Tuesday, December 9, 2008

Playing the Spread: Income Investing in a Treacherous Market

Nowadays I am enamored with income investing. It may be a case of the the Stockholm syndrome due to my FRE preferred positions. But who says market investing is not a case of constant flogging anyway, up or down.

Soooooo here is what we have learned over the year...

BSC preferreds were a great bet...
WM preferreds got wiped out...
C preferreds are hanging on and continue to pay...
WB preferreds, after much stomach flipping turmoil, were also a good bet...

My rational attraction to preferreds and income trusts stems from the low yields available in the market. It appears to me that there are some very stable companies being treated like they have serious default risk. Thus the spread between risk free income and corporate investment grade yields is very wide. Moreover, in the case that the economy is deflating at 3% this year, then the DUK debt will a real 12% yield. Not to mention the comparison between the income and general market performance.

10 year Treasury - 2.5%
Duke BBB Junior Debt (JBI) - 8.5%
BMY Debt Notes (XFR) - 8%
BAC Preferred Floating (BAC-PE) - 11%

Transparency: The author has established a position in JBI (Duke Energy Debt Trust) at 21 (8.5% real yield) and a position in BAC-PE at $8.1 (10% real yield).

5 comments:

Jackpot said...
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Lockstep said...

Transparency: On Dec 24th I closed the BAC-PE position at 8.71/share.

The reason for closing the BAC-PE position is the poor leadership decisions of Ken Lewis, CEO of B of A. The recent acquisitions of Countrywide, a defunct mortgage originator, and Merrill Lynch, an asset manager with an unknown quantity of toxic assets on their balance sheet, are questionable at best. Due to the unquantifiable risk and need for capital to sustain this new financial conglomerate, I see preferred shares as at risk for being seriously being diluted. Thus I am closing my position with a small gain and moving on.

Lockstep said...

Apparently Barron's has picked up on my strategy... after I have moved on...

http://online.barrons.com/article/SB123034013125536693.html?mod=yahoobarrons&ru=yahoo

Lockstep said...

Since this post the market for preferred securities has really heated up.

JBI sold for $24 yesterday (7.1% real yield)

XFR less for $21.89 (7.1% real yield)

Also I discovered that in the Duke spinoff of Spectra Energy, Duke Capital, the subsidiary that manages the JBI security, was allocated to Spectra Energy rather than Duke Energy. Thus this security is dependent on the natural gas industry rather than the regulated utility industry.

Lockstep said...

All of these picks were excellent, in retrospect.