Providing a Preferred Stock and Baby Bond Model Portfolio Review

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It is time for us to review our model portfolio to make sure there are no obvious “ticking time bombs” waiting to go off that we have overlooked.

As I have addressed before, it is nice to not have to babysit a portfolio but, on the other hand, it is wise to review your holdings on a continuous basis. Our goal is to have a portfolio which is relatively safe, although not investment grade, providing a near 7% annual return. In these times of low interest rates, it becomes more and more difficult to maintain a 7% return without “stretching” for yield.

Our Short/Medium Duration Income Portfolio,which was originally conceived in 2014, has performed well for us over the last 4 ½ years. While it is simply a “model,” it very much mirrors how I personally have invested during this time frame. The model is intended to be an educational tool for newer income investors. We hope that over time it will show returns which can be very rewarding without holding common stocks that some of us are uncomfortable owning. The portfolio now shows a balance of $111,712 after starting in 2014 at $85,000.


At the end of April 2019, the portfolio has provided a total return of 31.43% in approximately 54 months. The fifth anniversary of this portfolio is about six months away and, while it is likely that we will come up a bit short of our 7% goal, the returns are quite stellar during these times of low interest rates.

It should be noted that this portfolio is not investment-grade and may not be suitable for times of economic strife. Only one holding in the portfolio is investment grade, while all the others are unrated. It would be impossible to garner a 7% return by holding investment-grade issues.

As we review this portfolio, we note that there are 12 total holdings. Of these 12 holdings, seven of them are issues from business development companies (BDCs). Such BDCs generally loan money to private companies at fairly high interest rates as the borrowers, since the loan recipients otherwise may not be able to obtain needed funding at reasonable rates. The banks also may not want to incur the high risk associated with these loans.

As we review all seven of the BDC holdings, we don’t see any that warrant our concern. Each of the issuers is performing as expected. Generally, this is what we would expect out of these companies when the economy is in a growth mode. The high-risk borrowers that the BDCs serve can do well during economic expansion, but it remains to be seen how they will perform when a recession takes hold in the future.

We hold one Eagle Point Credit Corp (NASDAQ:ECC) term preferred issue in the portfolio. ECC has performed very well over the last three to four years. It also holds a portfolio of collateralized loan obligations (CLOs), which means that like BDCs, there is a perceived higher risk to the issue.


The model holds two financial services related issues from B Riley (NASDAQ:RILY) and Cowen and Co. (NASDAQ:COWN).  Both companies have performed well during the last two years and we remain comfortable in holding these two baby bond issues.

There is one REIT baby bond in the portfolio and that was issued by Sotherly Hotels (NASDAQ:SOHO), which was a very nice baby bond with a coupon of 7.25%. Unfortunately, this bond has been called for redemption on May 19, 2019, which means we lose the high-yield baby bond and will have to reinvest the proceeds, most likely in an issue with a lower coupon.  This reinvestment risk is something all income investors have been dealing with for 10 years.  Back in the 2009-2012 period, one could invest in a reasonably safe, non-investment grade issue, with a coupon of 8% without any trouble. Now we are dealing with coupons from non-investment grade issuers in the 6% to 6.5% range, which makes a 7% return goal almost impossible to attain.

Lastly, this portfolio holds a “term trust” issue sold by Invesco. This is the Invesco High Income 2023 Term Trust (NYSE:IHIT). This issue, which likely will be liquidated in 2023, holds commercial mortgage-backed securities, of which most are investment-grade rated. This issue provides a very modest yield of roughly 5%. But given the high quality of the portfolio, it provides a haven for some excess portfolio funds. As a liquidating trust, IHIT over time, but prior to the fund’s liquidation in 2023, may reduce the income it offers as loans are repaid. Thus, dividends may decline, and we would expect to exit this holding in the next 12 months.

As always, this article is not a recommendation to purchase any of these securities, since this is a “model” portfolio meant to help educate newer income investors and these issues may or may not be suitable for your needs.

Disclosure — I own six of the 12 issues in this model portfolio. Those six are GAINM, GAINL, GLADN, ECCB, SOHOK and IHIT.

Tim McPartland

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Tim McPartland
Tim McPartland is a private investor with over 45 years of investing experience. His analysis, research and writing is devoted to the hunt for income producing securities of all types, but in particular specializing in preferred stocks, exchange traded debt and Master Limited Partnerships.
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