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A great rotation isn’t happening.

Despite recent market predictions, investors haven’t abandoned bonds as interest rates have risen, says Andrew Kronschnabel, portfolio manager at Logan Circle Partners in Pennsylvania. He manages the Renaissance U.S. Dollar Corporate Bond Fund.

In fact, “looking at empirical evidence year-to-date, high-grade fund flows are actually positive,” he adds.

Read: Great Rotation is great myth

Consider that “though net flows of high-yield funds have been negative this year, [outflows] are really only a couple billion dollars. [That’s] small relative to the size of the market,” says Kronschnabel.

Further, “these numbers don’t capture…what’s known as institutional flows; [the] flows from large end-users of corporate bonds like insurance companies and pension funds. We have seen massive institutional inflows [in 2013] as yields have increased off the lows of this year, and [those inflows] have dramatically offset any negative retail fund flows.

“The technical picture for high-grade and high-yield corporate bonds is extraordinarily supportive,” he adds.

Read: 4 benefits of high-yield assets

However, there’s been a decline in emerging market bond flows. In that space, “there aren’t as many natural end-users and institutions are slower to” invest, and outflows have impacted fixed-income offerings, says Kronschnabel.

On the plus side, he adds, “if we widen the scope further in fixed-income and look at leveraged loans, the inflows into leveraged loans have been massive this year—they’ve surpassed $50 billion year-to-date.”

Fed too cautious about tapering

In September, the U.S. Federal Reserve missed its chance to start the tapering of its large-scale asset purchases, says Kronschnabel.

“The market had completely priced in a small, $10 billion to $15 billion taper,” he adds. If that had occurred, markets wouldn’t have been disrupted.

Read: Fed doesn’t taper

However, the Fed did reveal its long-term plans and intentions by holding back, says Kronschnabel. But he says he doesn’t share Ben Bernanke’s worry about tightening market conditions.

Read: Lots of promise in high-yield bonds

Despite Bernanke’s claims in his September statement, Kronschnabel says, “Stocks are at historic highs, lending standards remain loose, and [there’s] access to debt capital markets. Also, credit spreads have narrowed and the yield curve is steep.”

In the meantime, the U.S. unemployment rate has continued to fall.

Read: Biggest threat to U.S. is growth: Merk

Mortgage rates are the only problem, finds Kronschnabel, given “the rate on the 30-year fixed-rate mortgage is 4.5%, up from a low of 3.35% earlier this year,…[and] domestic mortgage application re-finance indices have plunged in recent weeks.”

This is concerning because the “financial crisis was…driven by too much leverage, much of it in the real estate markets.” And now, “the key driver of the domestic recovery has been housing.”

That’s why Kronschnabel predicts the Fed won’t do anything until housing metrics improve. As a result, tapering won’t begin until December 2013 or later.

Read: What spooked the Fed?

And with respect to longer term rates, Bernanke has already announced the Federal Reserve won’t hike its fund rates to long-term levels of 4% for several years—even if the U.S. unemployment rate reaches 5.5% by 2016.

So, “the timetable [for] reaching the Fed’s long-term funds target of 4% could be 2020 or later,” he says. “The Fed will [likely] opt to err on the side of too much accommodation versus tightening too quickly,” warns Kronschnabel.

Read:

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Originally published on Advisor.ca

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