A new warning from the bond market...
A new warning from the bond market... 'Junk' is plunging again... 'Distress' is soaring... A rare extreme to keep an eye on... It's not too late to take action...
As Porter often says, our intention at Stansberry Research is to give you the information we'd want to know if our roles were reversed.
And so today, we return with yet another update to our ongoing warnings about the credit markets.
We know many of you are likely tired of hearing about these problems. But we've also heard from many subscribers over the years that it was only after reading and hearing the same advice several times that it finally "clicked" for them.
So if repeating these warnings can convince even one more subscriber to take action now to protect his wealth, we believe it's worthwhile. We hope you'll bear with us...
In an article last week just before the Thanksgiving holiday, Bloomberg reported that volatility in the high-yield (or "junk") bond market is "intensifying."
The article noted that the moves are beginning to remind some analysts of the last credit crisis... and suggest the credit-default cycle could be starting, just like Porter has predicted. From Bloomberg...
"It almost feels like 2008 a little bit," said [Wasserstein & Co. money manager Rajay] Bagaria. "When companies underperform, the amount their debt can trade off is much greater than ever before. And then there's the fear of illiquidity."
"These are all small dominoes in one corner of the market," [Oleg Melentyev, the head of U.S. credit strategy at Deutsche Bank] said. "In the early stage, all of this looks random when there is no underlying news to support the big moves. But eventually a narrative emerges – maybe we have turned the corner on the credit cycle."
And credit-ratings agency Standard & Poor's appears to agree...
In the firm's latest report, it noted that its proprietary "distress ratio" hit a new high last month.
The distress ratio is a measure of stress in the high-yield corporate-bond market. It's calculated by dividing the number of distressed securities by the total amount of high-yield debt outstanding. According to S&P, the ratio is highly predictive of future defaults.
The ratio increased to 20.1% in November, the highest level since September 2009, when it hit 23.5%.
In other words, distress in the bond market has already reached levels not seen since the heart of the last financial crisis... yet on the surface, all appears well. The economy is still officially "growing," and many markets are trading near all-time highs.
This is concerning... and a sign things could get much worse before they get better.
In a separate article late last week, the Wall Street Journal highlighted a new concern in the credit markets: the huge declines in closed-end funds ("CEFs").
If you're not familiar, CEFs are similar to mutual funds and exchange-traded funds ("ETFs") – they're all investment vehicles that hold a basket of stocks, bonds, and other assets.
But closed-end funds have one major difference: They have fixed share counts. Unlike mutual funds and ETFs, CEFs can't issue or retire shares based on investor demand. This means CEFs can trade at a premium or a discount to the value of the assets they hold.
The Journal noted that the average CEF is now trading at a 9% discount to the value of its holdings, and Wall Street traders have started "circling" for bargains.
But that's not what worries us...
Longtime readers will likely recognize this strategy as a favorite of our colleague Dr. David "Doc" Eifrig. Doc has long recommended buying high-quality CEFs at a discount... a strategy he calls one of the few legitimate "free-money opportunities" in the investment markets. (You can read more about this for free in our Education Center right here.)
Instead, we're concerned with the "big picture" in closed-end funds, and what it could be telling us about the credit markets...
First, it's important to know that the average CEF tends to trade at a discount. According to Bloomberg data, the historical average discount is just less than 4%.
But average discounts above 8% are relatively rare... and tend to be associated with financial crises or market panics. In fact, the last two times they were this high was following the Russian crisis in the late 1990s and the last credit crisis in 2009.
As we noted above – and last week regarding soaring corporate defaults– this is troubling...
Discounts in closed-end funds are already at "crisis" levels... yet by official measures, the economy and markets are "normal." More concerning, history shows average discounts of more than 8% tend to reach even higher levels before peaking.
What does this mean?
Again, it's yet another sign that something is "amiss" in the credit markets. It's one more reason to believe the coming crisis could be massive... even bigger than the last.
If there's one thing we hope everyone takes away from these warnings, it's this:
The problems in the credit markets are big and important... and they aren't going away. Just because they haven't "mattered" to the broad markets yet doesn't mean that they can't (or won't) matter soon.
History has shown time and again that problems like these can turn into full-blown crises practically overnight... and by then, it's too late to act.
Fortunately, if you still haven't taken our advice, it's not too late.
There's still time to protect your wealth, and even set yourself up to profit as other investors panic... but you must act now. To learn how – and to learn more about our brand-new distressed-debt newsletter – click here.
Finally, a quick note before we sign off today... In last Friday's Digest, Porter offered a high-quality solution to a non-investment problem. If you missed it, be sure to check it out here.
New 52-week highs (as of 12/1/15): American Financial (AFG), Aflac (AFL), Activision Blizzard (ATVI), iShares U.S. Insurance Fund (IAK), Microsoft (MSFT), Public Storage (PSA), and Alleghany (Y).
In the mailbag, a pair of questions about the bond market. Send your bond-related questions for Porter to answer in an upcoming Friday Digest to feedback@stansberryresearch.com.
"Would SJB (reverse ETF) be a good play for the HYG collapse?" – Paid-up subscriber Phil T.
Brill comment: We aren't allowed to offer individual investment advice. But as Porter explained in the October 2 Digest, "In a bear market, you don't have to get 'cute.'"
"Not a question, just a comment. I tried to purchase the most recent bond recommendation this morning through Fidelity, and was told that Fidelity has 'blocked' (their terminology) the sale of this particular bond, for some inherent, though not obvious risk. Therefore, Fidelity, in all their wisdom, has decided to protect its clients by not allowing this bond to be bought or sold through them. There is an appeal process available, on an individual basis, but it takes weeks. There were many of these available from Fidelity just a few days ago." – Paid-up subscriber Chuck W.
Porter comment: Ask if you can buy the stock. They will say yes. Then ask them to explain how a convertible bond could be riskier than the common stock.
Do you believe they are concerned for your welfare? Why do business with them if they're going to dictate to you that you're only allowed to take the suckers bet (i.e., the stock)?
Regards,
Justin Brill
Cambridge, Ohio
December 2, 2015
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