August 13, 2020
My Dear Reader,
You may have seen recently that junk Bonds in Europe and soon to be in the United States are giving a negative yield rate. But, as I’m sure we often ask ourselves when looking at the news, why does that matter and how does it affect you? Before we get started, in order to make sure we’re on the same page I’ll throw out a simple definition of a junk bond. As the name implies these are bonds that are not up to the same standard that typical government or corporate-issued bonds are. However, because of this, they have a typically higher yield than other bonds. So when these bonds start going negative, we can safely assume that regular bonds are going to have a negative yield shortly. It could mean that there will be trouble down the road for those who have a slightly safer portfolio position, and for those who use junk bonds to act like little “morganizers” The incentive to purchase the debt of an under-performing company becomes less and less attractive. We can see this trend play out among the larger portfolios that many Americans rely on.
According to the Financial Times, The Ball Corporation, makers of aluminum cans, recently secured the lowest ever borrowing costs:
“Aluminium can maker Ball Corporation secured the lowest-ever borrowing costs for a US junk-rated company on Monday, as income-starved investors shrugged off lingering concerns over Covid-19 in their pursuit of higher yields. Ball raised $1.3bn through a 10-year bond, paying an annual coupon of 2.875 per cent, according to people familiar with the terms. It was the lowest borrowing cost clinched in the junk debt market for a 10-year bond, according to financial data provider Refinitiv.”
This article proves what most experts have been saying for a while, in that there is a search for a higher yield, well so remaining in a safe position, yet due to government spending and rate cuts, this seems untenable. In fact, in a recently published working paper by Neng Wang and Jinqiang Yang titled “The endowment model and Modern Portfolio Theory” Illustrated Trend in public pensions towards riskier, alternative assets.
In fact, in a recent post, Brian Adams argued that it was “Fascinating to see the progression of institutional investors allocating away from stocks and bonds in favor of alternatives over the years. I fully anticipate this trend to continue given the vagaries surrounding the stock market and the dismal yields in bonds.”
The obvious question that’s this evidence leads us to, why are the average Americans still led by the hand into the stock market? If it’s not good enough for the institutional investors, why is it good enough for you? I personally do not Advocate against the stock market, but my clients are put in much safer positions beforehand, and I can proudly say that I’m doing my best to avoid what could be a coming storm.
To Your Creation and Potential,