So the debt crisis passed when Congress grudgingly agreed to raise the federal debt ceiling and promised to cut trillions of dollars in future government spending. While hardly a cause for celebration, avoiding the first-ever default by the U.S. government counts at least as mildly positive news, as did the July jobs report on August 4, but that didn’t stop investors from sending the stock market to new lows for the year in the days following the agreement. This week, following the downgrade of the U.S. on Friday, more volatility is possible in the markets.
Why the negativity? As the debt ceiling agreement was taking shape, newly arriving economic data signaled increasingly clearly that not only is the U.S. economy growing at a slower rate than would be expected during a period of economic recovery, but it is decelerating from even the 1.3% rate witnessed during the second quarter of 2011. Fixed income markets apparently got the news early: while bond yields for heavily indebted European governments like Greece, Spain, and Italy have spiked higher on the threat of potential default there, the yield on the benchmark U.S. 10-year Treasury note fell below 2.6%, its lowest since November 2010, as the deadline for lifting the debt ceiling approached, and is now within 40 basis points of the low of 2.20% set in the darkest hours of the financial market meltdown in January 2009.
The lack of growth in the second half of 2011 has major implications for investors today, as a cooling economy often drags equity markets down with it. Dividends, of course, will be paid, but with the Standard & Poor’s 500 index yielding a lean 2.0% currently—and the threat of price depreciation rising—only a committed optimist would bet that stocks are the place to be in the waning months of 2011.
Among other asset classes, commodities have performed well in recent months, but they are volatile and—like equities—tend to follow patterns in global economic growth. For those seeking acceptable returns with some measure of safety, fixed income assets are looking increasingly attractive.
In order to find funds that have the potential to deliver respectable returns in the coming months, we searched the world of taxable fixed income funds for those that have delivered consistently strong results over the past three- and five-year periods and have the highest five-star rank from S&P. With the U.S. dollar expected to come under further pressure if the economy slows, we took special note of funds that had at least a portion of their assets invested in foreign currency instruments. Three funds stood out for their above-average historical performance, high current yield and currency diversification.