Bonds are the place to be

Buy them and wait for their maturity

BY STEVE PROCEVIAT

Globe Investor Magazine Online, May 25, 2009


The investor: Kevin O’Leary, managing partner, Boston-based NorthCoast Capital LLC; co-founder, former president, SoftKey Software Products; member, investment committee, Boston’s Hamilton Trust; director, Environmental Management Solutions and Storage Now; co-host, BNN; Dragon’s Den cast member.

His best investment: I’ve come to the conclusion we’re in a different world now, so my best investment is actually bonds. I’ve been investing for a long, long time, and traditionally, I’ve always kept myself in a ratio of 60-per-cent equities, 40-per-cent debt. That’s been my basic structure for over 15 years. I’ve recently changed that because of the way the world’s changed. Right now, I’m 70-per-cent debt – and I don’t mean Treasuries, I mean global investment-grade debt – 20-per-cent equities and 10-per-cent cash.

I think bonds are going to treat investors better over the next three to five years than equities are, because we’re going through this de-leveraging around the world, and corporate spreads – the cost of debt – has gone way up over Treasuries. A historic high. I look at the world today, and I say to myself, ‘The debt markets are so much larger than the equity markets, and we’re going through this massive transformation of de-leveraging worldwide, and those that own debt are going to be treated a lot better than those that own equity.’

The return: My philosophy is yield. It started with high-yielding equities. My portfolio is like a chicken on a spit. It drips cash. Everything I own pays. Absolutely everything. If it doesn’t pay, it doesn’t stay.

I don’t own anything that doesn’t have a yield. If the company can’t afford to pay me, I don’t own it.

But over the last year, I’ve slowly been moving more and more up the balance sheet. I want to be senior debt. I want the manager of that company to worry about me first. And they will worry about me first, because if they don’t pay me first, they go bankrupt. So I am senior lender in most of my positions.

That’s my new view of the world: Senior lender, worry about me all day and night. If you don’t pay me, I’ll own your company. That’s the way I look at it.

So my basic philosophy is very unexciting, very boring, and as far as I’m concerned, much safer than one based on equities. I’ve moved up the balance sheet.

Why in the world would you buy stocks when you could buy bonds that have yield maturities of about 40 to 50 per cent? You buy the bond and you do nothing. You wait till it matures. While it matures, you get interest payments. If the company’s going to be around, which is certainly what the equity holders have to believe, you’re going to get 100 per cent for the dollar. You’re going to have a huge capital appreciation. That’s never happened before. I looked at the price of bonds, trading from 50 cents on the dollar to 80 cents on the dollar – I said ‘wow, I’m going to buy the bonds.’

The takeaway: I have three rules of investing:

1. My No. 1 covenant for myself is preservation of capital. That overrides everything.
2. Sustainability of yield. I don’t buy anything that doesn’t have yield. What’s most important to me is the sustainability of that yield. I don’t want to have to trade all the time; I want to buy something and hold it to maturity.
3. I covet capital appreciation. For somebody who wants more capital appreciation, they’re going to take more risk. But I think now is the wrong time to take those kind of risks.