Friday, June 1, 2012

GDP Growth Slowing Worldwide & Record Low Prices For the 10 Year U.S. Note/Reynolds Group Holdings/Sold 100 PSEC at $10.83-Roth IRA

The S & P 500 declined 6.3% in May.

The VIX closed at 24.06 yesterday, marking the 13th consecutive close above 20. The VIX closed at 16.6 on May 1st.

India's GDP growth slowed to 5.3% in the first quarter, down from 6.1% in the previous quarter and below the 6.1% consensus forecast.

The U.S. government revised first quarter real GDP growth to a 1.9% annual rate, down from the prior estimate of a 2.2% increase. Consumer spending was revised down to 2.7% from 2.9%. The personal consumer price index was revised up to 2.5% from 2.4%. Real GDP increased 3% in the 2011 4th quarter. News Release: Gross Domestic Product

The ten year U.S. Treasury fell to another record low yield yesterday, hitting 1.53% intra-day. The five year treasury note fell to .66%.

Joy Global lowered its earnings and revenues estimate for FY 12.

MKM Partners downgraded Nokia to sell and lowered its price target to $2. Based on its channel checks in Europe and the U.S., MKM believes that Lumia has fallen out of favor after being hot for four or five weeks. The MKM report is summarized in I recently bought NOK at $2.88-LT Category. I have considered buying a Nokia unsecured senior bond, but have been unable to pull the trigger.

Intel (own) fell 1.11% yesterday after Morgan Stanley initiated coverage with an underperform rating. Barrons published last Saturday a positive article on Intel's prospects.

Over the past few weeks, I have seen bonds being offered in bulk that were issued by companies with issues, including Nokia, Chesapeake and J.C. Penny. Those bonds did not appear until recently when I screened for bonds yielding more than 7% and selling for under their par value.

ADP reported yesterday that employment in private businesses rose 133,000 from April to May on a seasonally adjusted basis. The April number was revised down to 113,000 from the prior estimate of 119,000. Large firms added just 9,000 jobs in May according to ADP, continuing a trend of anemic hiring. While large companies have record amounts of cash, they apparently need more tax breaks before starting to hire.

A number of recent articles explore how far Germany will go to save the Euro and the EU. (e.g.Reuters). The recent weakness in the Euro is probably a net positive for Germany given its strong manufacturing base. And, it is understandable why responsible European governments are reluctant to bail out the irresponsible ones. However, if the crisis spins out of control, and that is certainly a real possibility, then Germany will suffer.

A number of reports suggests that depositors are fleeing Spain's troubled banks. Fear will continue to feed on itself unless something really big is done soon. That was the message given the European governments yesterday by the President of the European Central Bank. NYT

CNN placed an another nail in the Obama birther conspiracy theories. True Believers are not interested in anything resembling reliable information, particularly when the evidence refutes an accusation against the Beanpole.

1. Reynolds Group Holdings (own 4 senior bonds: Junk Bond Ladder Strategy): For the 2012 first quarter, Reynolds Group Holdings reported net income of $63 million on revenues of $3.312 billion. reynoldsgroupholdings.pdf This was an improvement from the $54 million loss suffered in the 2011 first quarter. Net cash flow from operating activities was $86 million, down from $169 million in the 2011 first quarter, due largely to increase interest expenses related to the Graham Packaging acquisition. (page 22)

The first quarter included some extraordinary items including a $66 million gain from the sell of the Louisville laminating operations of Pactiv Foodservice segment, asset impairment charges and expenses relating to acquisitions.    

The company notes that it has "substantial" debt (page 22), and no one will quarrel with that statement. Reynolds Group has been formed by a series of debt financed acquisitions.  

As of 3/31/12, the company had $1.253 billion in cash and $17.709 billion in long term debt (page F-3). A listing of the debt obligations can be found at page F-20. Since I own senior unsecured debt, I am most concerned by the sheer magnitude of the senior secured debt which includes $4.444 billion drawn on a secured credit facility and approximately $3.941 billion in several senior secured notes. 

I own senior unsecured debt originally issued by Pactiv (2018), or its predecessor Tenneco Packaging (2025 and 2027). All of that debt is listed by Reynolds as Pactiv debt at page F-20. After adding one 2018 Pactiv bond, I noted that I was uncomfortable owning four bonds from such a heavily indebted company and would sell either the 2025 or 2027 bond. Added 1 Pactiv 6.4% Senior Note Maturing in 2018 at 77 (October 2011). I will probably do that before the end of this year. 

I would hope that Reynolds makes no further debt financed acquisitions until it makes substantial progress in reducing its existing leverage.  

Before Pactiv was acquired by Reynolds, Pactiv bonds were rated investment grade. Now, those bonds are deservedly rated well into junk, not due to Pactiv's operations, but to the Reynold's Group excessive debt levels.

In my Personal Risk Ratings For Junk Bonds, I currently rate the 2025 and 2027 bonds at 8+ and the 2018 bond at 7. Tenneco Packaging and Pactiv Bond-Increasing Personal Risk Ratings I do not see any reason to change those ratings based on the first quarter report. Those bonds remain very high risk given Reynold's debt load.

All of those bonds have the same priority. However, I am assigning more risk to the longer dated bonds due to what I perceive as an increase in default risk associated with the longer maturity. I have discussed that kind of risk in relation to stocks: Bayesian Analysis: Duality of Long Term Risks There is added risk related to unanticipated events occurring over a longer time span. That risk is enhanced for a higher leveraged company like Reynolds which may become even more leveraged due to another acquisition.  

Moody's currently has a Caa1 rating on the unsecured debt which is not comforting.

FINRA - 2018 Pactiv (currently own 2)
FINRA -2025 Tenneco Packaging (Name later changed to Pactiv)
FINRA -2027 Tenneco Packaging

2. Sold 100 PSEC at $10.83 Last Wednesday-Roth IRA (see Disclaimer): I will look for an opportunity to buy these shares back in a taxable account, where I currently own 218+. I am reinvesting the monthly dividends to buy additional shares in that account. I still own 100 shares of PSEC in a regular IRA.

I am de-risking some in my Roth IRA and have raised my cash level to about 25% of net assets, including the $4,000 raised in transaction yesterday that I will mention next week. That is an excessive cash allocation for that account. I am hoping for better buying opportunities in the coming weeks.

I bought the shares sold last Wednesday last June at $10.1:

2012 Roth IRA 100 Shares PSEC +$60.47
With BDCs, I am simply trying to make a buck or more on the shares while harvesting their dividends. Since PSEC had a dividend yield exceeding 11% at my cost, my total return for this position would be approximately 17.7% annualized. For BDCs held in a retirement account, I will harvest that type of gain, particularly when the OG is as worried as he is now.

I may deploy those proceeds into a PSEC senior bond. While the common shares have a much higher yield than the senior bond, I may buy the higher priority security in the retirement account and accept less yield, usually after trading the common for a profit.

Prospect Capital closed at $10.77 yesterday.

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