Volatility, Risk Not The Same Over Long Term Zero-Coupon Funds A Good Example

In an age of fickle, fast-moving financial markets, fear of volatility sometimes keeps people from considering investments that may not be nearly as risky as they appear.

And conversely, people who opt for stability in their choice of places to put their money may be taking on much more risk than they realize.

The term volatility, as it is most commonly used in financial discussions, refers to the degree to which an investment’s price swings up and down, especially over short periods of time.

But if you invest in a stock with a long-term view, price volatility within the space of a few days, a few months or even a few years may be of considerably less concern.

Indeed, putting similar sums regularly in an investment such as a stock mutual fund may actually work in your favor by permitting you to make at least some of your purchases at big markdowns from the fund’s average cost.

A classic example of a volatile investment that is actually very safe for long-term investors is a zero-coupon Treasury bond security like the Benham Target Maturities series of mutual funds.

These funds specialize in virtually default-proof Treasury bonds, notes and bills that pay no current interest, but provide a return to their owners by rising to a specified value on their predetermined maturity date. This kind of setup is familiar to anyone who buys Series EE U.S. savings bonds.

The market price of zero-coupon bond investments is more sensitive to the ups and downs of interest rates than the prices of conventional interest-paying bonds, since the zeros have no steady interest payments to act as a stabilizer.

Zeros are often used by aggressive investors who want to make a speculative short-term bet on the next swing in interest rates.

At the same time, though, “these movements are meaningless to the shareholder who is committed to sticking with the fund until its maturity date,” notes Erik Laughlin, an analyst at Morningstar Inc., the mutual-fund research firm.

Each Benham Target fund, like straight zero-coupon bonds, has a maturity date when the fund is slated to reach a predictable value and be liquidated.

A zero-coupon mutual fund, then, actually can be seen as a more certain investment than a conventional bond fund whose value at any point in the future will depend on market conditions.