Time to Switch From Bonds to Stocks?

stocks and bonds
stocks and bonds

With bond yields spiking higher -- and predictions of further increases to come -- this may be the time to start moving investments from bonds to stocks.

The yield on the 10-year Treasury bond has increased to 3.467%, nearly 1 percentage point more than three months ago. Bank of America Merrill Lynch said in a report Tuesday that it expects the 10-year T-bond to hit 4% in 2011. As interest rates rise, the price of bonds goes down, lowering the value of the investment.

As a result, investors are beginning to flee the bond market. The benchmark Pimco Total Return fund suffered its first net withdrawals in two years last month, losing $1.9 billion of investor money.

What's an investor to do?

"Wait 30 Days, and Then Buy"

"The Fed chairman wants you to sell bonds and buy stocks," says Brian Kelly, president of Kanudrum Capital, referring to Fed Chairman Ben Bernanke's program of asset-buying known as quantitative easing. "What he's done is forced people out of less risky assets into risky assets, and by doing so he has boosted the stock market, which in turn boosts individual net worth," Kelly says.

Kelly says he's now short the bond markets and long stocks, particularly high volatility stocks like Apple (AAPL) and Freeport-McMoRan Copper & Gold (FCX).

Timothy Lutts, president of investment advisory firm Cabot Heritage in Salem, Mass., says stocks may not perform well in the very short term over the next month or so, but he thinks that after that they will. "Wait 30 days, and then buy," he says.

Be Careful With Dividend Stocks

Lutts says his firm sees the Dow with a potential upper range of 14,300 and lower limit of 9,500. So at its current 11,470, it's well below the midpoint of that estimate. "We're finishing a decade when stocks made no progress," Lutts says, adding that he thinks equities are entering a period of substantial upside returns.

But neither Kelly nor Lutts is a big fan of high-dividend-yielding stocks, which have been a haven for investors moving out of bonds because they have a relatively high yield in addition to possible appreciation.

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Kelly says if you invest in dividend stocks to be sure that the payout is above 2% because Bernanke is targeting inflation at 2%. "If inflation is 2% and the yield is 2%, your real yield is zero," Kelly says.

Lutts says high-dividend stocks are simply a bad choice now because investors are attracted to better-performing growth stocks and are dumping high-yield equities, causing their prices to go down. Lutts says he favors growth stocks like Google (GOOG), Chinese search engine Baidu (BIDU) and Riverbed Technology (RVBD).

Kelly says he wouldn't be surprised if a brief sell-off of up to 5% hits the market in the next few days because of the recent gains. But he sees stocks as outperforming bonds overt he medium to long term. "Bernanke does not want you to be in less risky assets," Kelly says, "and you do not fight the Fed."

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Originally published