CD Rates

GLOSSARY:

• CD rates
• Interest rates
• Exchange Traded Fund (ETF)
• Series I Savings Bonds

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• What’s best for my IRA, an index fund or a lifecyle fund?

International bond funds could be the way to make a reasonable return of 3% or 4% on your savings with less risk than you might think.

We're talking about mutual or exchange traded funds that invest in bonds issued and backed by foreign governments.

They use bonds to borrow money and finance public spending, just like Washington does.

But interest rates in those countries are not at the record lows we're seeing here because of the extreme recession-fighting policies of the Federal Reserve.

While most of our CDs and government bonds are paying a pitiful 1% -- or less -- that's not the case in many other stable, trustworthy places.

In fact, foreign bond funds have historically performed better than U.S. bond funds.

Over the past 15 years, the U.S. bond market has only been the world's top-performing market twice.

This might seem like a crazy time to consider international bond funds with the European debt crisis roiling the markets on an almost daily basis.

Why would anyone want to invest in foreign debt when the major holders of Greek debt just agreed to take a 50% loss on those bonds?

And didn't Italy's growing sovereign debt -- now more than 120% of its GDP -- force the government to resign?

Most of the good international bond funds have already dumped the bonds from those, and most other, high-risk countries.

By definition, investing in international bonds adds a new dimension of complexity and uncertainty that you don't have with American bonds or CDs.

But default is probably one of the least likely risks you'll run.

Inflation and fluctuating exchange rates that devalue your earnings when it's converted back into dollars is a much bigger concern.

That's why you to buy into a diversified fund that holds bonds from many stable countries and a lot of experience moving money from one currency to another.

Take a close look at expense ratios. You want to consider funds that charge no more than 1%.

Also watch out for funds that have a front-end load, which is a commission or sales charge imposed when you buy into a fund and instantly reduces the size of your investment.

You can buy international bond funds from any stockbroker, including the discount online brokerages such as E*Trade and Scottrade.

Here are examples of no-load funds with reasonable returns and relatively low risk:

• T. Rowe Price International Bond Fund (RPIBX) holds the debt of more than 10 countries, with the largest investments in Japan, Germany, the United Kingdom and France. It yields 2.54% and has an expense ratio of 0.82%.
• SPDR DB International Government Inflation-Protected Bond ETF (WIP) holds bonds from France, Japan, Turkey, Poland and Germany. It has a yield of 4.18% and an expense ratio of 0.50%.
• GMO International Bond II (GMIBX) holds the debt of Japan, Germany and other European countries. It offers a yield of 8.29% with an expense ratio of only 0.39%.

Remember that the share price for bond funds constantly changes, so your principal is at risk.

But if your primary concern is generating income, you should be willing to sit on these funds and ignore the day-to-day ups and downs of the share price.

Think of them as a five-year commitment -- at least.

Bond fund prices also tend to be less volatile than stock prices because they aren't affected by most of the things that send equities shooting up and down, such as quarterly earnings reports, industry trends and economic data.

Of course, we'd all prefer to put our money in safer investments, closer to home.

Unfortunately, the best nationally available 5-year CD rate is just 2.25% APY this fall.

The average return is a point less than that.

The yield on 10-year Treasuries fell below 2% for the first time ever in mid-August and has been stuck close to that ever since.

Inflation-adjusted Series I Savings Bonds pay a more reasonable 3.06%.

But they can't be a big part of your portfolio because the government won't let anyone invest more than $10,000 a year in Series I bonds.

Can you live on returns like that? Or do you have to look at options you might not have considered in the past?

Earlier this fall, we suggested dividend-paying stocks that are paying yields of 3% to 6% a year as an alternative source of income.

In tough times like this, international bond funds could be worth considering, too.

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