April 25, 2003 — The bear market for stocks has been a bull market for bonds, so it’s hardly surprising that investors continue to deploy their holdings away from stocks in favor of fixed income securities. In 2002, stock fund outflows hit $27.1 billion, according to the Investment Company Institute.
But now, Treasury bond yields are at their lowest levels in 40 years, and market pundits are predicting that the risk of a sell-off in bonds is rising by the day. Meanwhile, stocks appear at least to be stable, and market strategists and money managers predict that they’ll wrap up the year with gains of between 7% and 8%, likely beating bonds.
“It’s probably the right time to be thinking about rebalancing, given that stocks are down about 50% from their peak,” says Evan Grace, market strategist at State Street Research. “Our view is that stocks will outperform bonds for the first time in four years this year — but since the magnitude of outperformance won’t be very great, it will be tough psychologically for investors to leave one asset class that’s done so well for another that might do only slightly better.”
But past stock market rallies have been short-lived, and investors remain fearful of the damage that could be done to stocks by the struggling economy, the aftermath of the war in Iraq, and the possibility of new terrorist attacks. Stuck between a rock and a hard place, they cling to Treasuries as the market that seems to carry the least risk.
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But “crises set market bottoms, not market tops,” warns Duncan Richardson, chief investment officer at Eaton Vance. “While there’s still some ‘bubble trouble’ showing up in some corporate balance sheets, investors that don’t move out of Treasuries to some extent are running the risk that their portfolios will underperform.”
Enter the asset allocation funds, marketed to investment advisors and their clients as a way to solve the rebalancing dilemma. Fund families like them, as they can be marketed as a core holding in an effort to capture as much of an investor’s assets as possible. Meanwhile, the funds relieve investors and their advisors of the onerous task of making sense of the volatile moves in both stock and bond markets.
“These are going to be particularly attractive to the investment advisor who simply doesn’t have the time or resources to help each client review their asset allocation in response to every market move,” says Ellen McKay, managing director of the Optima Group Inc., a financial services advisory firm based in Fairfield, Conn. “It can be a great product to market to smaller investors who don’t feel the need to be actively involved in managing the details of their portfolio.”
Not surprisingly, the ranks of asset allocation funds are swelling in the current market environment. In March, Columbia Management Group announced the creation of the Columbia Thermostat Fund, designed to react to the changing market and marketed to clients disillusioned by the bear market and anxious to take the psychology out of investing. Late that month, Gabelli Funds LLC and Ned Davis Research Inc. launched the Ned Davis Research Asset Allocation Fund, which, in the words of Mario Gabelli, will offer investors “one-stop asset diversification plus quantitative controls on overall portfolio risk.”
These funds will join more than a dozen other offerings tracked by Standard & Poor’s FundAdvisor, including Fidelity Advisor Asset Allocation/A (FLOAX), PIMCO Funds:Asset Allocation/A (PALAX), Nations Asset Allocation/Inv A (PHAAX), Vanguard Asset Allocation/Inv (VAAPX) and Liberty Asset Allocation Fund/A (LAAAX).