Investors no longer give a damn.
That might sound harsh, but when things are this backwards, you have to tell it like it is.
You see, I read something recently that disturbed me. I had to pinch myself to make sure I wasn’t dreaming.
It was an article I recently stumbled upon in Bloomberg. In it, the author explained how U.S. companies are issuing debt at breakneck speed. You see, U.S. companies have already issued more than $360 billion worth of investment-grade bonds just this year.
Corporate America is now on pace to issue the most investment-grade debt in the first quarter since 1999. I don’t have to remind you how that ended…
But here’s the really crazy part… Investors are lining up around the block to buy these bonds.
If you read yesterday’s Dispatch, you know where I’m going with this.
In short, the bond market is unraveling. This isn’t some conspiracy theory. It’s a fact.
And yet, investors are buying bonds by the fistful.
These people don’t understand how much danger they’re in. Hell, they don’t even know what they’re buying anymore.
I’ll explain why in a second. But first, let’s be clear about what “investment-grade” means.
• Investment-grade bonds are bonds issued by companies with good credit…
They’re the best corporate bonds money can buy.
Investors like them because they’re supposedly “safe.” Conventional wisdom says you can own them and sleep well at night.
At least, that’s how things used to be. These days, “investment-grade” doesn’t necessarily mean “safe.” This is because so many blue-chip companies are now leveraged to the gills.
Take a close look at the chart below.
It shows the gross leverage ratio for U.S. companies with investment-grade credit ratings. This ratio measures a company’s ability to pay its lenders.
When this ratio is climbing, it means companies are taking on more debt.
You can see that this key ratio has jumped 41% since 2011. It’s now at the highest level since 2002.
That’s a major red flag. But I’m not surprised one bit.
• After all, the Federal Reserve has been holding interest rates near zero for nearly a decade…
This has made it incredibly cheap to borrow money.
When companies can borrow money for next to nothing, they leverage up…just like we’ve seen.
Since 2009, U.S. corporations have borrowed more than $9.5 trillion in the bond market. That’s 62% more than they borrowed in the eight years leading up to the 2008–2009 financial crisis.
Now, there’s nothing wrong with borrowing money. Debt can help companies develop new projects, hire more workers, and build more factories.
In other words, debt can be good…but only if companies can pay their lenders.
We’re not so sure many companies will be able to do that in the near future.
• Corporate America is light on cash…
But I’m not talking about total cash holdings. That’s sitting at more than $1.5 trillion right now.
I’m talking about corporate cash holdings relative to debt.
You can see what I’m talking about below. This chart shows the cash-to-debt ratio for U.S. investment-grade companies.
This ratio been falling since 2010. That means companies are borrowing money faster than they’re generating cash.
This key ratio is now at the lowest level since 2009.
Think about that.
The U.S. economy was in shambles eight years ago. People weren’t spending money. Corporate sales were pitiful.
Today, it’s supposedly a different story. According to the government, the economy is doing just fine.
Yet, you’d think we were in a recession by looking at corporate balance sheets. That’s because Corporate America is drowning in debt and light on cash.
You don’t have to work on Wall Street to know that this is a recipe for disaster.
If the U.S. economy runs into trouble, many companies won’t have enough cash to ride out the storm. We could soon see a huge spike in corporate defaults and bankruptcies.
• No one is taking this seriously…
Take a look at the chart below.
It shows the “spread” between investment-grade corporate bonds and U.S. Treasurys. A spread is the difference between two bond yields.
In this case, corporate bonds should yield more than Treasurys. That’s because they’re riskier.
Unlike the government, companies can’t print money whenever they feel like it.
Now, this spread is still positive. That’s the good news. The bad news is that the spread hasn’t been this low since 2014.
This tells us that corporate bonds aren’t paying as much as they should. That’s another reason to avoid them.
If you haven’t already, lighten up on corporate bonds.
They’re risky and they’re not yielding nearly enough.
That’s a “lose-lose” bet.
If you’re looking for income, consider high-quality, dividend-paying stocks instead.
• You can start by looking at Dividend Aristocrat stocks...
These are stocks that have increased their annual dividends every year for 25 consecutive years.
In other words, they kept raising dividends even after the dot-com bubble popped and through the housing crisis. That’s a sign of great management.
Here are three Dividend Aristocrat stocks that we like right now:
Kimberly Clark Corp. (KMB)—This company sells toilet paper, paper towels, and diapers. It currently pays an annual dividend yield of 2.7%. For comparison, the S&P 500 yields just 1.9%.
The Clorox Company (CLX)—This company sells bleach, charcoal, and cat litter. Its dividend currently yields 2.3%.
Procter & Gamble (PG)—This company sells laundry detergent, toothpaste, and shampoo. Its dividend currently yields 2.9%.
These companies all sell stuff that people buy no matter what’s going on with the economy. They’re the type of “basics” stocks that we’ve been pounding the table on lately.
Plus, each company has debt-to-equity ratios of less than 1.00. They have strong balance sheets. They’ll have no problem surviving the next financial crisis.
Delray Beach, Florida
March 17, 2017
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