Until stock prices started to fall in the Spring of 2000, many people viewed the stock market as a large money tree—it just grew, and grew and grew.  Stocks were doing so well, investors forgot about bonds. 

However, as the market began to and then continued to fall and millions of investors saw much of their savings disappear, they started to withdraw from the stock market entirely or find different places to put their money.  Bonds were doing  so well, they poured millions of dollars into bonds funds. 

The top selling mutual fund in 2001 was the Pimco Total Return Bond Fund (PTTAX).  It gained 9% in 2001 and it has averaged an annual return of 7.3% over the last four calendar years.  According to the Financial Research Corporation, three of the fastest growing mutual funds in 2001, were bond funds.

In 2001, net inflows into bond mutual funds totaled nearly $69 billion vs. inflows of around $14 billion by equity funds.   Overall, in July 2002, investors pulled about $49 billion our of stock mutual funds and placed $31 billion in bond funds.  At the end of July, 2002, the Pimco Total Return bond fund, with $61.2 billion in assets became the world’s largest actively managed mutual fund.         

Some experts say that if you follow the adage that when interest rates rise, bond prices fall, you may want to really think about moving your money into bond funds.  Some analysts predict that the Federal Reserve  will lower interest rates one more time before year-end.  And, if stocks rebound and the economy’s growth rate accelerates (the flip side of the rise in bond prices during the bear stock market), bond prices could fall sharply.    

Investors flocked to bond funds but few of them had any idea of what they were investing in.    They were chasing mutual fund performance.  Chasing performance is nothing new.  It the go-go days of the 1990’s millions of investors poured billions of dollars into the hottest tech funds only to see the value of those funds disappear as the market headed south. 

The problem with chasing performance is that you abandon the rock solid principles of asset allocation and diversification.  Instead of a disciplined strategy, you just move your money into the hot fund of the month, three months, six months.  The experts tell us that as hard as it can be, you should resist the urge to take action solely as the result of market conditions.  

They add that the key to weathering volatility in the market is to have a diversified portfolio that you can live with through all kinds of market conditions.  A good solid asset allocation strategy should already be built in to your portfolio so that you can withstand the sharp market downturns such as the one we have experienced since the spring of 2000.  And, if you didn’t have a diversified portfolio to begin with, the bear market has shown you why you should have one. 

Bonds should be a part of your portfolio from the beginning rather than just buying them when they appear to be rising.  Trying to find the “right time” to buy or sell bonds is likely to be a unsuccessful effort.

Check out these web sites for information on investing and picking bond mutual funds.  FranklinTempleton.com.   PimcoFunds.com.