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Bond fund outflows spread as market sell-off deepens

December 15, 2010 |  4:14 pm

Bond mutual funds that own Treasury, mortgage, corporate and other taxable bonds last week saw their first net cash outflow in two years -- a sign that more individual investors have joined the ongoing sell-off in the fixed-income market.

Bonds’ pain continued Wednesday as market yields rose further, pushing the bellwether 10-year Treasury note yield above 3.5% for the first time since mid-May.

The whiplash in yields over the last two months has devalued older bonds, driving down the share prices of most kinds of bond mutual funds. That has been a shock to investors who weren’t prepared to see losses in a part of their portfolio that many have regarded as a haven.

The tax-free municipal bond market has been one of the hardest-hit, for reasons detailed here.

But as share prices of taxable funds, such as the behemoth Vanguard Total Bond Market Index fund, also have slid, some investors now are cashing out. The Vanguard fund’s share price has fallen 3.7% since reaching an all-time high on Nov. 4.

Taxable funds overall had a net outflow of $401 million in the seven days ended Dec. 8, the Investment Company Institute reported Wednesday. While that was a tiny amount compared with the $2.1 trillion in assets held by the funds, it interrupted two straight years of weekly inflows.

Tax-free muni bond funds last week saw net outflows for the fifth straight week: A net $1.26 billion exited the funds, up from a $65-million outflow the week before but less than the outflow of $3.1 billion the week ended Nov. 23. Muni funds hold total assets of about $500 billion.

The jump in bond yields since mid-October has been largely attributed to good news on the economy. Improving growth prospects naturally put upward pressure on interest rates.

There was more encouraging data on Wednesday, as the government said industrial production edged up 0.4% in November and an index of manufacturing activity in the New York region rose.

After declining early in the session, Treasury bond yields rose later in the day as demand evaporated -- a familiar pattern over the last seven sessions.

The 10-year T-note yield ended at 3.52%, up from 3.45% on Tuesday and the highest since May 13. The yield now is up a stunning 1.13 percentage points just since Oct. 7, when it bottomed for the year at 2.39%.

No one who was buying the T-note at 2.39% could possibly have imagined that yields could rebound so  quickly, and that's the problem: This is shock-and-awe time in the bond market, and it's helping to keep potential buyers on the sidelines.

-- Tom Petruno