Monday, October 4, 2010

Are High Yield Investments The Next Bubble?

Stocks sold off today as a Microsoft downgrade and an investigation into American Express spooked the markets.

I wanted to talk about the high yield market today.  We can thank the Fed and their reckless zero rates policy for creating yet another bubble.  This time it's in high yield debt and I gotta admit folks:  This one really pisses me off.

It's one thing to blow one up using assets like housing which are a necessary part of our daily lives.  The Fed was reckless when it created this mania but it was not meant to be malicious.

Before that we had tech and it was easy to see how that bubble got going.  The Internet was not understood by many and it's potential seemed endless at the time.  I know I got caught up in it.  Just about all investors did.

The high yield bubble however is a whole different animal.  This is not speculators gone wild.  This bubble has been created because investors that live off of yield like retirees are being forced to chase risky high yield investments in order to pay the bills.

The way I see it:  The Fed stole their "way of lives" when they took interest rates downto zero.  Many retirees have been robbed of their security by this development as they dive into risky investments after comfortably sitting in fixed income.

Sadly, the Fed has decided to try and bail out the banks and reckless speculators at the expense of the fiscally prudent. 

The biggest losers other than the taxpayers in this debacle have been the prudent elderly savers who worked hard and saved all of their lives so they wouldn't have to worry about money when they retired.

Let me give you a couple of examples of what these victims have been forced to pile into in order to make up for their zero returns in CD's and treasuries:

Let's start with JHAQX which yields 12%.  This high yield fund has performed spectacularly since the bottom in 2009 as it finds never ending demand from the desperate yield chasers:

Sure looks purdy doesn't it?  The problem is when you wipe the lisptick off this pig you realize that you own nothing but a bunch of garbage.

Here are the holdings of the fund as reported by Yahoo Finance:

"Total Holdings                     Overall Portfolio Composition (%)

Cash:                                                   9.29

Stocks:                                               17.45

Bonds:                                                48.32

Other:                                                  1.26"

Let's dig a little deeper and see what their bond holdings look like:

"Bond Ratings (%)

                                                  Sector JHAQX             Category Avg

US GOVERNMENT                       N/A                               N/A

AAA                                               0.25                               1.73

AA                                                 0.00                                0.22

A                                                    0.00                                1.02

BBB                                               0.00                                5.52

BB                                                 3.99                                27.13

B                                                    22.12                              40.49

BELOW B                                     59.47                              19.36

OTHER                                         14.16                               4.53 "

My Take:

As you can see above, about 60% of the bonds this fund owns is B or lower.  Folks, we can't find buyers for AAA rated MBS because they are likely worth pennies on the dollar.  What in the hell do you think a below B bond is worth when no one wants to buy AAA rated debt?

All Wall St has done here is dressed up this pig by slapping it with a 12% yield.  The problem is you own NOTHING of any real value other than perhaps a few stocks this fund owns.

This is a catastrophe waiting to happen!  Here is another one I love to look at.  Let's take a look the commercial REIT Simon Properties Group(SPG):

As you can see, SPG and it's attractive 2.6% yield(relative to treasuries) has driven this stock back up near it's all time highs since the bottom.

SPG turned into one giant party once they were allowed to roll their debt over(thanks to a gift from the Fed).  It turned into a Ponzifest a little while later when they were able to raise cash at low yields in the corporate debt market.

The problem here folks is SPG owns a bunch of commercial real estate that's worth around 50% of what it's marked at.  There has been no "mark to market" on what it holds.  In a lot of ways it's just like a bank.  It holds a bunch of toxic assets at propped up prices that no one wants to own.

Yet, unlike the financials, SPG soared right back to the highs.  Meanwhile the banks haven't even gotten close.

In many ways SPG's situation is even worse than the banks:  Why on earth would you want to be involved in as stock that depends completly on the consumer in order to thrive?  The banks can at least diversify into investiment banking and trading.

SPG has a lot of questions that need to be answered.

The Bottom Line

Needless to say, SPG is hot on my short list.  It was up again today BTW despite today's sell off.   

The whole market at this point believes that the Fed's got their back.   If the recovery fails then they all believe that the Fed will do a QEII which will "save the day" and keep the markets flushed with cash.

People are responding by speculating into risky stocks and dividend funds that fundamentally are 50% or more over priced.

Sadly, when it comes to high yield debt, most of the speculating is being done by retirees who have run out of options. 

The reality here is no one here is buying anything for fundemental reasons. 

They are basically piling into these assets and hoping they can suck the yield off of it for awhile and then sell it to the next sucker at a higher price.

Gee....Does this type of investing mentality sound familiar? 

Bubble anyone???

We were down again today, but I still think we will see some more buying binges in the near future as the speculators continue to pile into stocks for the wrong reasons.

All I can say here folks is this is all going to end badly because people are speculating instead investing.

When the music stops and the fundamentals matter you are going to see one massive run to the exits just like you did about 10 years ago.

Disclosure:  No new positions taken at the time of publication.

1 comment:

Jeff said...

THis market is nuts!

100 point move on the dow and bonds haven't sold off.

Gold also up. Dollar getting crushed.