My quick Google found the following chart overlaying the 1-month US LIBOR on the Fed Fund rate. The 1-month LIBOR is nearly identical to the Fed Funds rate as mentioned, except it’s shifted to the left. This leads me to think LIBOR is forward-looking — anticipating the Fed Funds rate’s next move. Is it possible that the strategy a zero-sum game over the long-haul?

http://bbmteam.com/wp-content/uploads/2007/11/fed-funds-libor.jpg

As far as beating equities long-term. These bonds will not give you returns like the Google IPO, and if you can pick the right stocks at exactly the right buy and sell points you will get a better return than these bonds will give you. Even the pros on Wall Street have a hard time doing that. These bonds can give you a much healthier return than other bond investments and in many cases stock investments. They have a date in the future where you will get your money back. Stocks, funds, and commodities have no contract to return all of your money at some point in the future. If your stock drops you have to wait for the price to come back up if and when that happens.

You have no predictability as to where short term rates will go over the long term. If I had a crystal ball that would give me a long term look at where short term rates are headed I wouldn’t be here writing this to you right now. I would be drinking my third martini on a beach in Tahiti by now. You can’t say that these bonds have a 7 year maturity. Though the average American family live is their house for 7 years, they could be much shorter or longer than that. What we do have are several factors to look at that will give us an Idea of how quickly the bonds will pay down. To give you an example: when we invest in a CMO, one of the things that we look at is the average mortgage rate to the investor. If it is a high rate the mortgage holders behind the bond will be more likely to refinance their mortgages when rates fall and they have the opportunity to save money on their monthly payment by doing so. This will cause the bond to pay down more quickly. We also look at the locations of the mortgages. Bonds that have a high percentage of mortgages in California and Florida tend to pay down faster than those in the other 48 states. There is a plethora of information that we can look at to make an assumption as to how fast a bond will pay down, or come to maturity. The word is assumption, we can never be absolutely sure as to when a bond will come to maturity. I invest in these bonds when rates look like they’re about to take a drop. As rates go down investors receive their principal back more quickly. This is not to say that some of the principal is still outstanding when rates go back-up. I hold to maturity and will get my money back at some point in the future.