7 FASCINATING THINGS TO KNOW ABOUT JUNK BOND
So here’s what a junk bond is, just like how people have credit scores that show their credit history and the likelihood of them repaying back the future loan.
Well so do companies, a company credit score could be investment grade or on A rating which means the company has extremely high level likelihood of repaying back that loan, then it goes down to average or B-rating which means the company is most likely to pay you back and then from there you get into the B-Day and below which is another word get junk because there’s a likelihood of them defaulting and not paying you back.
Well the Fed just stepped in and said you know what we’re going to be buying all of this junk bonds, we’re going to be giving companies that are in need of money were going to let them borrow as much money as they need but with a few condition, those companies must be known as a fallen angel, which us another word for saying, they had a credit score but at least BBB before March 21, and they have to be at least a BB- on the purchase.
These are pretty much companies that we’re investment grade prior to the illness but now with everything going on, they’re expanding to see some financial difficulties and maybe there’s a little bit more risk, now then there were before.
There’s also a few other details and restrictions that come alongside this, anyway the concern here is that the Federal Reserve supplies money to declining companies, so in any other market, which shut down would fail and then allow other business to step in and take their place and really Inna way this is just free market capitalism, some companies just wait survive, other companies would restructure how they do operations and new companies would step into the marketplace but the fed intervention means those companies can stay afloat and stay alive much longer then they otherwise would have and that means inadvertently that company stock prices also going to be doing pretty well alongside with it.
And that poses a very unique sliding that we haven’t really seen before, one scenario that if the Federal Reserve dues not come in with unlimited money. So many business would shut down even more people are aging to be out of work and the recovery process could potentially take a very long time to during which we can end up in another great depression but eventually things would recover new business will take their places, things would be restricted and in the end, this would balance themselves.
However in scenarios 2, if they do come in with unlimited money, they’re going to be keeping business alive and afloat during the time of which they would ordinary just be going out of business for keeping people employed who otherwise would have being laid off, and they can help us to a smooth landing at the expense of taking on more debt.
However, in the long run, it might cost us more in the form of increased taxes, inflation in an economy that’s so dependent on loan and free money that can never really truly ourselves of it and that is what I would say, people are concerned about, this is also something that Warren buffet openly talked about just recently when he was asked about what going on, typically what would happen is that failing companies like this would be bought by someone else for a goof deal, like Warren Buffet and then from there, Warren Buffet company would give them a life line back to problems.
That’s basically Warren buffet entire life long value investing strategy just sit there, holding a whole bunch of cash waiting for a goo deal and when that good Deals comes a whole bunch of Cash waiting for a good deal and when that good deal comes up he’ll strike.
If a company behinds failing then they can always borrow more money at really cheap interest rates from the fed and stay afloat and continued to as usual without the need for people like Warren Buffet.
The same can also be said about finding value investor who’s sitting on the sideline and just waiting for a good deal because. That’s goofs deal might just end up being right now if the Federal Reserve continued pumping mommy into the market, raising value, keeping companies afloat, Until everyone gets back to work.
Honestly this is probably one of the situation that would have definitely being worst had they not down this, and maybe even worse if they did and no one knows for sure.
As Warren buffet says, we’re doing things that we don’t ultimately know the outcome I think in general they’re the right ting but I don’t think they’re without consequences and the consequences can be extreme, if posted for enough.
But then it would also be extreme consequence it we didn’t do it as well, so at the end of the day whether it’s intended or not, but when the fed goes on a sloppy spree of junk bonds, it’s inadvertently going to boost up stocks prices alongside with it, but when struggling companies get really attracted to positive news and when those companies gets positive news that translates to higher stock prices and signs the Federal Reserve almost has enough limited supply of money, they can continue this as long enough to get the ball rolling and then one day it can start moving on its own.
They’re going to hold fit eventually those companies won’t be able to relax back the debt. The risk with this however is that his not longer any market to discover where struggling companies are just naturally left to fail and since the Federal Reserve really had no collateral with the company that they loan you thrust really at the mercy of the company to actually pay them back and if that doesn’t happen then I guess it’ll be absorbed by somewhere and thing would carry on as usual.
Bit the other concern with this is becoming so addicted that zero percent interest free money and unlimited loans, that it becomes very hard to be self sufficient in and weight yourself off it.
Arguably the prices suggested based off zero percent in interest, so when one day interest rates are no longer zero percent of that ever happens, validations would have to come down accordingly and that’s a risky move in a very interesting tine right now and honestly who knows what’s going to happen, if this keeps going sticks can continue to keep rising for the future.
WHAT HAPPENS WHEN AN UNLIMITED AMOUNT OF COPORATE BONDS ARE BOUGHT
So over the last few months a lot has changed in the investment world, interest rates have plunged to zero, trillions of dollars have being printed into our economy to be able to lift it back to life, however throughout all of that, one thing has remained constant and that would be the Federal Reserve continued efforts to make sure that our economy does not entirely collapse and turn into a big pile of loop.
How in an unprecedented action that has never happened before in the history of history. The Federal Reserve is going to be buying an unlimited amount of junk bonds and inadvertently bailing out the stock market if people can get stimulus check, small business can get interest rates free money, big corporations can get billions of dollars, then why can’t the stock market get some of those coupon 100 and that’s what beginning to happen because early this month, News started coming out that the feds were about to buy corporate bonds and that can potentially change the outlook on the stick market once this happens.
So in this article, I’m going to be doing my best to explain exactly what they’re doing, why they’re going it, what this does to the stock market and then how this affects you and me.
And thus all starts have later this month, when the Federal Reserve announced that they would be purchasing unlimited assets in order to support the market and then literally since they say the market has slowly but surely began growing back in price.
Now if you’re confused what unlimited support to purchase assets means, well it’s really simple and here’s the gist of it, if the city or a company is in need of money, they can go an issue what’s known as a bond, which is a very fancy term for I owe you.
It’s just an agreement that days we’re going to be borrowing this much money and we’re going to pay you, this much in interest and we’re going to lay you back by this date, it’s really no different than your buddy Jimmy going back to you, asking to borrow a $100 and then promise he’ll pay it back $110 a week from now, that’s pretty much how bonds work as well, but what happens when your buddy Jimmy needs that $100 because he’s out of work and he needs to keep his business afloat and no one wants to lend him money because everyone is just holding on to their cash.
Then in that case your buddy Jimmy doesn’t get any money and with no money he might not be able to keep his business open, which means his business might shut down and other business that rely on his business might shut down and that could lead to a negative diminishing effect across the entire economy.
So From the Federal Reserve perspectives it’s in Jimmy’s best interest that he gets the $100 so that he can keep his business afloat and other business that rely on his can keep going and others can carry on as usual. Now I know that a very basic example about how binds works but in a way city, states and business Di the exact same thing and here’s how that works.
When companies need to take on some debt in order to stay afloat and expand, they do so by issuing bonds, which like I said Is $100, so when this begins spreading everyone else who ordinarily would have bought those bonds and let those companies Mindy basically just held their cash.
Well that’s not good for the company who just shut down, is in need of money and has bills to pay and if those bills can’t get paid it spirals into a loan for everybody, so the Federal Reserve stepped in and they said they would buy those bonds.
Now technically when the fed does this, they are issuing loans that at some point needs to be paid back but because they control the interest rates that they loan the money. They can pretty much give people interest free money and the deal is that those loans will help keep them and when the deal is done those loans and debt can be paid back.
It’s no different than you going to your parents for money and they give you a $100 and they just say, you know what don’t worth about it , just pay us back the $100 in the future and we’re good.
But when thus gets unusual is that big the feds will have to start buying corporate bonds, which us another word for saying they lend money to companies directly and not just to states and cites , and even more alarming they’re going to have to start buying corporate bonds. Which is another word for saying they’re lending money to companies directly and not just to states and cites.
Now there are chance of them being able to repay back those loans, this is also where some of the drama cones In because when it was announced on March 23, that the feds would provide unlimited resources to help companies and apparently each people concern so much that investing just begins pulling back into bonds because they felt it the feds going to be going and buying them, then they probable should too.
And that single message meant that once prole started buying bonds again, then there’s really no reason for the Federal Reserve to step in and actually the fed would step in to give companies money like this, if no one else is why to step in and give then money, but as soon as the fed says the unlimited bonds purchase, theirs is able to just back off and let the market do their thing again.
Now the fed can’t go and openly just by corporate bonds like this because if they do that directly it’s going to be in violating of the Federal Reserve act of 1913, which prohibits them from taking any direct ownership of any companies debt, so instead, they’re trying to circumvent the existing law by loaning money to a new company called special purple vehicle.