Bond funds not seen as good deal now

By John Waggoner
USA Today

If you buy a bond fund now, you may be paying the fund more than it pays you.

With interest rates at a four-decade low, some funds charge more in annual expenses than they are paying out in yield.

Some funds with high expenses and low payouts are charging about $2 out of every $3 of returns for expenses.

"It's not a good deal," says Don Cassidy, senior research analyst at Lipper.

Putnam Intermediate Income C charges 1.72 percent of assets each year for expenses, or $170 on a $10,000 account. Funds subtract expenses from their yield. At current annualized rates, fund investors will get 0.89 percent, or $89, in yield — half as much as the fund gets.

The problem is most pronounced among short- and intermediate-term U.S. government securities funds. A two-year, $1,000 Treasury note now yields only 1.36 percent, and expenses can take a huge bite out of a fund's yield:

• Oppenheimer Limited-Term Government B charges $163 per $10,000 account, which will leave investors with $80 — a 0.8 percent yield.
• Munder International Bond C has a 1.89 percent expense ratio, or $189 on a $10,000 account, which leaves a yield of 0.28 percent.

The funds with the highest expenses tend to be broker-sold B and C share classes, which carry 12b-1 marketing fees of up to 1 percent. Those fees pay the broker, as well as some advertising costs.

Brokers offer B and C shares because investors often balk at the traditional up front sales charge, which typically ranges from 3 percent to 5.5 percent.

But investors looking for income should look carefully at fees, particularly when rates are this low.

"The broker is supposed to discuss various share-class options," Cassidy says. "The key words are 'supposed to.' "

The first four months of 2003, B and C classes grabbed an estimated 42 percent of all the money that went to broker-sold intermediate-term government bond funds.

Investors have bid up prices of government bonds. The average government securities fund's total return — price gain plus interest — is up 10.6 percent the past 12 months. Experts say those gains won't continue.

Investors who are shopping for a bond fund should look at the fund's 30-day annualized yield.