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Author: imdajunkman Three stars, 500 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 35351  
Subject: Re: Corporate Bond Rates Date: 6/21/2006 3:08 PM
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Bruce writes: "Some high grade corporate bond rates are getting interesting as you can now get more than 6% even on an AAA rated bond if you are willing to go out, say, 25 yrs."


Bruce,

I don't mean to disparage your efforts to call attention to some bonds that are a good place to begin one's searching. But those yields can be beat. Run your search again on "All Taxable" bonds, rated "AAA", yielding "6% or better". E*Trade returns a list of 2,147, some of which yield as much as 6.84% for an 18-year maturity.

2,147 bonds is too many to look at. So one way to cut the list to manageable size is to estimate the average inflation rate over various time frames and your average combined tax rate. Then use those two numbers to determine would return you require in order to receive a real rate of return.

For example, since the '70's, inflation has been averaging 4.75% per year by the data reported by the BLS. You can guess that inflation will decline going forward, but I wouldn't.

Next, estimate your combined Fed and State tax rate. (Pick a number, such as 30%).

Now do some simple arithmetic: 4.75% divided by your tax rate gives the yield needed to achieve a real rate of return, which is 6.79%. If you accept anything less than 6.79%, you have failed to achieve the prime imperative of any investor, which is capital preservation.

Yes, troll the offering lists, but keep in mind we are in a rising interest rate environment and there are likely to be much better opportunities coming along soon. Yes, do your window shopping now, but hang onto your cash until a really good opportunity comes your way.

Caveat: just because a bond is currently triple-AAA rated doesn't mean that it will continue to be triple-AAA rated or even that it is really a triple-AAA bond. There are two raatings you need to pay attention to: the rating assigned by the rating houses and the rating that is being assigned by the way the market is pricing the bond. (Price determines yield, right?) This is called "market implied rating". Of the two, I'd trust the market to have it right instead of the rating houses. Therefore, what looks to be a very safe bond with an anomalously high yield really is a bond that that carries a bit of risk and is properly priced (all other things being equal).

Don't just look at yield. Look at the total context. The meaning of the number is what matters, not the number itself.

Charlie

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