Well, the ride goes on, but I can no longer suggest climbing aboard. I just did a scan on E*Trade to find investment grade bonds yielding more than 7% yearly. The only things that came up were some AMR bonds. Guess what? These puppies are in default, despite their BBB ratings from Moody's. Folks, the risk/reward ratio has slanted decisively toward risk.
All along, I have talked about buying long-term bonds at or below par, with yields high enough to compensate for inflation. Taking into account the unprecedented opportunities afforded by margin rates hovering around 1.25%, this has meant that rich yields of 10-12% have been within reach. Well, this is still true, technically. You can still find the odd issue selling around par, with a 7% coupon. Applying 50% margin (borrowing $5,000 of a $10,000 purchase) would incur a mere $62.50 in interest, reducing the return to $637.5 for that 7% bond. So, you will still score a 12.75% return on that $5000 investment. So, what could go wrong?
LOTS of things. Just because inflation has been hiding for the past five years doesn't mean it's gone forever. A real uptick will swirl through the bond world in no time. A bond trading at par to yield 7% will suddenly be worth only $.875 when rates go to 8%. No problem if you're in for the long haul, but a massive one if you need the money anytime soon.
Also, an uptick in inflation might drastically affect margin rates. Just imagine the present margin rate going up to 3% from today's 1.25%. Now your nearly return is only $550, still over 10%, if you can ignore the capital loss of $1250 on paper.
Historically, from 1946 through 2012, the Moody's BAA seasoned rate has been around 7.6. With it hovering around 5% now, even the most exceptional situations are looking shaky. So, it's probably time for a pause. If you're a Bodacious investor following a plan, perhaps you should go ahead and buy something this year, but maybe less than usual. Instead, pay down margin loans with the difference. If you don't have margin debt, then let the money accumulate for awhile. Cash is NOT trash. Even if it just sits around, the loss to inflation is small right now.
One beauty of the market system is that, sooner or later, opportunity always knocks. With the stock market hovering near 5-year highs, it's a good bet that things will get cheaper eventually. When blood is flowing and you're scared out of your wits, it will probably be a good time to put that money to use. With any luck, the opportunities will be there in bonds, which is, as you know, my idea of the way to roll!
