Displaying items by tag: credit

Friday, 28 September 2018 10:32

A New Risk in Junk Bonds

(New York)

The junk bond sector feels like it is on the precipice right now. After years of great performance, valuations and yields are at lofty levels. At the same time, there has never been more BBB bonds, or bonds just one notch up from junk. All of that means the market looks fragile. However, one of the lesser discussed risks in the high yield market regards a sea-change in accounting practices. Just as with startups, the high yield sector has seen major growth in suspicious accounting practices, such as inflating EBITDA to make debt multiples look lower. Often times this is done on a highly speculative basis that misleads investors.


FINSUM: This is just one of the many growing risks in the high yield market. It seems like the SEC needs to crack down on this sort of creative accounting.

Published in Bonds: High Yield
Thursday, 06 September 2018 10:15

Munis Offer Some Tempting Yields

(New York)

You wouldn’t usually think of muni bonds when you are looking for juicy yields (at least not investment grade munis). However, if you look further out on the yield curve, there are some very interesting bonds. For instance, there are AAA rated 15-year munis yielding 2.7%, up from 2.2% earlier this year. Comparable two-year munis have just 1.7% yields, representing a 100 basis point spread versus the treasury market’s 29 bp spread. This is the steepest the muni yield curve has been since 2000, which creates opportunity at the long end of the curve.


FINSUM: Most advisors will be aware that even with the currently low yields in munis, the tax exemption for high income clients make the bonds very attractive, so this is just icing on the cake.

Published in Bonds: Total Market

(Washington)

Investors may not realize it yet, but the Fed is in a quite pickle: damned if they keep hiking, damned if they don’t. In what is being dubbed a potential “Dollar doom loop”, the Fed might create a cycle of excessive Dollar strengthening if it keeps hiking. This may cause an overseas debt crisis as many foreign borrowers, especially EMs like Turkey, have issued excessive Dollar-denominated debt. This would in turn put stress on Europe. Additionally, the strong Dollar strengthening would start to hurt US corporate earnings and exports, in turn weakening the economy and possibly causing the Trump administration to move to artificially weaken the Dollar. That said, if the Fed quits hiking, it risks the economy, which is already hot, quickly overheating.


FINSUM: This situation is very real, but luckily we think there is a pretty simple solution—only proceed slowly with hikes. It should be enough to keep the economy in check (given inflation is not high), but not so much as to send the Dollar surging (imperiling foreign borrowers).

Published in Macro
Tuesday, 28 August 2018 08:52

Don’t Rely on Diversification

(New York)

One of the ways that investors or advisors might think to diversify their risk is to invest in a number of different managers. The reality is, however, that many of those managers, especially within an asset class, will all have similar looking portfolios, which means you may be much less diversified than you think. The obvious analogue is index tracking funds. There would be no point in buying multiple ETFs from different providers that all track the same index. Yet that is what investors are doing in some markets. This concept is particularly relevant for the riskier end of the credit markets right now, where the market seems to be poised for the same kind of correlated fall as happened during the Crisis. In CLOs for instance, many of the largest loans are held by a majority of the major managers.


FINSUM: This seems like a smart and timely warning. Correlation can doom even the best diversification efforts, especially when it is credit driven.

Published in Bonds: Total Market
Wednesday, 22 August 2018 08:31

Pimco Warns of Looming Recession

(New York)

Pimco just made the most obvious warning we have ever heard, but within it, there are some useful reminders. They warned investors that there is a 70% likelihood of a global recession within the next five years. Their reasons for thinking so, and how to handle it, are a bit different than the norm however. Their focus is on how all central banks are in tightening mode and public market assets have become very expensive. Pimco says investors can find safe haven in private markets as the recession takes hold. These include in private credit, such as in corporate loans, non-qualified US mortgages, and commercial development loans. They say returns in those areas will be 10%+ instead of 5-6%.


FINSUM: We think their drivers are correct but their timing is off. We see a recession coming much sooner, probably within two years (at least for the US). However, the private credit recommendation is a unique one, but also hard for most investors to access.

Published in Macro
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