3 Mutual Funds to Earn 3% to 5% in Foreign Bonds

With slow growth in Japan and Western Europe keeping rates there low, U.S. investors will need to look to emerging markets for real yield.

Foreign bonds have been a poor option over the past five years. The average annualized five-year total return on world bond funds is a paltry 1.2%. That partly reflects government bond yields in Japan and Western Europe that are far below U.S. yields, as rates there remain low amid slower economic growth. A 10-year U.S. Treasury note recently yielded nearly 3%. By contrast, 10-year government bonds yield a mere 0.06% in Japan, 0.6% in Germany and 1.3% in Spain.

Earnings for All

But for income-focused U.S. investors willing to take some risk, emerging-markets bonds offer generous yields–typically between 4% and 5%. They could log price gains if global growth continues to bolster emerging economies. Our favorite foreign-bond strategy: Own a mix of issues in both developed and emerging markets.

The risks: American investors in U.S. bonds can be hurt by fluctuating market interest rates and by defaults by bond issuers. Foreign bonds issued in foreign currencies face those risks, plus a third: swings in the value of the dollar compared with other currencies. In 2017, the dollar fell against most currencies, which boosted returns on many foreign bond funds (when the buck weakens, investments in foreign currencies translate into more dollars). A sudden rally in the dollar would have the opposite effect.

Subscribe to Kiplinger’s Personal Finance

Be a smarter, better informed investor.

Save up to 74%

Sign up for Kiplinger’s Free E-Newsletters

Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.

Profit and prosper with the best of expert advice - straight to your e-mail.

Sign up

How to invest: We like T. Rowe Price Global Multi-Sector Bond (PRSNX, 3.4%), with a duration of 5.7. It holds government and corporate bonds in emerging and developed markets (including the U.S.). Its diversified mix recently included debt from issuers such as India, Thailand and Turkey. Dodge & Cox Global Bond (DODLX, 3.8%) has a relatively short duration of 3.3, with holdings split about evenly between U.S. bonds and foreign bonds. Over the past three years, both funds have gained 3.6% annualized, compared with 2.5% for the average world bond fund.

Among funds that focus solely on emerging markets, Fidelity New Markets Income (FNMIX, 4.6%), a Kip 25 member, remains a standout. The fund, with a duration of 6.6, limits currency risk by investing mainly in foreign bonds issued in dollars.

Tom Petruno
Contributing Writer, Kiplinger's Personal Finance
Petruno, a former financial columnist for the Los Angeles Times, is an independent investor, writer and consultant. He lives in L.A.