Tuesday, November 11, 2008 2 comments ++[ CLICK TO COMMENT ]++

Are junk bonds better than stocks right now?

Going with the strategy suggested by Marc Faber yesterday, is it worth investing in junk bonds rather than stocks? It's certainly an interesting strategy. Others such as David Merkel also takes a look but from a switching model point of view. The following is a chart of some popular bond ETFs:



Note that interest and dividends are not included so this chart is kind of misleading. However, for our purposes, it's good enough.

The junk bonds certainly look attractive. I recall someone saying that the stock market is pricing in a recession while the bond market is pricing in a depression. That might be an exaggeration but junk bonds do look attractive. Even if you think corporations are going to have difficulties, then, as Marc Faber said yesterday, the stock is worth zero (upon default) so bonds are still better.

One needs to do further homework. The chart above is too short (risk was underpriced in the last 5 years) and one needs to look at how junk bonds performed in the early 70's, early 80's, or early 90's--all recessionary periods.

Also, one needs to pick the right bonds, which is not easy. But I would also argue that picking the right stocks is also quite difficult. I mean, anyone who picked best-of-breed like Goldman Sachs (GS) early this year is sitting on almost 70% losses with a big chunk of likely permanent impariments due to a, what I claim, permanent change in the business environment. Or how about those who picked (arguably the top insurer in the world before we knew how bad it was, of course) some company like AIG? I had been of the opinion (not widely mentioned on this blog) that insurers were far better off than banks or anyone engaged in credit. I would have easily recommended AIG over, say, Citigroup. Yet I was completely wrong.

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2 Response to Are junk bonds better than stocks right now?

November 12, 2008 at 2:52 PM

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Keep up the great work. Also really enjoyed the James Grant video

November 12, 2008 at 3:09 PM

Thanks...

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