In the current environment, short-term bonds are your best bet

by Rob Carrick

What to do with bonds right now? Just the opposite of what the federal government is doing.

That’s the sensible recommendation made recently by Raymond Kerzerho, director of research at PWL Capital. Reading the latest copy of the Finance Department’s Debt Management Strategy publication, Kerzerho noted that the feds are extending the maturity of country’s debts. In practical terms, that means issuing more and more 10- and 30-year bonds to lock in today’s low interest rates.

You, the investor, should do the opposite, he argues. While the government’s job is to minimize the amount of interest it pays, investors want to maximize the interest they receive. The best strategy for doing that: Stick to short-dated bonds, which Kerzerho defines as maturing in less than 10 years.

v On the surface, there’s a logical disconnect here. Shorter term bonds have lower yields than longer-term bonds, which is to say you get less interest. The 30-year Government of Canada bond yield in late February was 3 per cent, compared to 1 per cent for a two-year bond and 1.7 per cent for a five-year bond. Why go short, then? To benefit from having bonds that mature in the not-too-distant future and hand you back money you can reinvest to take advantage of any increases in interest rates.

There’s another advantage to shorter term bonds. If interest rates do start to rise, short bonds will fall less in price than long-term bonds. The federal government won’t care a bit if the 30-year bonds it issues today fall in price in the years ahead. But investors may well be stunned at how much long-term bonds will drop in price if interest rates lunge higher.

The bottom line here is that short-term bonds will pay you less in the near term, but you get more stability in a rising rate environment and an opportunity to lock in those higher rates in a few years. Now, what’s the best way to put short-term bonds in your portfolio? A ladder of one- through five-year guaranteed investment certificates works well if you have zero need for liquidity. Individual bonds, government or corporate, can work, but individual investors often get a raw pricing deal on these.

One more idea: A laddered corporate or government bond exchange-traded fund, which you can find in the First Trust, iShares, PowerShares and RBC families. The benefit of the ladder is simple -- every year, you have bonds maturing that can be reinvested at higher rates. If those higher rates ever come, that is.

Most Successful Investor Ever - Warren Buffett

Warren Buffett says if you want to learn how to make money from the stock market you should look at how he made some money with two small real estate investments.

In an excerpt published by Fortune, from his upcoming annual letter to Berkshire 

Hathaway shareholders, Buffett writes about his purchase of a Nebraska farm and his investment in a retail property near New York University in Manhattan.

In both cases, he bought when prices were unusually low after bubbles had burst.

In both cases he had no particular expertise.

And most importantly, in both cases he invested because he thought the assets would be increasingly profitable, not because he expected to sell at a higher price.

"With my two small investments, I thought only of what the properties would produce and cared not at all about their daily valuations. Games are won by players who focus on the playing field—not by those whose eyes are glued to the scoreboard."

He warns against "letting the capricious and irrational behavior" of stock prices make an investor "behave irrationally as well."

In addition, Buffett argues, "Forming macro opinions or listening to the macro or market predictions of others is a waste of time."

When he bought the properties in 1986 and 1993, economic projections didn't matter to him. "I can't remember what the headlines or pundits were saying at the time. Whatever the chatter, corn would keep growing in Nebraska and students would flock to NYU."

As for not needing expertise, Buffett recommends a low-cost S&P 500 index fund for nonprofessionals, to "own a cross section of businesses that in aggregate are bound to do well." 

He also urges timid or beginning investors against going into stocks "at a time of extreme exuberance" and becoming "disillusioned when paper losses occur."

"The antidote to that kind of mistiming is for an investor to accumulate shares over a long period and never sell when the news is bad and stocks are well off their highs."

His bottom line fundamental advice: "Ignore the chatter, keep your costs minimal, and invest in stocks as you would in a farm."

—By CNBC's Alex Crippen