No. of Recommendations: 4
As you know, because you’ve read the book and it’s on your shelves, Ben Graham distinguishes between ‘Defensive’, ‘Enterprising’, and ‘Speculative’. Those terms can be applied to investors, or to securities. It’s just doesn’t matter. He defines each term in his classic intro to value-investing. (1) But he doesn’t quantify them. So I got to wondering if such a thing could be done and how it might be applied to the situation where we bond-investors currently find ourselves, namely, trying to find in the current offering-lists something that might be worth buying.

What prompts that remark is that I just spent a couple hours going through the current bond-offering list, all the while trying to take a ‘beginner’s mind’ approach. (2) In other words, I tried to assume that I owned no bonds already, but that I wanted to put money to work in the asset-class if I could. Among the several hundred bonds I looked at, I did find things that could be bought. But I kept having to say to myself, A ‘defensive investor’ really wouldn’t be --and shouldn’t be-- looking at that bond. It just doesn’t meet Ben’s standards of what is a ‘defensive investment’. So, let’s begin there and then work backwards.

You can look up what he says, or if you’ve read the book, you can recall what he says. In either case, you probably won’t disagree with this paraphrase. A ‘defensive investment’ is one on which you can turn a modest profit with little effort and little worry. ‘Defensive investments' are the ‘low-hanging fruit’ of the investment world. Their profits won’t be fat. But they’ll be decent enough and entirely proportional to effort and risk.

Now, ask yourself this question. What threatens profits from bonds? The usual response from them that think they understand bond-investing is “rising interest-rates”. Well, “No”. That concern should be pretty far down one’s lists of worries, because that threat can always be sidestepped by holding to maturity. What else comes to mind as a threat to bond profits? The risk of ‘default’ looms large among the worries of many bond-investors. But I’d again say that shouldn’t be much of a worry. If you’re a ‘defensive bond investor’, and if you’re worried about the default-risks of a position you’re considering, then you’re a total idiot who doesn’t understand your own methods and discipline. If ‘default’ is a worry --as the evidence from your due-diligence might clearly suggest-- then you can’t buy the bond, no matter how much you might be tempted by its yield. Those kinds of situations are for them that call themselves ‘Enterprising’ or ‘Speculative’. They can buy that bond, but you can’t. That bond is outside the bounds of the game you have set for yourself. You can change games. But you can’t straddle each, and Ben is very, very, very clear about that point. “Do one or the other”, he says. “You’re just going to screw it up if you try to mingle the various investing modes, and you’ll end up with the worst of each.”

Now, ask yourself this question. You’ve decided to commit yourself to ‘defensive bond-investing’. How far out on the yield-curve can you go, and how far down on the credit-spectrum can you go, before you’re strayed beyond the boundaries of your discipline?

If you use a Morningstar ‘style-box’ to describe the bond market (3), then it’s easy to see that your efforts are going to be focused in the upper-most and left-most sectors. In today’s market, how much after-tax, after-inflation yield do those bonds provide? I’ll leave it you to discover the answer. But I think that ‘defensive investors’ should be looking elsewhere than the current bond-market, and that even ‘enterprising ones’ need to proceed very, very cautiously. For the most part, what might fall into the ‘enterprising’ category is going to require superb due-diligence and/or very conservative-position-sizing. OTOH, there’s still a few interesting speculative plays. But if that’s your game, you’ve probably already taken on as much of a position as your money-management rules suggested was prudent, and at better prices than the current ones.

In short, the current bond-market isn’t a viable value game, and Ben would be saying that you should be sitting on your hands. (IMHO, ‘natch)


(3) Morningstar uses the two factors of maturity and credit-quality to create a nine-box scheme. Four-box schemes or twenty five-box schemes could also be created. The granularity doesn’t much matter.
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When Life Gives You Lemons
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