Hold Off on Selling Now, Find Greater Bargains Later

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To say that it was a difficult week for investors would be somewhat of an understatement, but we have gone through these periods many times in the last 45 years and there should be no doubt that panicking will leave you worse off than simply sitting tight.

 

While the year started off with “junkier” income issues, such as preferred stocks, baby bonds, real estate investment trusts (REITs) and master limited partnerships (MLPs) getting taken to the woodshed repeatedly, the most recent days have shown there is no place to hide as even the best of the best have slid 1-3%. The preferred stock of issuers such as Public Storage and Wells Fargo, which had been rock solid, started to be tossed out in a fashion we have seen before in which investors “throw the baby out with the bathwater.”

 

Let’s look at how these types of market downdrafts develop. First off, we have the realization that the economy, both domestic and global, is weak. Virtually anyone could see this was the case. In fact, it could be seen many months ago. While the Fed raised the Fed Funds rate in December, the U.S. central bankers now are beginning to back away from their plans for future rate hikes. Investors are sensing that as the economy weakens, shares of those companies that are less than investment grade will be susceptible to capital loss, or worse, including suspension of dividends/distributions.

 

Investors in weaker issues sell their shares and keep the proceeds in cash or they move the proceeds into higher quality issues. Thus, we see lower quality issues fall in price while investment-grade issues stay even or even move up a bit in price. As fear builds, investors in even some of the highest-rated issues begin to panic (or say to themselves they simply don’t want to be invested at this time) and sell their shares. The further share prices fall, the more investors run for the exits.

 

We understand the sentiment of income investors, but there is a huge problem with selling out due to fear. Investors that sell out of the market seldom re-enter or, if they do, they only do so after prices have recovered and moved higher. They successfully “buy high and sell low.” As markets crashed in late 2008 and early 2009 as the S&P 500 fell from around 1,500 to 800, retail investors were bailing out as fast as they could. They were setting themselves up for a perfect “buy high and sell low” situation. Many of those investors have never re-entered the market, so they are forced to keep their money in certificates of deposit (CDs) and savings accounts at interest rates that earn just enough money to buy a cup of coffee each month.

Of course, a year later (January, 2010), the S&P 500 had regained 50% of the loss and income issues were just about back to where they started. Those who held through the turmoil did just fine and those brave enough to step forward and buy at low prices made out like bandits. We are happy that we bought some issues during those scary times — but wished we would have bought more of them.

 

So, we have incurred recent losses but not of an unsettling magnitude. Our blended income model portfolio is off 2.93% and, if it weren’t for a couple of disastrous holdings (such as our lone energy MLP NGL Energy), we would be near breakeven. Even the more conservative Short/Medium Duration Income Portfolio is now up 1.7% as it holds some issues which are non-investment grade that have been sold down. As we survey the issues out there, we see more that we would rather buy than sell. For instance, Cowen Group has a baby bond (NASDAQ:COWNL) which now is trading with a current yield of 9.2%. Cowen Group, which is an investment bank, sports a stellar balance sheet. JMP Group, another investment bank, but with a less solid balance sheet, has two baby bonds outstanding with current yields of 10.1% and 9.3%. TravelCenters of America (NYSE:TA) has two baby bonds outstanding that now trade at current yields of around 9%. You can peruse the baby bonds available at this link.

 

While we are not buying at this moment, we may do so soon. We are watching a bit longer before making any new commitments. We did some purchasing 2-3 weeks ago of “bargains” and they have worked well thus far. But there is no reason to rush into new purchases as good bargains today may be great bargains tomorrow.

 

 

 

 

 

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