Par Bonds

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Aug 14, 2005 8:41 pm

I have been using these for smaller clients to help diversify them. Any ideas on these and closed end bond funds??

Aug 15, 2005 10:33 am

I like them also.  Par bonds tend to pay a slightly higher coupon.  The client needs to be educated as to the holding period and call provisions of these.  That and the effect of rising interest rates on a fixed rate instrument.


ETF bond funds are also quite good, but be careful when looking at the volume of trading. If you are buying a large amount in some of the smaller funds, you can actually "move the market" yourself.  Liquidity and trading volume can be an issue in both of these products.

Aug 15, 2005 1:12 pm

"Par bonds"? You mean bonds priced at par?

Aug 15, 2005 2:30 pm

I assumed he was asking about Par Bonds aka Baby Bonds.  A bond with a par value of less than the standard $1000.  Generally issued at par value of $25.00. They pay an attractive interest rate.   They also trade on an exhange basis unlike a traditional bond that is traded through the bond desk.  General Electric is one issuer of these.

Aug 15, 2005 10:23 pm

Babbling- Thats exactly what I was talking about. The difference is no markup, get my drift....

Aug 15, 2005 11:56 pm
noggin:

Babbling- Thats exactly what I was talking about. The difference is no markup, get my drift....


Don't those puppies have REALLY long maturities?


And yep the markups can sometimes suck.....but somtimes that's also what gets ya paid!

Aug 16, 2005 11:22 am

Yes, some of the maturities are way out there, but they generally have call dates within a few years of issuance. Of course this, this doesn't mean that they will be called (another issue to stress with your clients).  However, since many of them have rather higher coupons, the likelyhood of being called is higher than a comprable AAA bond. 


The markups on traditional bonds are very low. When you buy and sell a baby bond you get a commission as if it were a stock.  I wouldn't put all or even very much of my income client's assets in these, but they are a good way to get a bit higher yield on an income portfolio

Aug 22, 2005 8:07 pm

If your trying to make money with bonds, you might as well forget bond
funds.  Individual bonds are the way to go if you plan to make
some cash. 

Aug 23, 2005 10:47 am

Most of my clients are not interested in increasing cash with their bond positions. They are more about the income stream and eventual return of principle. As a matter of fact, I stress, heavily, to them that the bond is not meant to be a growth vehicle and is actually more likely to reduce in market value in the future due to the rising interest rate trends. There is the same risk in bond funds, but it is more dilute. If they think they are going to want the prinicple before maturity, then they shouldn't buy an indivudual bond.   In addition, to build a good diversified bond portfolio, the client should have at the very least 150K to invest into bonds. 


There are those clients who are more savy and we can use indivudual bonds and structured notes to increase cash postions.  But those are my more agressive and sophisticated investors.

Aug 23, 2005 12:34 pm

FreddieMacs have some pretty nice paying $50 par bonds

Aug 25, 2005 10:56 pm

exejir- What symbols are you looking at?

Aug 26, 2005 9:38 am

noggin


FRE L-series (FRE.L)  It's a $50 par bond trading in the $35-38 range, with a 5.97% coupon.


Aug 27, 2005 12:14 am

I know most of the reps on here seem to be investment advisors, I was
wondering how you guys feel about individual bonds.  These are the
only products that I deal with and speak with advisors on a daily basis
with mixed results.

Aug 27, 2005 12:20 am
exEJIR:

noggin


FRE L-series (FRE.L)  It's a $50 par bond trading in the $35-38 range, with a 5.97% coupon.




Ok...help me out here...the coupon is 5.97% on the par value, and it's trading at a 30% discount to face value.  So...you're looking at a current yield of 7.85% or so?



What is the catch?  Isn't FRE still investment grade?

Aug 27, 2005 11:40 am

Without knowing the actual issue Noggin is referring to, it may be something like this one  http://www.freddiemac.com/investors/pdffiles/0799cir.pdf


My guess is that it is a preferred stock with a call date in a few years but with a very long maturity or no maturity at all.  If that is the case the stock/parbond would be trading at less than par because there is no certainty that the issue will ever be called. Also in a rising interest rate environment the 5.97% doesn't look too great in the long scheme of things.    The catch is that the client may be holding a sub par, sub coupon investment for years and years.


If the client is aware of the principle volatility and the fact that the issue may not be called and that the bond/stock may continue to be under par and still wants to go with it because of the income stream and plans to hold the issue indefinitely, then I would sell it.  If the issue is called then the client made a good move and earns a nice gain from the current discounted price.

Aug 28, 2005 2:14 pm

I was starting to wonder if anyone would get around to calling these things what they are...preferred stock with a long maturity.  If there is a difference, could someone explain it to me?  Or did someone just realize that the term "par bond" sounded less risky than "preferred stock"?


Incidentally, given the long maturity, or even lack of maturity date for these issues, I think they are a bad idea in low interest rate environments.  When interest rates go up (as they already are), the likelihood of these bonds ever being called gets smaller and smaller.  Likewise, the actual coupon starts looking smaller, and smaller.   Several of our local Edward Jones reps like to sell long bonds and preferred stocks by emphasizing the call date and practically ignoring the actual maturity dates.  Up until about a year ago, their rate ads didn't even list a maturity date.  I don't know if this is a widespread practice, but it happens all the time with my local Jones competitors.

Aug 28, 2005 2:46 pm
Indyone:

I was starting to wonder if anyone would get around to calling these things what they are...preferred stock with a long maturity.  If there is a difference, could someone explain it to me?  Or did someone just realize that the term "par bond" sounded less risky than "preferred stock"?


Incidentally, given the long maturity, or even lack of maturity date for these issues, I think they are a bad idea in low interest rate environments.  When interest rates go up (as they already are), the likelihood of these bonds ever being called gets smaller and smaller.  Likewise, the actual coupon starts looking smaller, and smaller.   Several of our local Edward Jones reps like to sell long bonds and preferred stocks by emphasizing the call date and practically ignoring the actual maturity dates.  Up until about a year ago, their rate ads didn't even list a maturity date.  I don't know if this is a widespread practice, but it happens all the time with my local Jones competitors.



They aren't true wait 'preferred stocks', but rather 'mini-bonds' with very long maturities but priced to look like preferred stocks.  Instead of equity/permanent capital, they are debt.


To the issuer, this means that the interest paid is tax deductible, unlike dividends paid on (preferred) stock.  This would be why these 'synthetic preferred's" were created about a decade or so ago.  Originally they were often known as QUIDS, QUIPS, and a host of other silly acronyms.


The negative-as it often is on Wall Street-would be to the buyer.  True preferreds offered a tax advantage to the buyer.  For a C-Corp, 70% of the dividends received were tax deductible.  Under the recent tax reform, individual holders of true preferred are taxed on their dividends at the preferred 15% rate, as opposed to debt(i.e. such as these par bonds) whose interest is taxed at the investor's regular income tax rate which is often higher.

Aug 29, 2005 1:08 pm

Incidentally, given the long maturity, or even lack of maturity date for these issues, I think they are a bad idea in low interest rate environments.  When interest rates go up (as they already are), the likelihood of these bonds ever being called gets smaller and smaller.  Likewise, the actual coupon starts looking smaller, and smaller.  


I agree.  I am having a hard time with my existing bond/income clients whose issues have been called.  They want to buy another bond since the last one was satisfactory for them.  Trying to explain the price/coupon inverse curve when rates rise is a challlenge.   Also explaining about the call date and likelyhood of being called or not is so important.  If they don't understand, or can't take the risk, I am trying to steer them towards a bond fund.  At least the fund can add new bonds as rates go up and hedge in some cases to keep the client's yield at an acceptable level.  Reits have been a good income vehicle for some time, but I'm afraid that run is just about played out too.


Several of our local Edward Jones reps like to sell long bonds and preferred stocks by emphasizing the call date and practically ignoring the actual maturity dates.  Up until about a year ago, their rate ads didn't even list a maturity date.  I don't know if this is a widespread practice, but it happens all the time with my local Jones competitors.


Inexperienced Jones (and other brokerage Reps) are creating a recipe for disaster if they don't fully explain these things.  Most of them don't understand it themselves and are selling the rate, because it is easy to do.  In a few years they are going to have some very ticked off clients.  BTW: I don't think that we were allowed to run an ad that only showed the call date when I was at Jones.  That doesn't sound right to me.


True preferreds offered a tax advantage to the buyer.  For a C-Corp, 70% of the dividends received were tax deductible.  Under the recent tax reform, individual holders of true preferred are taxed on their dividends at the preferred 15% rate, as opposed to debt(i.e. such as these par bonds) whose interest is taxed at the investor's regular income tax rate which is often higher


I'll bet dollars to donuts that the EDJ and other new brokers either don't know this or are neglecting to tell their clients, again because the sale is easier if you don't bring up messy details.  Most uneducated buyers hear the words preferred stock and stock is all they hear.  "Oh no....I don't want to be in the stock market!"

Aug 29, 2005 6:54 pm
babbling looney:

BTW: I don't think that we were allowed to run an ad that only showed the call date when I was at Jones.  That doesn't sound right to me.



I'm telling you, it happened all the time in my market.  They didn't list either the call or maturity date, just the coupon and issuer.  I looked at all the fine print and found nada.  It could be due to the fact that I have a veteran EDJ producer in my market and EDJ looks the other way on a lot of stuff due to his level of production?

Aug 29, 2005 7:32 pm

I believe you.  The RL may be looking the other way as long as the $$$ keeps coming in.  The reality is that unless someone reports the ads, nothing is going to be done.


One of the Indy reps that I know in my area is dealing right now with a marketing campaign by a newly licensed series 7 ,a CPA. The marketing is going to all of the CPA's clients who happen to mostly be the Indy reps clients. These are so far out of compliance it isn't funny. Guaranteeing results, misleading rates and so on.  They are saying to her, "How come, Mr. CPA can give me this stuff and you won't.  I'm moving my account." I would imagine that the new rep hasn't ran any of his marketing campain through the proper channels.  But again, if the home office doesn't see it....who knows?   Just because it isn't allowed and most of us play by the rules, doesn't mean that people aren't getting away with it.