Wednesday, February 9, 2011

Bonds on the Cusp of a Long Term Bear Market?/Sold 100 TGX at $1.63/Tribe on Constitutionality of Health Care law/SBSI/Added 50 JZV @24.14/Bought 50 MDCI at 8.11/Sold 30 of 150 ZBPRC @ 26.47

Laurence Tribe, probably the most respected Constitutional law scholar in the U.S., argues in a column published in the NYT that the Democrats' health care law is clearly constitutional based on his analysis of precedent.  He does not anticipate another political decision by the Court, similar to Gore v. Bush, and believes the Court will follow precedent in upholding the constitutionality of the law.   I am more doubtful, not on the constitutionality of the law when a judge faithfully follows Supreme Court precedent, but on the current Court's willingness to apply precedent.  I suspect that several members of the Court are waiting for an opportunity to restrict the scope of federal power under the Commerce Clause in furtherance of their ideology which, at its core, is a modern version of state's rights.  By narrowing the scope of the federal government's power to regulate under that Constitutional Clause, those judges will advance republican ideology, sort of a Tea Party approach to Constitutional Law.    

The technical analyst for Barrons, Michael Kahn, points out the obvious in a recent column, interest rates have "made technical breakouts across the maturity spectrum".   While he believes that it is too early to call the end of the long term secular bull market in bonds, he asserts that an appreciable move in the 10 year treasury above 4% will confirm the end. (the 10 year note fell 24/32 yesterday and rose to a 3.737% yield)  I will start to trim some of my bond CEFs when the 10 year crosses the 4% yield barrier.  I have previously mentioned that level as a trigger point for reducing my bond fund allocation. The latest statement mentioning that trigger point was contained in the introduction section to this post:  Bought 100 GJP at 21.95/Bought 1 Synovus Junior Bond Maturing in 2017 at 86.3

An earlier mention of using a rise to 4% in the ten treasury as a trigger to reduce my allocation to bond funds was discussed in What is the More Rational Prediction for the Future-Inflation or Deflation from July 2010.  Another trigger for leveraged bond funds would be a rise in the 3 month Libor to over 1%, as mentioned in that last linked post.

I suspect that the long term bull market in bonds, which started in August 1982, has already ended, and the demarcation line will be fairly bright for those looking back with 20/20 hindsight in a few years.   But, who really knows what the future will bring?

When contemplating what the implications are of a long term secular bear market, it is important to think in terms of years, as in more than a decade, rather than in months, weeks or days.  The last long term secular bull market in bonds had its ups and downs, but the overall dominant trend since 1982 was toward lower yields.   The bear cycle will typically be long too.  I would measure the last long term bear market in bonds as starting in the late 1940s and lasting until 1982.  The most severe losses were caused in the last 10 years of that cycle, but there was a death by a thousand cuts before the losses started to become really painful and acute.  

One way to deal with the possible transition from a bull to a bear cycle is with a ladder strategy.  In my Junk Bond Ladder Strategy, for example, I hope to replace the junk bonds as they mature with investment grade corporate bonds, hopefully without sacrificing too much in yield as I replace the junk in the ladder with better quality investment grade bonds in the coming years.   Another way is to have a dose of floating rate bonds and preferred stocks in my bond allocation.   I prefer to own individual securities in this bond sector rather than to invest in floating rate bond funds.   Floaters: Links in One Post  A third method is to focus more on term bond funds (i.e. liquidate in a particular year) and to de-emphasize bond funds that have make no promise to return their investor's capital by a date certain.   In a long term secular bear market in bonds, I would prefer owning individual bonds and to keep my average maturity in the 5 to 7 year range, using a ladder strategy that will include a few longer dated maturities and more shorter ones than the average maturity.  

Bond and Bond Funds (Sifma Site)

This is a link to a favorable article in Seeking Alpha about Southside Bancshares, which I own in my Regional Bank Stocks' basket strategy.  The article goes into far greater detail about this stock's valuation than I will ever do in this blog.  As readers know, I am very spread out, and do not have the time to go into this kind of analysis when discussing my purchases. Bought 50 SBSI at 19.49 Bought 50 SBSI @ 18.73

You know things are getting tough in bond land when a BBB credit calls for redemption a 6% senior note maturing in 2032.  Public Service of Oklahoma recently announced its intention to redeem its exchange traded bond POH. AEP Subsidiary Public Service Company of Oklahoma to Redeem Senior Notes

I noticed last night at Dividend Page at the that PKM, which is about to be called, will go ex interest for its semi-annual interest payment on Thursday.   Several of the TCs containing Goldman Sachs' senior and junior bonds will also go ex interest on Thursday.    Of the ones TCs listed as going ex interest on Thursday, I currently own JBI, PYT, GYB, JZS, PKM (recently sold 100 of the 150 owned), PJI, PYB and PJA:   TRUST Certificates: Links in One Post GYB and PYT are Synthetic Floaters that make quarterly interest payments.  The other referenced TCs pay semi-annually.  There are also several synthetic floaters going ex interest for their monthly distributions, but I have sold my positions in all of those, viewing all of them as successful (e.g. GJP, GJO, GJR, GJS, GJK).  I have also sold my positions in JBK and ISM.  Among the other exchange traded bonds which are listed as going ex on Thursday, I own KRBPRE and OSM.

1. Added 50 of the Trust Certificate JZV at $24.14 on Tuesday (see Disclaimer):  When I placed this odd lot order, the bid was $24.07 and the ask was $24.14.  I just placed a limit order to buy 50 at the ask price.  I now own 200 shares of this TC.  I have booked several trading profits in 2008-2009, and have received several semi-annual interest payments on a 50 share position bought in March 2009 that is still owned in a taxable account.  JZV is a trust certificate that contains as its underlying security a senior CNA Financial bond maturing on 11/15/2023.  The TC's coupon is 7% on a $25 par value.

JZV Prospectus:

This purchase was made in a taxable account and represented an average up from the previous purchase in that account at $9.93  :

JZV Average Cost Per Share of $10.09 Purchased 3/10/2009
This TC is hardly a screaming buy at $24.14, but the alternatives are still fluctuating between slim and none as I try to reinvest the proceeds received from trust certificates being redeemed by the owners of their respective call warrants.  I certainly would not argue with anyone asserting that it would have been better to buy more at less than $10.  RB just said that it wanted to buy a 1000 but was nixed by the Nerd Machine.

The TC JZV does have a few favorable aspects to it.  For one, it matures in 2023, much better than most of the remaining TCs whose maturities would be subsequent to 2030. {A bond maturing in 12 or 13 years will still be subject to interest rate risks resulting from a significant rise in rates, but the adverse impact in price should be less than a comparable bond maturing much later in time. And, the option of holding until maturity to receive par value is not as long, obviously, for a bond maturing in 2023 as opposed to 2036}  I am also able to buy this TC at a modest discount from its par value, and at a better current and YTM yield than the underlying bond from CNA Financial (CNA).   FINRA There is also the possibility of the call warrant owner redeeming JZV, paying the TC owners the $25 par value plus accrued interest, because the underlying bond is selling above its par value.  And, the bond is investment grade, yielding over 7%, and CNA recently reported good quarterly results for the 4th quarter, thereby relieving some of my credit risk concerns.

TRUST Certificates: Links in One Post

Some of the prior trading profits are chronicled in the following posts from 2008-2009:  SOLD 100 JZV at $16.25-Bought at 12.78 (January 2009); Bought back 1/2 of JZV at $12.5 SOLD 1/2 JZV at $14.07

2. BOUGHT 50  Medical Action Industries Inc. (MDCI) at $8.11 Yesterday  and Sold 100 of the LT TGX at 1.63 on Monday (see Disclaimer):  I have not paid much attention to the LOTTERY TICKET TGX since I bought 100 shares at $1.28 over a year ago.  The stock has not done much, and recently the company ran into a problem with a significant customer paying for one of TGX's products.  So, without much thought, which is okay for an LT, I sold it and invested in another medical supply company.  TGX sells surgical needles among other products.

Medical Action Industries (MDCI) manufactures and sells disposable medical products.  Due primarily to a rise in its input costs, and a lack of pricing power for its products, earnings have declined in recent quarters, and the stock price already reflects those margin pressures.

The current price seems to me to be a function of the here and now approach to valuing a company, which assumes current conditions are permanent, or close to it, as if nothing will change for years to come.   Well, as the OG is fond of saying, things do change, at least when one focuses on a broader time horizon than this week, month or quarter.

A stock chart reveals the current problem.  Medical Action Industries Inc. Stock Chart | MDCI  In March 2009, the stock price was under $6 and rose to over $17 before the end of 2009.  Thereafter, there was two waterfall type declines, with the latest occurring in August 2010, as the stock quickly went from around $13.5 to $8.

This kind of stock will show up in screens that I routinely perform looking for Lottery Ticket selections.   The price has been hit pretty hard already.   So, hopefully, I have been spared most of the pain.  According to  YF, price to book is .91 and price to sales is .41.  Numbers less than 1 on both of those ratios are common criteria in LT screens.  The forward P/E ratio based on estimated earnings for the F/Y ending in March 2012 is a tad over 12.  MDCI is a small company with a market cap of around 132 million at the $8.11 price.

The stock did not decline after the company announced earnings results on 2/1, which highlighted the problems. MDCI Historical Prices  The company earned 14 cents per share for the quarter ending December 31, 2010, down from 25 cents in the year earlier quarter.   This is a link to the SEC filed Press Release discussing that earnings report.  MDCI acquired late last year Avid Medical, a "leading provider of custom procedure trays" for the healthcare industry, manufactured at a "new, highly efficient 185,000 square foot facility" located in Virginia.  Form 8-K

3.  SOLD 30 of 150 ZBPRC at $26.47 (see Disclaimer):  The OG was starting to become nervous about the overall exposure to Zions Bancorporation (ZION).  I do not own the common but have been buying and selling two equity preferred stocks, ZBPRA and ZBPRC, and one TP, ZBPRB.   I have had the most success with ZBPRA, and no longer have a position in it having transitioned to the fixed coupon ZBPRC.   Some of the reasons for buying the fixed coupon equity preferred stock, while selling out of ZBPRA entirely, are discussed in several posts (e.g.  Analysis of Prior Question: ZBPRA vs. ZBPRC OR ZBPRB and Item # 4  ADDED TO ZBPRC AT 23.75)

The largest gain on ZBPRA was a long term capital gain of $1099.21 (plus dividends) on 100 shares bought at $7.8 and sold at $16.85.

I trimmed only 30 out of my 150 shares of ZBPRC.  Par value is $25 and I sold those 30 shares at $26.47.  Those shares were bought at $18.4 and my gain was a long term capital gain.

I have also traded ZBPRB, the Zion's TP, and currently own 50 shares bought at $25.05.  ( see also, bought 50 zbprb in roth at $19.9  Sold 50 ZBPRB at 24.38) The TP will pay interest, while the equity preferred stocks, ZBPRA and ZBPRC, will pay qualified dividends.  The general goal is to move into a position where I am playing with the house's money on this grouping of three securities.  I currently own 50 ZBPRB and 120 ZBPRC.

ZBPRB:  Trust Preferred Securities: Links in One Post
ZBPRA: Advantages and Disadvantages of Equity Preferred Floating Rate Securities

I will try to discuss the remaining trades from Tuesday in the next post. 

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