How to Safely Build Your Ideal Bond Portfolio

On a quiet Tuesday night in Germany, a 1,100-pound bomb exploded… killing three men.

This wasn't a terrorist attack. The active bomb had been buried for nearly seven decades.

You see, the three victims were experts on disposing of World War II-era bombs. Reports said they had defused more than 600 bombs in their careers. But as Peter Bodes, head of the Hamburg Ordnance Disposal Unit, told German public television at the time… accidents happen.

Old, unexploded bombs remain a major problem throughout Europe. Working near such danger is a risky proposition, even for the best-trained experts. They know most of the bombs will eventually explode… They just don't know exactly when.

For years, we've seen a similar dynamic in the corporate-bond market…

Fueled by a decade of record-low interest rates, U.S. companies amassed trillions in corporate debt. And the credit quality of much of this debt had completely degraded.

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We knew that eventually a recession or geopolitical shock would hit… It always does.

Now it's here. And we don't want you to be one of the victims of the next financial crisis.

As I've shared recently, savvy investors can even find opportunities to profit in the bond market, using the distressed-debt strategy from our Stansberry's Credit Opportunities newsletter.

But to be successful, you need to know a few more details. So today, let's discuss what you should do to build your ideal bond portfolio…

First, stay away from corporate-bond mutual funds and corporate-bond exchange-traded funds (ETFs). Investing in these funds is not like investing in individual bonds. And importantly, these ETFs can't necessarily choose to hold their bonds until maturity – which is the date that bondholders should receive their principal payment.

When defaults rise, investors will want to get out of these funds in large numbers… And the ETFs will be forced to sell their bonds to meet customers' redemptions. They have no choice.

Worse, the fund managers will likely sell their best bonds first… the ones with the most liquidity that can raise the most cash in a short period. Then, the ETFs will be left with a portfolio of ever-riskier bonds whose prices have collapsed. There won't be nearly enough liquidity to handle all the sales.

Investors in these high-yield ETFs will be wiped out quickly. Don't make this mistake.

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Second, build your cash stockpile. It's OK to sit on the sidelines and wait for the best opportunities to emerge.

Right now, there are some good deals out there. But soon there will be much better – and many more – opportunities. As the credit crisis unfolds, you'll be able to pick up bonds for pennies on the dollar. But you don't want to act until you know a distressed bond is safe – unfairly punished by the market.

Third, only put your money to work in safe distressed debt with attractive returns given the level of risk you're taking on.

That's where we come in… We do all the work for you in Stansberry's Credit Opportunities.

We look for businesses that most investors have given up on… but that still produce solid cash flows. The businesses might not be great, but we consider their bonds to be safe. In other words, we only care about one question: Can it pay us?

To answer this, we look at two things: Whether the company can afford the annual interest costs on all of its debt… and whether it will have enough cash on hand to pay off our bond at maturity. (You can learn more about these two ideas right here.)

Fourth, diversify your bond portfolio across at least 10 positions. Understand that investing in distressed debt is risky. Despite all the homework we do, in the end, these companies and banks are run by people operating in a competitive, fluctuating economy.

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Just like in the stock market, we can't avoid the human element. Management teams can act in their own best interests in ways we may not anticipate. We can't predict the future or control every variable.

In the long run, some of your bonds may default. But if you're well-diversified, the large gains in your other positions will more than offset the few losses you endure.

And in the end, you can still vastly outperform the market…

Since launching our newsletter in November 2015, for example, we've closed 26 bond positions. Only two recommendations have defaulted, and our average loss on those two is around 50%. We've booked 21 winners for an 81% win rate. And our average annualized return across all closed positions is 17%. That's nearly double the return of our benchmark – the iShares iBoxx High Yield Corporate Bond Fund (HYG) – in the same holding period.

This includes individual bond annualized gains of 86%… 79%… and 68%.

We've even beaten the stock market. You would have earned only 15% per year if you had invested in stocks instead, as measured by the SPDR S&P 500 ETF Trust (SPY).

For the fifth and final step, try not to be too exposed to any single market sector. In our Credit Opportunities portfolio, we've focused on attractive opportunities in many sectors, including energy, commodities, retail, travel, technology, and finance.

It promises to be a tumultuous year…

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The COVID-19 pandemic is a true “black swan” event. Companies already saddled with large amounts of debt are taking on more by the day. And as credit tightens, we'll see these debt bombs begin to detonate – the weakest and most volatile first.

But you don't have to be a victim. With these five steps, you can build your ideal bond portfolio to invest in good-quality debt at incredible discounts… And you'll be ahead of most investors when disaster strikes.


Mike DiBiase

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