The author is a fixed income portfolio manager at Barksdale Investment Management and co-author of “Undiversified: The Big Gender Short in Investment Management”.
The collapse of some of the stock bubble flag bearers in recent years has been painful for investors. We’ve seen ‘pandemic winner’ Netflix fall 75% from 2021, crypto exchange operator Coinbase lose 86% and former meme stock and movie channel AMC lose 80%.
Less noticed are the losses of their bonds. The damage there is more moderate and is offset by coupon payments – a Netflix bond maturing in 2030 has yielded negative 19% from recent highs, a Coinbase 2031 bond negative 36% and a 2026 AMC bond negative 19%. This is partly due to the very different capital structures of individual companies and the risks of bonds versus equities.
For hedge funds that benefit from arbitrage trades between capital structures, such differences present a playing field full of opportunity. But the spreads also show the differences in the ownership and yield characteristics of equities versus bonds.
First, the number of corporate bond holders is largely institutional, although most investment-grade issuance is publicly registered. The publicly registered junk bond is a species that is doomed to extinction as heavy disclosure requirements and increased time-to-market companies to private placements with institutions. While institutional investors often trade, the concept of day trading and the associated increased volatility is largely a retail phenomenon in stocks.
Second, while it’s pretty straightforward to say that the yield outlook differs for non-defaulted bonds and stocks, the calculations are a bit more nuanced.
Bondholders’ risk of loss, like shareholders, is unlimited if a company defaults (although, in practice, unsecured creditors receive an average of 35 cents for every dollar invested in a defaulting company). But our advantage is limited. Bond documents typically include a provision that a company can choose to redeem (or cancel) a bond before maturity and issue new debt at a lower interest rate, meaning the investor won’t necessarily benefit much. of an improving balance.
This means that the skyrocketing growth forecasts that have propelled the stocks of Netflix, Coinbase and AMC to their highest levels simply cannot be factored into their liabilities. Creditors still suffer from errors of judgment, but the tyranny of the bull cap saves us from ourselves when growth seems endless.
Finally, corporate bond performance should be broken down into total return and excess return. The latter refers to the yield on the bond when compared to what investors could earn on “risk-free” government bonds of comparable terms.
So what story do Netflix, Coinbase, and AMC bonds tell? The “excess” yield on Netflix’s 2030 bond is about 7% negative from its November high. This means that more than half of its negative performance is related to the bear market in US Treasuries. Coinbase’s 2031 bond, on the other hand, posted a negative excess return of 28% as of November, compared to a negative excess return of 5 for its benchmark. AMC’s excess return from its peak in June 2021 was negative 14%.
The bond market seems relatively more comfortable with Netflix’s financial strength. Coinbase’s 2031 bond, on the other hand, reflects the skepticism that has lingered since its issuance in September last year. It is unusual for the bond to trade below par almost immediately, although the stock and the Bloomberg Bitcoin Index only peaked in November. It’s not necessary that creditors were ahead of the curve in forecasting the recent crypto sell-off – quite the contrary, we don’t have the equity-like mindset necessary for crypto optimism integrated into Coinbase’s peak levels.
Finally, AMC bolstered its financial position with capital increases as its stock exploded. But its bonds with a first lien, or claim to company assets, trade at a high premium to debt versus a second lien. This indicates a constant concern about the company’s financial prospects.
Who knows where the bonds of these companies will be in a year’s time? But the corporate stock market crash raises questions about the logic of rules that allow individuals to buy Coinbase or AMC stock, but not their unregistered bonds, in order to “protect” inexperienced investors.
Barksdale Investment Management may hold shares in the listed companies