Eye On The Market

One Man's Bond Crash is Another Man's Income Opportunity

Traders have reason to worry; Investors… not so much

by Steve Selengut

Mr. Selengut is a private investor and a contributing editor to LIFE&Health Advisor. He is the author of the book ‘The Brainwashing of the American Investor: The book that Wall Street does not want you to read.’ He can be reached at [email protected]

A recent Bloomberg Investment News headline is designed to make you shiver in your income portfolio boots: 

"Big fixed income shop prepares for the worst"… and the Bond Portfolio window-dressing sell off has begun.

Bond funds in general, the article reports, are now holding 8% of assets in cash…highest since the financial crisis, and 1999 even. Professional Bond Traders have reason to worry; income investors not so much.

The article is reporting the fear of lower market values in existing bonds, particularly the higher yield variety; so big players in the bond market are hoarding cash (even selling existing holdings at losses in the process).

The Cash-Hoard

Bond Traders and Fund Managers look foolish as inventory market values fall. The cash hoard is their way of preparing to buy similar paper at higher yields sometime in the future and/or to buy back "old" bonds after the fall in price.

In the meantime, they are holding zero interest rate cash in anticipation of the higher yields… and could care less about the negative impact this behavior has on portfolio yields. This is the result of what I call "Total Return Crossover"… the absurd application of market value growth analysis, rather than income development criteria, to primarily income security portfolios.

Bonds are corporate and government debt securities people... so long as they pay the interest why worry about the market value?

So bond and other income fund managers choose to actually lose your money now to look less foolish than the competition later. This "panic selling" by professionals leads to irrational, "knee jerk" reactions in amateurs. What I did not read in the Bloomberg Disaster scenario (and this should soothe all the nerves) was any indication or expectation of default on the interest paid by the bond issuers.

All about the income…

Bonds are corporate and government debt securities, people; so long as they pay the interest why worry about the market value. Wall Street is always more concerned about appearances than it is about income generation. And the Masters of the Universe really do have a problem… OMG what this could do to their year-end bonuses…

But we (the non Masters of the Universe) can simply reinvest our current income in any number of portfolios of bonds, preferred stocks, loans, notes, etc., selling at discounts, not only from their maturity value, but also from their combined Net Asset Values.

Read that again please. Yeah, we can, and not a peep of encouragement from Wall Street to do so. Closed End Fund investors are uniquely positioned to take advantage of both the lower prices and the higher yields. Market Cycle Investment Management users have done it before, right? Remember the fall in CEF prices from early 2007 (higher rates caused these) through early March 2009… and the ensuing rise through October 2011? Well, do you really think that the anticipated one percentage point rise in interest rates over the next year or so will cause Financial Crisis #2?

Isn't it great when Wall Street's pain becomes the small investor's gain…. but only if you take advantage of the lower price, higher yield scenario that is staring you in the face as you read. Yes, YOU can be the Master of this Universe!