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Opportunities in High Yield Bonds?


fjm222
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The HY market is beginning to look interesting again in my opinion. I think that things could get much worse for many issuers but with the index yielding high single digits I would think that there are individual credits that could provide interesting potential returns.

 

I was wondering if anyone is finding anything interesting in the space? Any ideas that look compelling, offering equity like returns while being higher in the capital structure? I am not experienced in the convertible space but I have heard that it could be an interesting hunting ground as well.

 

 

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FJM222:

 

I suspect that you are on to something....

 

HOWEVER, unless you are an expert AND have lots of capital, buying individual junk bonds probably isn't going to work.

 

I would suggest HY funds and perhaps BDC's.  BDC's are some very interesting creatures...you can get some incredible income AND a huge discount to NAV.  I definitely think the market is mispricing some of them.  You've got to pick & choose, as some of them are real turkeys.

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The HY market is beginning to look interesting again in my opinion. I think that things could get much worse for many issuers but with the index yielding high single digits I would think that there are individual credits that could provide interesting potential returns.

 

I was wondering if anyone is finding anything interesting in the space? Any ideas that look compelling, offering equity like returns while being higher in the capital structure? I am not experienced in the convertible space but I have heard that it could be an interesting hunting ground as well.

 

I've been thinking about HY, but haven't taken the plunge yet. I don't think we've seen capitulation in the debt markets yet. I'm waiting for the waive of defaults from prolonged $30-$40 oil to creep through - then I want to pick up HY. Close ended funds at a 15-20% discount seem reasonable picks at this point, but for most anything else I'm still waiting for it to get worse before allocating to fixed income products in that area.

 

Brazil might be a place to look at yield too. I think they're problems are more manageable than much of the energy complex's given that much of it is political in nature and you can get double-digit yields in the sovereigns if you accept currency risk - which for a currency that has collapsed in value by 30+% this year may have largely been removed. Also, EM currencies as a whole are the most undervalued they've been since the asian currency crisis in the late 90s so it's not a bad risk to be taking.

 

Just some thoughts on where the relative return is at...

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FJM222:

 

I suspect that you are on to something....

 

HOWEVER, unless you are an expert AND have lots of capital, buying individual junk bonds probably isn't going to work.

 

 

 

DTEJD: why can't a small investor invest in junk bond funds?

 

A small investor can invest in a lot of different things...junk bonds included.

 

HOWEVER, my brokers have all thrown fits when I tried to buy some in the distant past.  Most retail brokers simply don't handle many junk bond trades.  The fees (commission & bid/ask)were also disadvantageous unless you were buying something like 10 bonds at a minimum.

 

I guess it also depends on what your definition of small is.  When I got started, I was indeed very small, investing something like $1k or so at a time, with maybe $10k total portfolio.  Trading bonds with that amount of capital is difficult.

 

As to high yield funds, that is most likely the better way to go unless you've got some lead pipe cinch on an individual bond.

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My understanding is that these bonds are marked up significantly to retail investors. 

 

Here's an example, this is random.  In Fidelity I searched for bonds in the 6-15% yield range.  First on the list Southwestern Energy 7 1/2 2/1/18's.

 

Bloomberg quote: 82.797/82.797

Fidelity: 85.22/86

IB: 82.28/106.98 (a bit of a weird spread)

 

Then Fidelity charges a commission on top of that.  On the side of Fidelity's trading screen they have a thing "Third-party price" that looks suspiciously close to the quote from Bloomberg.  They have an about window explaining how the price came from a third party system and it's likely you can't buy it at that price.

 

Here's the problem, a fund can buy at 82.797, I can see the trades.  A retail investor is going to end up paying about 3% more, plus a commission.  For an equity maybe that's not the end of the world.  But in the fixed income world you lock in your yield when you buy.  And paying 3% more on the purchase (and the sale) really cuts into what you can make.

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Don't get too hung up on a 3% spread when you're buying bonds at $50-65.  That's like saying you won't buy cheap real estate because of the spread on the buy/sell.  Just make sure the price is attractive enough to get you the returns you're looking for.

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Don't get too hung up on a 3% spread when you're buying bonds at $50-65.  That's like saying you won't buy cheap real estate because of the spread on the buy/sell.  Just make sure the price is attractive enough to get you the returns you're looking for.

 

Let me guess, a bond broker?  It's like a financial advisor saying "Don't worry about the 5% load, it'll work itself out over the life of the fund."  Maybe it will, but getting hit on the front and back side is killer.  ETF's are loathed here, but they've taught us one thing, commissions and costs matter.  A low cost ETF is going to outperform a mutual fund with a load on costs alone.  I think the same is true for HY and retail investors.  Unless you're moving a lot of money around a HY ETF might capture most of the gains.  Of course there's no sexy factor to that.

 

I think the point is if you're moving $10-20k into each position the spreads and commissions are material.  Now if each position is $250k or $500k the cost is probably lower and doesn't hurt as much.  My hunch is that anyone investing more than a million or two into these things has a professional relationship where they can get better prices.  It's the small fries trying to buy these things who are eaten alive.

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Looking at my example bond a bit more.  Fidelity has pricing history, they include their markup in historical trades.

 

On Fidelity people are buying with a 13-15% yield.  Quotes from Bloomberg are yielding 17.5%.  That 3% spread up front equals a 12% lower return.

 

That's like investing in a stock at $50 and when it comes time to sell retail investors can trade at $88 and professionals at $100.  Retail investors would be incensed, yet no one bats and eye in the bond world.

 

Maybe there are good deals when the bonds are at 50 or lower.  I try to avoid being the patsy at the table.  Maybe you guys have figured out how to be the patsy and make it work, but for me it doesn't.

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Not a bond broker.

 

Obviously if you're paying 5% upfront for efficiently priced assets on a product that can't beat the market it's not good to pay fees.  The reason why there is a spread on the bonds is because there isn't a ton of liquidity.  That bid/ask spread isn't an accurate measure of where it should be valued most of the time.

 

Oddball, how many stocks do you buy where the bid/ask spread is something you can drive a truck through?  Even if you buy it at the price you want through a limit order, you can't immediately resell it at the same price.  Is that a deterrent for something priced at a big discount to intrinsic value?

 

Anyway not going to argue this.  The more people that think this way the better.  If I find an asset at a price I find compelling I could care less about "fees." 

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By the way, buying odd lots of bonds will usually get you a better price on the kind of mispriced bonds that people here would probably be looking to buy.  I've been trying to buy a million face of CHK bonds today and I can only get around 400k at $29 and I have to pay up for the rest.  If I wanted to only buy 50k face I could have taken $28.

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By the way, buying odd lots of bonds will usually get you a better price on the kind of mispriced bonds that people here would probably be looking to buy.  I've been trying to buy a million face of CHK bonds today and I can only get around 400k at $29 and I have to pay up for the rest.  If I wanted to only buy 50k face I could have taken $28.

 

I somewhat agree with you on the bond spread. If one is buying bonds to hold to maturity and the return is attractive, the spread is not a big issue. Sure, it would be better to get them cheaper, but it's likely good enough to get them at the price they are being vomited at.

 

On the other hand, there are issues with buying bonds. Some similar to buying stocks, some not.

Off the top of my head:

- Liquidity. You might not be able to buy at attractive prices. You might not be able to sell if bonds tank. Some of bonds I hold no longer have quotes in Fidelity at all. You could try to vomit sell them, but that's likely drop the price another 5% or more.

- Seniority structure. If you don't look at this, you might buy junior bonds that are nearly worthless in restructuring.

- Covenants. What is default? What company can and cannot do while the bond is issued? Companies try to be covenant light and you may be getting crappy bonds.

- Related to above: company moves to screw you. See CHK for example: they are issuing senior secured notes and tendering unsecureds. So now unsecureds are much less likely to get anything in restructuring. Can you say that you just were screwed? This is not unexpected in junk world.

- You are not institutional investor. Which means that you have no power and you can't participate in a lot of events. See CHK again: there is a tender offer for senior unsecureds to convert them into secureds. It's not a great offer, but it's way above current prices. Can you participate? No. It's for institutions only. So you are screwed again.

- You are not activist institutional investor for any restructurings. If bonds default, you will get whatever other holders of your bond class negotiate in BK proceedings. If your bond class is weak, you can get screwed.

 

Now regarding CHK: why do you want to buy CHK bonds? :) They are no longer the most senior class. Secured bonds are and they are not trading. Did you do a DD and figure out that in event of BK, you will still get enough recovery? Or do you think that CHK won't go BK and you'll get par on maturity?

 

Disclosure: I hold CHK, DNR, SFY, X bonds. I am quite leery about CHK here. I think that X is possibly safe. DNR... well maybe, but possibly not if oil continues to flounder in 30's.

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  • 1 month later...

I'm wondering if anyone can provide some input - tell me if this is a stupid idea.

 

I am looking at Guggenheim High Yield Corporate Bond BulletShares. They're target maturities and they range from 2016 through 2023. Ishares I think offers the same idea.

 

Looking at 2018, BSJI. http://guggenheiminvestments.com/products/etf/bsji/performance

 

With almost 3 years to maturity in 12/31/18, they have:

30-Day SEC Yield of 8.65 %.

Weighted Average Yield to Worst 9.16 %

And at the current offer, using the Guggenheim calculator, an Estimated Net Acquisition Yield- 8.53%

 

It's price is down about 15% from it's high about 1 1/2 years ago.

7.71 % is in energy.

 

I understand they're not treasuries, and they'd get hurt in a recession, but this just seems like a lot of return for 3 years of risk. 

 

Am I missing something major?

 

 

 

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Check out:

 

NHS -fund at discount to NAV

FEO -fund at discount to NAV

NSL -fund at discount to NAV  -  This is nice because it offers retail investors the chance to buy exposure to senior loans.  Many of the high yield bonds listed below have a revolver that is senior to them, so they are really mezz

 

SSWN - 2019 senior bonds that trade in $25 par increments for SSW.  Less liquidity, but 8-9% yields.

 

Atwood 2020 6.5s  -  $34 / 41% YTM

Seacor 2019 7.375s - $83 / 13% YTM

Era 2022 7.75s - $80 / 11% YTM

Fairfax 2037 7.75s - $113 / 6.5% YTM

Gulfmark 2022 6.375s - $32 / 32% YTM

Hornbeck 2021 5.0s - $55 / 18 YTM

JC Penney 2097 7.625s - $63 / 11.5% YTM

Keys Energy 2021 6.75s - $15 / 64% YTM

PHI 2019 5.25s - $81 / 12% YTM

Resolute Forest 2023 5.875s - $63 / 14% YTM    *Fairfax has indicated in the past that they own these

 

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I like the HRG 7 3/4% of 22 @ $96, 8.6% YTM w/ duration of about 4.

 

That being said, I keep my eyes on a very small subset of HY bonds and don't believe I have identified anything inefficient or some amazing relative value opportunity. This is probably the tightest CCC bond out there so it's not like the market doesn't realize it is safer than your typical low rated bond.

 

Harbinger Capital is a holding company with 2 main assets:

 

57% stake in Spectrum Brands as well as an

80%+ stake in Fidelity & Guaranty Life

 

It is chaired by Joe Steinberg (of Leucadia fame) and LUK is the largest shareholder.  The stock has been a pretty popular value name as it trades at a discount to NAV, primarily because it used to be owned and controlled by Phil Falcone (who was barred from running a hedge fund for borrowing from his hedge fund to pay his personal tax bill and not diclosing it <---something like that, don't know the details). They've also made some poor investments in energy and credit (lost a lot of money lending to Radioshack).

 

Assets are about $5B or so, $3.4B of that is in SPB and $1.2B is in Fidelity and Guaranty which is set to be acquired by Anbang (Chinese insurer that is often used by China bears as an example of why China is blow up prone).

 

They have $1.8B of debt. Assuming Anbang honors its commit to buy FG&L in 2Q 2016, HRG will have virtually no net debt.

 

I like the 7 3/4% of 2022 @ $96.0 and 8.6% YTM. These are CCC rated, holdco debt and the subordinated to subsidiary debt and HRG's senior debt , so they aren't "safe" in that regard, but I think you will agree these are nicely covered; the spectrum stake alone is worth about 2X their debt.

 

When the FG&L buyout was announced these bonds rallied to $103, but they've since drifted down to $96. I think that once the FG&L buyout closes, the bonds will tighten, but I'm fine holding to maturity and clipping coupon if that doesn't happen.

 

EDIT: these are like 94.5 / 96, be mindful of the bid/ask

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