Editor's note: Regular Digest readers know that Stansberry Research founder Porter Stansberry believes we're in the early stages of a bond-market crisis, and that the next two or three years are going to be terrible for most investors. Folks who are not prepared could get wiped out.
But it doesn't have to be terrible for you. Porter says this crisis will create one of the best buying opportunities that we've seen in the last 50 years. Investors who are prepared could make life-changing money.
As Porter explains in this classic interview from the Stansberry Research Education Center, this one idea could literally change your investing life...
This Idea Will Change Your Investing Life
An interview with Porter Stansberry, founder, Stansberry Research
Stansberry Research: Porter, you've written a great deal about corporate bonds. In fact, you've gone so far as to say that learning the correct way to buy them will literally change an investor's life. What's so great about buying discounted corporate bonds?
Porter Stansberry: Well, it's probably better to begin by describing what's not so great about buying stocks.
Stocks are really only worth what you can sell them for in the market, or what they'll pay you in dividends over time. But there are two problems with this... Neither of those values is guaranteed.
First, there is no guarantee that, when you go to the market, other people will pay what you expect for your stock. In fact, there's no guarantee they'll pay anything for your stock.
Second, there is no guarantee that you're going to receive the dividends you expect. Dividend policy is totally the domain of the board of directors. Unfortunately, in public companies, most boards are terrible... Most simply don't care about shareholders. So, you're truly at the mercy of the board... or at the mercy of the marketplace.
Frankly, that doesn't sit well with me... which is why I only buy stocks when they're extremely cheap or have proven track records of paying dividends. Unfortunately, that means many times there's just nothing for me to buy.
Stansberry Research: So what are the advantages of buying bonds?
Porter: The advantages of buying bonds are precisely that you do get those guarantees... You're guaranteed to get some percentage of your invested capital back. You're guaranteed to receive a dividend.
In simple terms, a bond is nothing more than a loan... It's a loan that you make to a corporation in the form of a security. Say you buy a typical $1,000 bond. That means the company agrees to pay you back your $1,000 in full at a certain point in the future. It can be a short-term loan or a longer-term loan... It could be 30 days or seven years. There are all kinds of different terms and periods. But the most important thing is that at the end of the term, the company – by law – is required to pay par, which means the full price of the bond as it was underwritten.
Believe it or not, sometimes you can go out in the marketplace and find bonds that, by law, are obligated to repay investors $1,000, but that are trading for $800, $700, sometimes even $500 or $400. These are referred to as discounted corporate bonds.
By the way, some new investors are confused by the lingo here. In the bond market, they don't say these bonds are trading at $800... They say they're trading at $80. They don't say they're trading at $500... They say they're trading at $50. A simple way to think about this is to multiply the terms by 10 to get the real dollar amount... For example, $80 multiplied by 10 is $800.
The amazing thing about these discounted bonds is you have a legal claim on that corporation to be repaid in full... a legal claim. It's not a matter of what the market will decide to pay you. The company has to pay you back in full, or else it goes bankrupt and all the assets the company has are sold off and the value of that sale is distributed to all the bondholders.
Now, I'm not suggesting you want to buy bonds that are going to go bankrupt. That usually ends up being a painfully long process, and it might take you years to get your money back. That's not the idea.
The idea is to find bonds where the assets can clearly cover the bondholders so that bankruptcy does not have to occur. Instead, asset sales will happen and the company will pay back the bondholders without going bankrupt. You see this happen all the time.
So when you choose the right bonds, you're basically guaranteed to get a good return on your investment.
Stansberry Research: And the second advantage?
Porter: The second advantage of bonds is they pay a fixed coupon. Remember, I said the other problem with stocks is their dividends are decided by the board of directors. The truth is that most stocks don't pay any dividends at all, and oftentimes if they do, they're so small it's hardly worth it.
But you can know exactly what a bond will pay you because the interest payment – it's called a coupon for bonds, rather than a dividend as it is for stocks – is fixed. You know exactly when and exactly how much you're going to get paid... so you can know exactly what the yield will be from your investment.
Stansberry Research: Can you give us an example of how this works?
Porter: Sure... Let's say you buy a particular corporate bond at a discount. You pay $0.80 on the dollar, and the term of the bond is one year. You know that one year from now you're going to make a profit of $0.20 on the dollar, because you're buying it at $0.80, and you're going to get a full $1 when the company pays you, because the bond has to be paid back at par. If par is $1,000, then you're paying $800 for the bond.
So, right off the bat you know you're going to make $200, or 25%, on your money that year. That's a pretty good return, and it's guaranteed by the company... It's a legal obligation. But it gets even better.
The second way you're going to get paid is over the course of the year, you're going to get coupon payments. On a fully priced bond, a coupon might be 8%... So in this case, you're going to get a total of $80 from the bond that year. That's another $80 on your original $800 investment, or an additional 10% return on your original capital invested. In total, on this one deal, you're going to make 35% on your money.
What is the risk that you took on this deal? The risk in this case was the company could go bankrupt and would have to repay you over time. Instead of getting your money back in a year, it might take two or three years. That's not ideal... We don't want that. But it's a heck of a lot better than if you buy a stock and the company goes bankrupt and you get nothing back ever.
Again, the idea is not to buy bonds that will go bankrupt, but to buy bonds where the company has plenty of assets available to repay their bondholders without having to go bankrupt. That's the essence of buying corporate bonds at a discount.