If we see another liquidity crisis, corporate bonds could see a huge rally. And even if we don't, they could still produce a decent return, says Bengt Saelensminde.
Today I want to take on those four dangerous words and show you why, when it comes to corporate bonds, I think it is indeed different this time.
Why 2008 was very different for bonds
No investment cycle is ever the same if they were, this game would be easy!
And financial markets never make it easy. Interesting yes, but never easy...
Regular Right Side readers know that I've been keen on corporate bonds for a while now. It's been obvious that interest rates are staying nailed to the floor for ages. And to my mind, a nice regular income from a range of UK businesses looks like a good idea.
"...between 2007 and 2009, the price of the RSA note did not price off its yield... the price decline from peak to trough was about 33%, pretty much the same as the decline in RSA's share price."
And that's a fair point. Even though the bond never stopped paying its promised yield, it's true that the price of the bond took a pounding. As the reader says this bond followed pretty much the same path as the stock itself.
You can see what a hit it took in 2008/09 on this chart of the bond:
RSA Insurance Group 8.5% Perpetual Subordinated bond
Source: Bloomberg
But,as far as I'm concerned, it's different this time...
The Bank of England now has the wheels well oiled
2008 saw a bank-induced liquidity crisis the likes of which a generation of City bods had never seen. I think it's fair to say that most players didn't have a clue what was going on.
Just about every investment got marked down: bonds, shares, commodities... everything! The proverbial baby got thrown out with the bath water.
All except government bonds that is. Back then government debt was the obvious answer for managers that didn't know what else to do. The City clamoured for the safety of government bonds.
Here's the thing: if we suffer another bank-led liquidity crisis (probably kicking off in Europe), then you've got to expect the central banks to waste absolutely no time getting stuck in with a bit more QE.
But this time round, I suspect the Bank will go even further. I don't think it'll be happy just to buy government debt. There's already talk of qualitative easing'. That is they'll be looking to buy assets of lower quality too and the first port of call is likely to be corporate bonds.
If you missed out on the great gilt rally, then there's a chance you could still line yourself up for the great corporate bond rally.
Markets never make it easy for you. They don't simply repeat themselves. Remember, "it's always different this time". As investors, our job is to make an assessment of what's likely to happen this time, not last time.
And what if our liquidity crisis never comes? Well, at least with these bonds you're locking yourself in a nice little return. Who needs gilts paying around 2%? And just look at the person you're lending your money to.
Keep reading The Right Side. I'm on the hunt for new and interesting bonds I think will help you profit from what could be the next major asset rally.
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Bengt graduated from Reading University in 1994 and followed up with a master's degree in business economics.
He started stock market investing at the age of 13, and this eventually led to a job in the City of London in 1995. He started on a bond desk at Cantor Fitzgerald and ended up running a desk at stockbroker's Cazenove.
Bengt left the City in 2000 to start up his own import and beauty products business which he still runs today.
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