Bond markets have always been segmented, but there is a particularly sharp division going on in the world junk bond scene that between troubled telecom corporate IOUs and most other high-yield bonds.
In one of the great building bonanzas of all time, every manner of cable, satellite and broadcasting facility has been built or laid in the last 10 years, in a rush to capture the Niagara of profits supposedly associated with the Internet and global gabbing. Instead, today there are miles of unused cable, and whole enterprises such as Iridium LLC, a worldwide cell-phone company with its own fleet of satellites have gone bankrupt.
The telecom trashing of the last couple years has hurt overall junk bond fund returns and, to some extent, scared investors away from the whole field. From 1998 through 2000, junk bond funds as a group showed negligible returns, as bond values sank enough to offset interest earnings. Junk bond returns spurted in January, as investors bought bonds on the cheap, but since then have stalled again.
With telecom troubles, reported junk bond default rates have soared, even before the country has tipped into a recession. Obviously, some investors must be wondering what would happen to default rates if the economy sours, and it is looking like it might. But with Wall Street equities edging sideways, return-hungry investors continue to sniff around the edges of high-yield markets, says Jeff Rollert, veteran bond maven and managing director of ALM Advisors LLC in Pasadena, a bond shop.
“Everybody is discovering non-telecom junk bonds,” said Rollert. “Suddenly, you are seeing some of the prices moving up.”
New issues are selling well indeed, while Wall Street can barely budge an initial public offering across the transom, it has sold $40 billion worth of high-yield bonds this year, more than all of last year, according to Boston-based Thomson Financial Securities Data Inc.
Additionally, the bonds of some companies, especially those vulnerable to a takeover, make for interesting plays, said Rollert. For example, bonds of tech giant Xerox Corp. were trading last week for 47 cents per $1 of face value. That’s up from 40 cents a couple weeks back, in part because there is a chance that the even bigger tech giant, Palo Alto-based Hewlett-Packard Co., might take over Xerox, said Rollert.
Plain old smart shopping always helps. Last year, Rollert took a major position in the bonds of Camp Hill, Pa.-based Rite Aid Inc., the ailing drug store chain. He bought in when the bonds were trading for two bits on the dollar, and now they command more than 80 cents, as it looks more and more like Rite Aid is likely to muddle through bad times. That big Rite Aid bet has resulted in ALM Advisors recently being ranked (in a tie with another shop) as the No .1 junk bond shop in the nation, year to date, by Chicago-based Morningstar Inc.
Cheap Diversity
What with stockbrokers, bank trust departments, mutual funds, market publications and pay-to-play Web sites, there’s a lot of ways these days to spend money on Wall Street. Indeed, whole segments of the financial services industry are devoted to living fat by getting between investors and their investments.
The sad reality is that numerous academic and industry studies strongly suggest that beating the market is the province of a select few, if any, on a consistent basis. No matter how much one spends on financial advice, you might do better by throwing darts, about half the time.
Happily for ordinary investors, some new instruments and technologies in the last few years have resulted in ways to become incredibly well-diversified, and on the cheap.
Latest in this “invest-for-less” theme is a new stock, VTF on the American Stock Exchange, based on the Wilshire 5000 index. In other words, the VTF stock mirrors the very broad market index put together by Wilshire Associates in Santa Monica. The really good news for investors is that total management fees are a minuscule 0.15 percent of assets per year. Contrast this to typical mutual funds, which charge 1.25 percent, or so-called “wrap accounts” at brokerages, in which hapless investors are charged roughly 3 percent of assets annually to have a brokerage put money into mutual funds.
Interestingly, Valley Forge, Pa.-based mutual fund giant Vanguard Group, is creating the VTF stock. “We met with them and got a licensing agreement worked up,” said Tom Stevens, senior managing director at Wilshire Associates. “This is probably just the beginning. Other mutual funds will probably do the same thing.”
Some market observers expect index shares, such as VTF, to eventually supplant passive, index mutual funds, as they are cheaper to operate and thus less costly for investors. Of course, one still has to pay a trading commission when buying shares, but here, the Web is the investor’s friend. With the advent of online discount brokerages, the VTF shares can be bought for a trading commission of $10 or less, through such shops as Datek or Scottsdale Securities.
Still, investors should keep in mind that even diversity is no firewall against market hellions, when they run loose on Wall Street. For example, the Wilshire 5000 index plummeted 25.5 percent in the year ended March 30, a stunning fall which reflected market setbacks that wiped out an estimated $4.2 trillion worth of shareholder equity. The index has rallied in April and May, getting back about to where it started the year. Still, last week the Wilshire 5000 index was trading in the 11,700 range, off about 18 percent from its 52-week high.
Contributing columnist Benjamin Mark Cole writes about the local investment community for the Los Angeles Business Journal. His new book is “The Pied Pipers of Wall Street: How Analysts Sell You Down the River,” published by Bloomberg Press. He can be reached at sevencontinents @mindspring.com.
