Income-oriented mutual funds now look attractive to many

While the bulls were celebrating the first week of 1987 by crashing the Dow Jones industrial average through the 2,000 barrier, the mutual funds were toasting a landmark of their own. For the second year in a row, sales of mutual funds approximately doubled those of the previous year. Sales last year topped $211 billion, compared with $114 billion in 1985 and $45.8 billion in 1984, according to the Investment Company Institute (ICI).

When the average investor thinks of mutual funds, he or she thinks of investment companies that buy stocks. But 75 percent of the sales in 1985 and '86 were not in the stock funds that gave the industry its history and glamour, but in the far more conservative bond and income funds.

Here, investors can get the relatively high returns no longer available in money market funds and certificates of deposit - and somewhat more safety than is usually available with equity funds.

This year, the trend to income funds could become even greater. Also, there is likely to be renewed interest in ``total return'' funds, which stress income from interest or dividends as well as capital gains.

``The majority of people are conservative investors,'' observes Lewis J. Altfest, a financial planner in New York. ``Money market rates have been dipping, so people are looking for higher yields.''

Among the high-yield choices Mr. Altfest ticks off are Ginnie Mae funds, high yield (or ``junk'') bond funds, and longer-term corporate bond funds.

``Anyone who's put money in bond funds over the last few years has done very well,'' he says. ``Generally, they've done as well as the equity market.''

The trend toward income-oriented funds gets an additional boost this year from tax reform.

The increase in the capital-gains rate from a maximum of 20 percent to 28 percent, along with the elimination of the preferential rate on capital cains in 1988, makes income from interest and dividends even more valuable.

At the same time, the rewards of taking more risk by going for growth won't be nearly so great.

If the average individual investor wants a piece of this bull market, however, including a share of the excitement around blue-chip stocks in the Dow Jones and Standard & Poor's averages, the most efficient entrance is probably through mutual funds. Here, again, an income orientation may be of interest.

``I don't think the individual has any business being in individual stocks and bonds,'' says Michael Hirsch, chief investment officer at Republic National Bank in New York and author of Multifund Investing (Dow Jones-Irwin, Homewood. Ill., $32.50).

``If you do, you're playing in a game with large institutions that have access to computers and instant information, program trading, and all sorts of hedging techniques. It's insane.''

Seeing the Dow over the 2,000 altitude seems to have prompted Mr. Hirsch to unpack his oxygen mask.

``There could be a retreat,'' he says. ``If there is, investors in aggressive growth and growth funds will feel the brunt of it. If they're in a conservative fund, like a balanced equity fund, they won't be hurt so much. They'll probably break even.''

Balanced funds, which keep 20 to 50 percent of the portfolios in bonds, are so conservative that they're often overlooked in all the publicity about top-preforming growth funds, sector funds that concentrate on one industry, and international funds. Yet balanced funds have some of the best long-term returns.

At the same time, their emphasis on some income makes balanced funds one of three total-return choices that make more sense after tax reform. The two others are growth and income funds, which can hold any proportion of stocks and convertibles (a cross between stocks and bonds); and equity-income funds, where income from stocks is usually the main goal.

Despite these choices and dozens more in the equity fund arena, the strength of bond and income funds indicates more caution than the mutual fund business is used to.

``The fund industry has changed dramatically,'' says Alfred P. Johnson, vice-president and chief economist at the ICI. ``It's less risky than it used to be. It used to be primarily equity-oriented.''

Of all the bond fund categories, one of the hottest selling - and most controversial - has been Ginnie Mae funds, which invest in mortgage-backed securities issued by the Government National Mortgage Association.

In 1985 and '86, many of the companies selling these funds touted high ``government guaranteed'' yields.

Unfortunately for investors, the certificates were guaranteed, but the yields weren't. As people sold their homes or refinanced the mortgages behind these certificates, yields came crashing down.

But now, most of those high-interest mortgages are wrung out of the system and Ginnie Mae funds may once again provide decent, honest returns.

``I now believe Ginne Mae funds are more attractive,'' Altfest says.

Despite all the coverage of international funds, which have led the industry the last two years, and sector funds, which include some of the best-performing and worst-performing funds, 1987 could be an even bigger year for income funds.

Unlike money market funds, the share price on bond and income funds does change. For investors who want income and understand how they work, these funds could be an increasingly important part of a diversified portfolio of mutual funds.

If you have a question that would make a good subject for this column, please send it to Moneywise, The Christian Science Monitor, One Norway St., Boston, MA 02115. No personal replies can be given by mail or phone. References to investments are not an endorsement or recommendation by this newspaper.