By Min Zeng
U.S. bond funds that focus on buying long-term U.S. government
bonds were the biggest winners in the world of fixed income in
2014, fueled by the largest annual rally in the U.S. government
debt in three years.
The $1.3 billion Vanguard Extended Duration Treasury Index Fund
posted a total return--including price changes and interest
payments--of 45.7% last year, the juiciest return of all U.S. bond
funds tracked by fund tracker Morningstar.
The runner-up was the $404.6 million Pimco Extended Duration
Fund, with a 45.4% return.
The two funds' returns, each representing the best annual gain
for the funds since 2011, were more than 10 times the average 4.4%
return last year on all 1,838 U.S.-based bond funds tracked by
Morningstar.
Both funds are in the category of long government bond funds
tracked by Morningstar. The Vanguard fund is passively tracking a
bond index of long-term Treasury bonds while the Pimco fund is
actively managed and focuses on investing in long-term government
debt.
"Long government bond funds have benefited the most from falling
interest rates," said Erik Schiller, senior portfolio manager on
global government bonds at Prudential Financial Inc.'s fixed-income
unit, which oversees $535 billion. "Expectations of rising interest
rates had overshot at the start of 2014. On top of that, growth and
inflation expectations outside of the U.S. were gutted."
The yield on the 30-year Treasury bond tumbled to 2.753% at the
end of 2014 from nearly 4% at the end of 2013, marking the biggest
annual decline since 2011.
The yield has fallen further this year, trading at 2.592% on
Thursday. The record closing low is 2.466% set in July 2012. Bond
prices rise when their yields fall.
Emily White, a representative for the Vanguard Group, said in an
emailed statement that "the [Vanguard] fund has benefited from the
tailwind of falling rates."
Long-term bond prices often swing in response to changes in
interest rates. When bond yields rise, such as in 2013, prices of
these bonds take a beating.
Both the Vanguard and the Pimco funds invest in long-dated
zero-coupon Treasury bonds, whose prices are the most vulnerable to
big swings in the Treasury bond market. That is because investors
don't get regular interest payments, so a rise in bond yields will
send their prices tumbling more.
The Vanguard fund posted a loss of 20.9% in 2013 and the Pimco
fund lost 21.2% that year, according to Morningstar.
"The bull market for long-dated assets won't last forever," said
Steve Rodosky, manager of the Pimco fund at Pacific Investment
Management Co. in Newport Beach, California, said in an emailed
statement. Pimco is a unit of Allianz SE.
"Active management will be able to react to different
environments to better protect the value of client assets," he
said.
Investors have plowed $2.3 billion of new cash into long
government bond funds over the first 11 months of 2014,
representing about 26% of the category's net asset of $9.1 billion
at the end of November, according to the latest data from
Morningstar. That is on pace for the biggest annual net inflow
since Morningstar started tracking flows for the category since
1993.
"Geopolitical uncertainties, a slowdown in global growth and the
lack of inflationary pressure should provide enough fodder to keep
investors wanting to own long U.S. Treasurys," said Sean Simko,
head of fixed-income management at SEI Investments in Oaks, Pa.,
which has $249 billion in assets under management.
"The party should last as long as those metrics continue to
hold," he said.
Write to Min Zeng at min.zeng@wsj.com
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