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Another factor that could send interest rates higher, inflation, has also been tame. The Consumer Price Index rose 1.2 percent in September from a year earlier. That's down from the 2 percent inflation rate in September of last year and 3.9 percent two years ago. Economists expect inflation to stay under control, partly because the sluggish job market means wages aren't rising for many households. "We actually think the environment is quite attractive for bonds right now," says Richard Lawrence, senior vice president of portfolio management at Brandywine Global, which manages $48 billion in assets. His firm bought Treasurys during the summer and also bought bonds from Mexico, Brazil and other countries that are more sensitive to moves in interest rates. Lawrence suggests looking to mutual funds that own foreign bonds, which can offer a greater diversity of investments. Foreign bond funds behaved much like U.S. bonds did during the summer when everything fell together. But they have since returned to moving independently of each other, with some zigging while others zag. Bonds from other countries can also offer higher yields, though they carry an additional risk for investors. If they are denominated in a foreign currency, U.S. investors can suffer losses if the dollar's value swings in the wrong direction. Although bond funds may not be suffering the double-digit losses that some feared in a bear market, they won't offer the same big returns that they used to. Yields are low, which means they offer less income, and they have less cushion to absorb a rise in interest rates. Intermediate-term bond funds are down an average of 0.7 percent so far this year, after enjoying annual returns of 5.9 percent to 14 percent over the last four years. The recent performance of bonds also pales in comparison to stocks, which have surged since hitting a bottom in 2009. Large-cap growth stock funds have returned 26.3 percent this year. That dominance for stocks means Kochan, the Wells Fargo fixed-income strategist, says he can no longer joke that stocks are "the inferior asset class." "But investors are not being well served by some of the more dire forecasts about how bonds will perform," he says.
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