Monday, December 1, 2008


After trashing junk bonds and in particular the ETF HYG in an earlier post todayTHE ELEVATOR GOES DOWN FASTER THAN IT GOES UP/More Grips about Vanguard's Asset Allocation Fund, I was listening to Fast Money on CNBC, and I heard Karen Finerman recommend this very ETF that I had trashed a few hours earlier in a post. Part of her reasoning appeared to be that hedge funds were selling junk bonds without regard to price driving the price down to a level that interested her.   I mentioned in my earlier post that the selling pressure has been intense, but it has also been relentless in the investment grade market, with several commentators pointing out that the spread between investment grade corporate bonds and treasuries  reached a few days ago historic levels as did junk spreads compared to treasuries. Worldwide Worldwide  For me, the investment grade corporate bonds present far more compelling opportunities at the present.  On 11/12, Moody's increased its estimate of junk bond defaults in the next 12 months to Worldwide  It will not only be the actual number of defaults that will place pressure on junk credits in the months to come, but also the growing fear of defaults-the fear of the unknown and unknowable.  There is only so much losses that can be withstood by many investors before bailing seems like the only way to stop the pain.  While it is simply impossible for me to know when the bottom will be hit in the "high yield" market, I am comfortable with my analysis that junk bonds continue to be one of the worse places to be for a bond investor now.  I also mentioned that I expect the worm to turn for junk several months down the road and I would take a nibble then.  I do believe that this sector of the bond market will have a powerful rally from very distressed levels when the economy bottoms and starts to expand again.  Timing is critical.  I may be a month late but I would whether be a month late than 6 months early on this kind of investment.  The investment grade corporate bonds appear to me now to be the sweet spot in the bond market, and I previously expressed my views about buying treasury debt at the current levels.  Investment grade bonds maturing in 20 to 25 years, maybe 30 for a few, and providing me with a yield to maturity of 20% annualized at the current price seem most attractive. The TC that I have discussed containing an AT & T senior bond, recently bought, will give me close to a minimum 16% annualized yield to maturity (which I define for my purposes to be coupon + the annualized & amortized  spread between cost and par value + reinvesting the interest received at the coupon rate which I normally do not attempt to calculate) and several more senior bonds will provide me significantly higher yields to maturity than that number. (the underlying AT & T bond in the two TCs that I own is now trading above par again)  Yield to maturity assumes all coupon payments and an amortization of the spread between cost and par value at maturity. Bond Yield to Maturity (YTM) FormulaMorningstar Bond Calculator: Yield to Maturity, Returns, Taxable and Municipal Bonds  
(the Morningstar calculator permits you to calculate the additional yield by reinvesting the interest ).  Yield to Maturity may also assume reinvesting interest received at the coupon rate or a another and more appropriate rate as time passes.  The above referenced calculator at Morningstar can perform the calculation using whatever interest rate is desired for the interest received but does not perform the amortization calculation.  Many people use the term yield to maturity to exclude capital gains representing the difference between par and cost but I include it when making my decision, knowing that I will not receive that spread of course unless the company survives until the bond matures or redeems it earlier. 

Yes, if the U.S. experiences the same kind of deflation that Japan had for many years after 1989, then the 10 year treasury would make sense even at the current yield of around 2.7%.  But I am not about to touch it since I do not now believe that is the likely scenario for our future.  So, unwilling to touch  U.S. treasury debt (other than TIP) or any GSE paper , or any emerging market and junk debt, and wanting to add to my bond positions, the only pond left for me to fish is investment grade corporate debt.  I have been discussing over the past several weeks some of the investment grade corporate debt that I have added to my portfolio recently, and that is where I will be concentrating my attention for the rest of December. 

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