Skip to main content
No. of Recommendations: 5
Just over a year ago, I posted the following message in this forum. (#31464)

Months ago, in a private message, someone asked me what I thought of Harrisburg’s bonds. At the time, the yield was high for their still investment-grade rating, around 7.6%, but not outrageously so. But what did concern me --if I’m remembering correctly-- was the inverted yield-curve on their bonds. That is almost always a sure sign of an impending, Chapter 11 filing. My advice was to pass or, at most, to take a very small position.

Defaults don’t much matter. But workouts do. If the defaulting issuer eventually pays all accrued interest and repays principal, then the default was merely a temporary disruption in one’s income streams. But that is a best-case scenario and an unusual one. In the fifty some defaults I’ve suffered, I’ve only been made completely whole once, with TWA’s bonds. The more frequent case is a new-debt for old-debt swap (or an equity for old-debt swap) in which a substantial loss is sustained that depends on one’s entry price and the terms of the workout.

But that loss has to be put into context. If buying marginal credits, on average and over the long haul, offers a premium in excess of average losses, then taking a position is warranted. OTOH, if the buying isn’t not in a consistent and disciplined manner, then losses can easily overwhelm gains, and the fat coupon and possible cap gains should not have been pursued in the first place.

Will Harrisburg’s default be a rare instance, as past history suggests, or is it a sign of what is to come for muni investors --and bond investors generally-- as the economy rolls over again? My bet is that the Harrisburg situation is just the beginning of the defaults that Bernanke's shenanigans won't be able to avert. The USA, privately and publicly, is bankrupt in the sense that obligations exceed revenues, and there is zero political-will be fix the problem by stopping the spending or raising taxes.


So the event signaled by the inverted yield-curve did happen. It took a while to unfold, but it did happen in the end. Inverted yield-curves are as close as it comes in the bond world to a technical indicator that should never be ignored.

Charlie
Print the post  

Announcements

What was Your Dumbest Investment?
Share it with us -- and learn from others' stories of flubs.
When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.