While the majority of a portfolio should be supported by fixed income, it is no wonder how some investors have begun supplementing the equity portions of their portfolios for equivalent bonds. While these positions are generally more risky than regular debt, they can be seen as safer than equity positions, and therefore better capable of holding value in today’s ugly markets. By the end of this article you’ll understand a little bit more about why this is, and how it is you can benefit from the trend over the course of the New Year.
The biggest reason as to why corporate bond yields are currently so high is very simple. Capital flight has plagued the 2011 markets by reducing trading volumes, and increasing volatility. Given their risky nature, many institutions therefore opted to sell off positions in their corporate and high-yield bond holdings in order to secure the value of their holdings in safer holdings.
This can partially be seen in the great expansion of the price of gold, since many investors saw it as a venue for protecting the value of their funds than the high-yield positions.
The end result is that we are seeing corporate bond yields that are between 5-10%, even though the companies themselves are reasonably secured. For the sake of comparison, these corporate bond yields suggest that the bonds of a major mining company are as risky as investing in bonds from the government of Hugo Chavez’ Venezuela.
Just a reminder, this is the same country that nationalized several gold mining operations over the last year. As an investor, all you need to do is your own due diligence to assess the true value of these positions, and decide whether or not the market is accurately pricing in their worth.
Looking forward to investing in 2012, one of the most exciting trends that I see is this undervaluation of corporate bonds. Granted, there is still a great deal of risk associated with investing in these kinds of securities, but I find that there are enough opportunities available to make the screening a little bit easier. My strategy is to simply look at all of my non-yielding equity positions, and look to see if there is a bond from the same company that would provide a better stability or return.
Realistically, the risks are all generally the same, it’s just a question of how it is you want a portfolio to generate returns. For the coming year, it appears as though the balance of analysis favours debt securities due to their yield.