As most who ply the asset allocation trade already know, it usually doesn’t pay to play in the far end of the yield curve in a search for extra income. The end result in such attempts is a slightly higher return, but typically at the cost of significantly higher volatility. The current flatness of the yield curve puts even less pressure on investors to explore opportunities on the long end. This certainly won’t last forever. At the first sign of an economic slowdown, traders will start buying up 30-year bonds in anticipation of the end of Federal Reserve rate increases. In the meantime, investors are much better off in money market accounts, many of which are now yielding more than 4.25%.

Meanwhile, the stock market is successfully climbing a wall of worry. After the major indexes enjoyed the best quarterly performance in years, journalists are warning investors that reality will eventually catch up to equity valuations. I’ll admit that some sectors of the equity universe have become expensive, especially small stocks, but there are plenty of bargains to be had in large caps. With so many people worrying that the same worst-case scenario will come to fruition, however, there probably isn’t much chance of it coming true.

The bottom line? Look for stocks to outperform again in the second quarter, while bond returns are likely to be in the rear-view mirror.

The Monthly Index Report for April 2006

Index

Mar-06

QTD

YTD

Description
S&P 500 Index*

1.11%

3.73%

3.73%

Large-cap stocks
DJIA*

1.05%

3.66%

3.66%

Large-cap stocks
Nasdaq Comp.*

2.56%

6.10%

6.10%

Large-cap tech stocks
Russell 1000 Growth

1.48%

3.09%

3.09%

Large-cap growth stocks
Russell 1000 Value

1.35%

5.93%

5.93%

Large-cap value stocks
Russell 2000 Growth

4.86%

14.36%

14.36%

Small-cap growth stocks
Russell 2000 Value

4.84%

13.51%

13.51%

Small-cap value stocks
EAFE

3.35%

9.47%

9.47%

Europe, Australasia & Far East Index
Lehman Aggregate

-0.98%

-0.65%

-0.65%

U.S. Government Bonds
Lehman High Yield

0.60%

2.89%

2.89%

High Yield Corporate Bonds
Calyon Financial Barclay Index**

2.27%

2.91%

2.91%

Managed Futures
3-month Treasury Bill

1.01%

All returns are estimates as of March 31, 2006. *Return numbers do not include dividends. ** Returns are estimates as of March 30, 2006.

Ben Warwick is CIO of Memphis-based Sovereign Wealth Management. He can be reached at ben@searchingforalpha.com.