Transcript
Paul Winkler: And welcome to The Investor Coaching Show. Paul Winkler with Ira Work, talking about the world of money and investing. A lot to talk about. So, You know, I brought up last hour head of research at Paul Winkler, Inc. for the Investor Coaching Show.
So he sent me an article because you know, it helps me see what you guys are seeing out there. I read a lot of different publications, but I can’t read everything. I give it my best shot. So I read I’m sure you’re going to have some experience with this particular topic.
Are Convertible Bonds That Powerful?
So the article that he sent was Your portfolio is not as diversified as you think, unless you are utilizing this powerful strategy.
This is a MarketWatch and it was with historically low interest rates. Investors are cramming money into stocks, especially in large cap technology companies, including Microsoft and Facebook. You know, like I say so often bad ideas are done great, you know, in recent years, but a really bad idea because they’re chasing those returns.
Well, the funny thing is, you know, they’re talking about, you know, it’s all the technology right now, which was what was 1998, 1999, and 2000 technology lost 75%, you know, and that’s where a lot of the money is going. I’ve been involved in this conference via Zoom the last couple of days. And the leader did a thing where he said, pick a fund, pick a stock, and then he liked to ask people randomly what they picked and why they picked out companies.
And then he showed companies that actually outperformed them for the last one, three, five, and 10 years. And why didn’t you pick those? Why didn’t you pick those and how far, you know, how futile it is to try to pick individual stocks or even mutual funds. They didn’t, you didn’t pick those stocks. Those stocks pick you, right? Because you heard about them and you hear about them all the time and it’s a popularity contest and you use their products. And therefore what happens is they get so many. It’s like, it’s like, why don’t people pay so much money to advertise in the super bowl?
130 million people are going to be watching it. And you know, the reality of it is if you see a name, you see a company name, you see a product name, it sticks with you. It works. And that’s why people are investing in these companies because you know, the reality of it is they’ve seen the company’s names. They use their products and they think, Oh, I used the products that ought to be good to invest in when there are so many companies that did better. Yeah. I actually gave that statistic that two years ago, I had the super bowl party. And I said, you realize it’s four and a half million dollars because 130 million people.
So one of my friends pulled out the phone and said, I heard it’s only 4 cents. I’m like personally, I already have rubber mats. So that 4 cents was lost on me. So, so yeah. So historically low interest rates, investors jumping in all these tech stocks, because what they’re doing is they’re looking at interest rates out there and they’re gone. I can’t get anything on CD. I can’t get anything on a money market. Oh man, I got to find something to give me more yield. And that’s really what people are looking for is more yield and somehow doing it and hoping that they can get a little bit more safety because maybe they look at stocks and they go, you know what?
Chasing Returns Can Be a Dangerous Game
I don’t know if getting yield is the best idea in the world. Maybe I ought to do something a little bit different. And hence this powerful strategy is what they’re looking to. The largest exchange traded fund based on the index is S&P 500. And what does that tell you? Right there? The largest exchange traded fund is based on the S&P 500 people are chasing returns. They’re doing it again. They did the same thing in the late nineties and that area of the market dropped 40%. I don’t get complacent with the largest.
The largest mutual fund is the Vanguard S&P 500 fund, right? Yeah, exactly. So it’s, and that’s not even an ETF. So the largest ETF is this and the largest mutual fund is the same area of the market. It just defies logic. You might look to diversify by shifting some of your portfolio, they said, into foreign and emerging market ETFs. Yeah. You should buy, you should diversify, but it is a little bit market timing. You know, you’re going, Hey, let me go and do this now.
Well, you know that you should have been there the whole time, but cause you don’t know when those things are gonna pop and jump up, but you also don’t know they’re going to come crumbling down yet. Or you just don’t really know. So, you may also be highly weighted in a small group of companies. I mean, it’s funny that they say you may want to do this. And my question as I’m reading this article going, well, what about other asset classes? This is classic sales. If I’m trying to sell you on a powerful strategy, which I’ll get to in a second, what do I do is I try to make every other thing that you might do as an alternative look stupid, or look like a bad idea, but then what they do is they don’t talk about other things that might actually make sense as an alternative, because then you might not do their powerful strategy.
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Portfolios Are Guaranteed to Fluctuate
So, you know, they basically just give you a bunch of limited alternatives that aren’t quite as palatable. So you might look to diversify and in these indifferent things, you can diversify your portfolio, cut your risk by holding shares in a convertible securities fund or ETF is what they’re recommending convertible securities. You ever do anything with convertibles years ago, years ago, long time ago. So some side benefits when I went to the dark side.
Your portfolio may fluctuate. Yeah, exactly. So back to this article, it says, you know, this powerful strategy and they’re using convertibles and they’re showing a short period of time, a short period of in history in the chart. And they’re showing, well, you know, over this period of time, you know, if you had put your money in convertible securities versus if you were invested in the S&P 500, and they’re showing that the convertible securities did slightly better than the S&P 500 over the period of time now, number one, they chose a period of time starting right at, just literally just before the S&P 500 had a 12 year period where it had no return. Hey, first thing that they do. Second thing they do, they compare it to bonds.
And if you look at the difference between the bonds, the convertibles versus the bonds, yes, it definitely did better. No question about it. It was about a 30% difference in level of accumulation over that period of time. But if you look at the chart and I know you guys can’t look at the chart out there in radioland, but I’m just going to tell you what you’ll see. If you, if you looked at the chart, you would see that the bonds had worked the heck less volatility, way less volatility.
And yes, it was 30% below, but it was way less volatility. And the other thing that you would notice about the convertible bonds is that they moved up and down in tandem with the S&P 500. Here’s the thing about bonds in general, not convertible bonds. We’ll talk a little bit more about what they are and how they work, but here’s the issue is these bonds went up and down with the market and bonds are there for security in your portfolio or stability so that when not if stock markets go down, they should be going the other direction or hopefully go the other direction to provide some kind of protection against that volatility.
So if I’m taking income, I can draw the income from the bonds because they held value while the stock market went down. You know, so this is real, it’s a super, super important concept because too often, what we do as investors is we try to shoot for yield. I want to get higher returns because, Hey, what do we invest for? We invest for higher returns. But when I go and do that with my bond portfolio, I end up having the opposite happen because they go down with stocks and then I have no place to run during market downturns.
Convertible Bonds Have Pros and Cons
And you know, so it’s a convertible bond. They have pros and cons. And if you, if you look at some of the pros and cons with these things, they’re good means of financing for corporations. But one thing that you got to realize about convertibles is many times companies will actually issue these things, because it is a cheaper way of financing when the company is a higher risk company. So they can offer a bond at a lower coupon rate because you have the ability to convert it to stock.
So this is what these things are. So, you know, convertible bonds are where they borrow money, they pay you interest, and then you have the ability to convert it to stock in the future. Now companies like these things, they like to do this at first because they don’t have to give away earnings. You know, when you have a bond you’re borrowing money and you have to make interest payments back on those things. And the issue for the company is they could end up having a situation where it puts them at higher risk for bankruptcy.
And the reason that it puts them at higher risk for bankruptcy is they’ve got to make payments back. And if they don’t have the means to make the payments back or the interest payments back, it could put them in financial trouble. But if they don’t get into financial trouble, they have to give away the earnings of the company. And they’re hoping that they can raise the money to operate and not give away the earnings. So there are definite benefits for the company, but the issue is, is that, well, gee, if we borrow money because of our risk as a company, we could pay really high interest rates.
Is there any way we can borrow this money? And let’s see, borrow it a little bit cheaper, not to pay as high as interest to lessen maybe the possibility that we go into bankrupt, ah, convertible bonds. So realize that this stuff can be really good for companies, but not necessarily great for you, the investor.
Ira Work: Well, I’m just looking at the chart and thinking to myself that anytime you see a short term chart, what the company that’s trying to sell, whatever it is is doing is called data mining.
They’re going back to a period of time that looks bad for what you may have in order to sell you what they want you to buy.
Paul Winkler: So true. Yeah. And you see that all the time. I see that with annuity sales. Well,
So yeah, convertible bonds. No, I wouldn’t use those in investment portfolios. It’s a neat idea. And it sounds great. It’s really good for companies, but let your friends do it. Don’t you do it. That’s why I say Wall Street is the greatest marketing machine there is. Oh yeah. Cause we’ll figure it out. What they can sell you and make a lot of money in the process and yeah.
Yeah. They’re really good at it. And they’re really good at playing on your emotions. You know, agreed is one of them right here. You know, I want to make lots of money and it’s easy to get you pulled in on that one.
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