStreet) -- Fidelity Investments' newest bond mutual fund is finding opportunities in the debt of banks and real estate investment trusts.

David Prothro and Mike Plage oversee the Fidelity Corporate Bond Fund ( FCBFX), which was launched last month.

Welcome to TheStreet.com's Fund Manager Five Spot, where America's top mutual fund managers give their best stock picks and views on the market in a five-question format.

Why is Fidelity starting a corporate bond fund now in what many analysts say is a rising interest-rate environment?

Plage: Fidelity currently offers investment-grade bond funds that invest in the entire market, as well as those that focus on specific underlying sectors or maturity ranges. With this new fund, we're now offering investors targeted exposure to corporate bonds, which represent about 20% of the investment-grade bond market. Through the fund, investors and advisors will gain access to the debt of many of the largest and most successful companies in America.

While rising rates are a legitimate concern for short-term investors because rising yields generally result in lower bond prices, it's important to keep in mind that corporate bonds' excess yields relative to Treasuries can help to offset potential price declines if interest rates rise.

This is especially true for investors with longer investment time horizons. Compounding income can have a significant impact on total returns. In addition, rising rates are typically associated with an improving economy, which can lead to rising bond prices if company fundamentals improve.

Prothro: I would add that while Treasury rates are currently quite low, corporate bond spreads are wider than historical averages. So, from a relative-value perspective, we view corporate bonds as still attractive, despite the recent decline in credit spreads. When you combine all of these factors, we believe this is a still good time to consider investing in a corporate bond fund.

What investment trends are you following?

Plage: Companies' fundamentals are good, but the economic outlook is somewhat cloudy. So, we're looking for evidence that the U.S. economy has stabilized and the recovery will not get derailed by the European debt crisis. We're paying particular attention to anything that might impact consumer confidence, which will affect companies' willingness to invest.

We're also closely following legislative and regulatory efforts to increase government oversight of the financial sector, which could be a big driver of the credit outlook for the financials. Another trend we're following is the re-emergence of leverage buyout activity, so we're looking for companies that might be affected by that trend.

Which industry sectors do you like?

Prothro: While the fund is new, Mike and I have been managing corporate bond portfolios for institutional investors and diversified mutual funds for quite some time. Some of the recent themes have included favoring financials, especially U.S. money-center banks that benefited from government support initiated during the heart of the crisis. As the spread for financials declined to more normal levels over the past year, we began to pare our overweight positioning to rotate into those financials that we believe are less likely to be affected by increasing regulation, such as life insurance and regional banks.

Plage: We also like REITs because they come with debt covenants that protect bondholders and offer attractive risk/return profiles. Other overweight positions relative to the index include telecommunications, cable, utilities and natural-gas pipelines. These sectors offer attractive yields relative to their fundamentals.

How do you make investment decisions?

Plage: Individual security selection is the hallmark of our investment process. As a result, we are very focused on selecting individual bonds that will ultimately drive performance. We choose bonds by balancing the index-risk characteristics with our analysts' best recommendations. We also seek to diversify our holdings across the credit spectrum of industries that comprise the index.

Prothro: It's truly a team effort. It begins with outstanding credit research, the hallmark of Fidelity's fixed-income strategy. Our research group consists of more than 30 top-notch analysts who perform fundamental analysis on hundreds of companies. The team has regular access to top management at the companies we follow, and also leverages the work of Fidelity's global equity research group.

We also have a very strong quantitative analytical team that helps us identify opportunities and assess risk factors at the individual security level, at the industry level and at the portfolio level. And, finally, we have a team of experienced traders who focus exclusively on corporate bonds and specialize in industry sectors. So, our investment decisions reflect multiple perspectives from a highly engaged investment-management team.

Why should an investor consider Fidelity Corporate Bond Fund compared with other bond funds?

Plage: This fund may be appropriate as a core holding for income-oriented investors who have a risk tolerance between equities and government bonds, but possibly do not want the credit risk associated with a high-yield bond fund. Corporate bonds allow investors to benefit from traditional fixed-income characteristics, such as coupon income and lower volatility relative to equities, while also providing potential upside through capital appreciation.

Prothro: And, of course, investing in corporate bonds through a mutual fund offers the additional benefits of broad diversification, which can help to mitigate the potential risk of a default or downgraded bond, either of which could negatively impact the bond's price. Investing through a mutual fund also offers the benefit of efficient trade execution and professional research and asset management.

-- Reported by Gregg Greenberg in New York.

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Before joining TheStreet.com, Gregg Greenberg was a writer and segment producer for CNBC's Closing Bell. He previously worked at FleetBoston and Lehman Brothers in their Private Client Services divisions, covering high net-worth individuals and midsize hedge funds. Greenberg attended New York University's School of Business and Economic Reporting. He also has an M.B.A. from Cornell University's Johnson School of Business, and a B.A. in history from Amherst College.

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