‘Wealthyretirement.com slaps the term “Ratepig” on investors who only look at yield when evaluating a potential investment. One of my family members does this and has been burned multiple times when the underlying investment offering the yield got into trouble. Basically a Ratepig’s most important criteria is how much they will get in dividends or interest no matter how economically healthy the entity offering the investment is. A Ratepig might be attracted to the junk bonds of poorly rated companies, municipalities or even third world countries. The high yield of certain investments may reflect the underlying financial strength or lack thereof of the borrower. The high interest may be offered due to its poor credit rating or ability to pay back the debt. For the most extreme example, think a deadbeat brother in law or shady investment deal that entices investors by ultra-high returns. The old adage “if its too good to be true it usually is” comes to mind.
In the case of my family member, they received high interest payments (which they loved) until they didn’t. Payments may have stopped or been reduced or the underlying stock or bond price may have plummeted, resulting in loss despite the high payments.
Borrowers pay high rates not because they want to, but because they have to, and that usually spells risk.
High returns do attract investors but what good is a 10% annual yield if the stock drops 20% in value? Or cuts the payment shortly after you sign on, or worse, defaults altogether.
Cash strapped Argentina has recently offered up a Ratepig’s appetizer in a new flavor, a bond whose term hits the century mark. What that means in laymen terms is the bond has a maturity date 100 years from now.
On the surface it is easily understood by most of you that anyone who buys this bond has to live a long time to get paid back, like a REAL long time, like 100 years from when you buy it, but what the heck, whose counting.
The bond’s 8 % yield is not too shabby for the near zero rate environment we find ourselves in today but waiting 100 years? If that’s not enough to make you turn a blind eye to such an investment, consider this: The longer term the bond, the more sensitive its price is to interest rate moves. This means if interest rates move in one direction or another, the longer a bonds term, the more violent the move up or down in the price of the bond.
If you hold a bond to its maturity, the daily price won’t affect what you get paid in interest and when getting all your money back when it comes due, but should you have to sell early (because you can’t wait the 100 years) the chances are you might get your head handed to you when you try and sell the thing.
Seeing Ratepigs salivate at a 100 year sovereign bond paying 8% might make a good story over a strong martini by Wall Street stock brokers is one thing, but the fact that these bonds are real and up for sale is quite another. In fact Wall Street big boy Citigroup Inc along with HSBC took the deal as lead book runners while Nomura Securities and Banco Santander opted to be co-managers.
Now wait just a minute you say, who would buy such a bond? Apparently enough investors (if that’s the right word) saw it as a good enough deal to pony up 2.75 billion for these things. (CNBC) Apparently a lot of people expect to live a long time (pun intended).
Of course the reality of the situation is its likely none of the buyers intend to keep these bonds until maturity in the year 2117 and plan to off them to someone else at some point but seeing as worldwide interest rates are near historic lows and some say could only rise from here, if rates do rise, the bonds with the longest terms get hit the hardest because of the math involved.
No doubt some Ratepigs were among those that wrote checks to Argentina for the “privilege” of loaning them money, but seeing as this country has defaulted about 12 times since 1816 (Valuewalk.com) you have to wonder who else bought these things.
Of course it may all work out in the end, Argentina will gets its act together and do something it has been unable to do for about 300 years, which is to stay solvent for any reasonable length of time. And those folks that ambled up to the trough for the “juicy” yield of these century bonds will get all their money back. But it likely you and I will never know as we will be food for another kind of animal when these things come due
Certainly at least some investors believe the country is good for the money when it comes due in 2117 and all the interest payments in between and they may well be. But then again, a lot can happen in a 100 years, especially in a country like Argentina. Keep in mind this is not a recommendation for or against any security or the debt instrument mentioned or in any way be construed as an investment recommendation to buy or sell any security or investment.
This article expresses the opinions of Marc Cuniberti and are opinions only and should not be construed or acted upon as individual investment advice. Mr. Cuniberti is an Investment Advisor Representative through Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Marc can be contacted at MKB Financial Services 164 Maple St #1, Auburn, CA 95603 (530) 823-2792. MKB Financial Services and Cambridge are not affiliated. His website is www.moneymanagementradio.com. California Insurance License # OL34249