Lehman mulls more bond weight vs stocks

NEW YORK (Reuters) - Lehman Brothers is planning to raise its allocation of high-quality bonds as opposed to equities, anticipating that global central banks may start easing interest rates in 2008.

The bank also intends to add to its holdings of longer-maturity bonds later this year.

"We are thinking about more bonds at some point, a higher bond allocation vis-a-vis equities based on the notion that central bank tightenings will be closer to done," said Jack Malvey, Lehman Brothers managing director and chief global fixed-income strategist, speaking at the Reuters Investment Outlook Summit in New York on Monday.

For now, Lehman is short duration in bonds, a defensive position to limit the exposure of its fixed-income portfolios to interest rate risk.

Treasury bonds sold off sharply last week, with benchmark 10-year yields -- which move inversely to prices -- hitting the highest levels in a year as bond investors all but abandoned hope of a Federal Reserve interest rate cut later in 2007.

"We're short duration. We don't think this bond correction is over," Malvey said.

If the 10-year Treasury note's yield were to jump swiftly from about 5.10 percent to about 5.50 percent within a week, "that certainly would not be well viewed by equity markets," Malvey said.

But the economy and stocks could more strongly withstand a gradual move higher of bond yields over several months, he added.

However, Malvey added that "2008 could be the year of easings from Fed or others (central banks)," which would pull yields down and boost bond prices.

"We are going to extend duration: we are probably going to go long even though we have been short for much of the past four years," Malvey said. Extending duration effectively means buying more longer-dated securities.

Within its fixed-income portfolios, Lehman plans to reduce its allocation to lower-quality, non-government bonds and will continue to favor the highest-rated agency debt, asset-backed securities and mortgage-backed securities, Malvey said.

Although lower-rated, non-government bond prices tend to decline when the economy slows or goes into a recession, Malvey raised the possibility that the world's biggest economy may not slip into one for a much longer period than many analysts might expect.

"Maybe as we all worry about the next U.S. recession, we could go another five, six or eight years (without one)," Malvey said.

If the economy is more robust than many expect, that would tend to depress U.S. government bond prices.

A longer-term trend that may also weigh on Treasuries is diversification by foreign central banks.

"Central banks on global basis ... are diversifying because they recognize that bond returns in the long run are not going to be as high as (those of) equities or alternative assets," Malvey said.  Continued...