Investor 007's Bond Dossier

Meet Investor 007. His specialty? Bonds. Fixed-income bonds.

Don't be fooled by their low-profile reputation. Beneath that cunning disguise, bonds are sophisticated tools to help safeguard your portfolio from the perils of riskier investments. Here's the latest intelligence on their high-stakes world. If you're new to the game, get briefed on the basics of Investor 007's business, or check out our Bond Center for some useful gadgets to help ensure a successful investing mission.

Spying on rates
The benchmark U.S. Treasuries are key rates to keep under surveillance. Corporate issues are generally priced at a spread to a Treasury rate with a similar term, based on the issuer's credit rating.

Clues to the market
The broad credit market is influenced by a host of macroeconomic factors. Treasury prices declined in a week of choppy trading, which ended with most participants continuing to think that the Fed will loosen monetary policy early next year because of benign inflation readings and continued housing weakness. Bond prices move inversely to yields.

Preceding a busy week of corporate issuance, Treasury prices slipped on Monday amid hedging activity and chatter from the Dallas Fed President regarding the economy "growing forcefully".

On Tuesday, a drop in wholesale prices and retail sales renewed thoughts of a faltering economy and spurred bonds to their largest gains in two weeks. The yield on the ten-year note dropped to 4.566%, a seven-month low.

The picture changed on Wednesday. Unexpectedly strong manufacturing activity in the Northeast and the release of last month's Fed minutes showing inflation as a continued concern of the Fed led bonds lower. Prices fell again on Thursday, despite better-than-expected inflation data, and the 10-year yield fell to 4.67%.

A report revealing that housing starts last month dropped to their lowest level in more than six years and unsubstantiated rumors of hedge fund troubles sparked a rally on Friday. Treasuries gained and the 10-year yield dropped seven basis points.

The Securities Industry and Financial Markets Association recommends that the bond market close early at 2:00 on both Wednesday and Friday, and close entirely on Thursday. Happy Thanksgiving!

Detecting developments
Investor 007 noted the following occurrences in the bond market last week:

• A large amount of corporate bond issuance is expected prior to Thanksgiving.
  
• EMC (NYSE:EMC) priced $3 billion in convertible notes, its first bond sale ever, to buy back stock and refinance its acquisition of RSA Security.
  
• Western Union (NYSE:WU) launched a $2 billion multi-tranche offering.
  
• The U.S Department of Justice subpoenaed several insurers and General Electric (NYSE:GE) in its investigation of possible wrongdoing by banks and brokers concerning bidding for local government contracts used to invest bond proceeds.
  
• Fitch Ratings reported that Ford (NYSE:F) plans to sell $3 billion auto-loan-backed bonds in its third such public issue of the year.
  
• Bonds of Delta Air Lines rose on Wednesday following US Airways' (NYSE:LCC) announcement of its intention to purchase the air carrier.
  
• Freescale Semiconductor (NYSE:FSL) sold $5.95 billion of bonds on Thursday to finance its leveraged buyout, the largest such offering since 1989.
  
• NYSE Group (NYSE:NYX) won SEC approval to trade approximately 6,000 unlisted corporate bonds in addition to the 1,000 currently listed bonds.

Hot tip
A report by Bloomberg last week cited that demand for zero-coupon Treasuries had increased at their fastest rate in more than eight years last month. The surge in demand stems mainly from Congressional legislation passed in August, which requires companies to fully fund their pension plans. Zeroes are among the least expensive way to fund future retiree payments, because they are sold at a discount to face value.

Could zeroes be your heroes, too?

Brokers "strip" eligible Treasury securities into separate interest and principal components, where each becomes a separate zero-coupon security. The minimum investment is $1,000, and they can only be purchased through a financial institution or brokerage, not through TreasuryDirect. Interest earned must be reported in the year in which it is earned, even though income is not received until the securities reach maturity or are sold on the secondary market.

Prices had fallen due to Fed rate hikes; they negatively affect the value of strips, since investors don't receive payments until maturity. Now that the Fed has paused in its tightening campaign, strips are looking more attractive, especially for tax-deferred accounts.

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Fool contributor S.J. Caplan has been an undercover fixed-income aficionado ever since serving in banking and legal capacities covering debt underwriting as well as fixed-income derivatives. She own shares of NYSE Group, and owns U.S. Treasuries and shares of the Fidelity Inflation Protected Bond Fund. She prefers her portfolio shaken, not stirred. The Fool's disclosure policy is for your eyes only.