PTY - A Generational Opportunity For Dividend Investors: PTY

2023-06-05 07:35:00 ET

Summary

• The Federal Reserve has hiked interest rates rapidly.
• Fixed-income investments have suffered double-digit losses during this rate-hiking cycle.
• When rates stop rising and start being cut, we can expect double-digit positive returns from fixed-income investments.

Co-authored with Treading Softly

It's been famously said that "sometimes it's better to be lucky than smart." At times dumb luck will find us and provide you with an outstanding situation that you sort of stumbled your way into half-cocked and unaware, but most of the time in life, you have to work hard and think smart to be able to succeed.

For many retirees, 2022 and 2023 will probably be the most stressful and least enjoyable years they've spent in the stock market, especially if they're using the 4% withdrawal rule and trying to sell holdings to fund their retirement. Five years from now, they will look back at what they sold and wish they would have held on a little longer or had a little more cash in their pocket. The biggest issue with many retirement plans is that they leave little room for error and a lot of room for potential crises.

It's amazing how many issues can be solved with a little money to throw at them – that's why I invest for income. This way, companies are constantly throwing money at me, so I have money to be able to throw at problems or take advantage of unique opportunities.

Interest rates have been rapidly hiked through the 2022 and 2023 calendar years. The Federal Reserve has made record-breaking hikes at a breakneck speed, setting up the bond market, other fixed-income investments, and even Treasuries to see double-digit negative returns. This makes sense. When you have a fixed interest rate, the only way to make that interest rate higher is to make it cheaper to buy. That is why bond prices and Treasury prices fall when interest rates climb. But every time they fall, it's like compressing a spring harder and harder and harder; when rates stop climbing or start dropping, that spring is ready to skyrocket back upwards.

We are in a moment where we have not seen interest rates this high for generations, and this could be a generational opportunity for many new retirees or younger investors to take advantage of depressed prices now in order to enjoy them for decades to come when that spring explodes higher.

Today, I want to look at one outstanding opportunity of how to invest in fixed income from a diverse range of companies and how you can enjoy that spring exploding higher for you.

Let's dive in!

It's Time for a Fixed Income to Shine

The bond market of 2022-2023 will be remembered in history alongside events like "Taper Tantrum" and The Great Financial Crisis ('GFC'). 2022 was simply an utterly terrible year for bonds. For a bond fund like PIMCO Corporate and Income Opportunity Fund ( PTY ), rising Treasury rates pulled down results.

This is similar to what happened in 2013 with Taper Tantrum, but even more severe.

As a result, PTY 's NAV is about as low as it got in March 2020, during the height of the COVID panic.

In fact, the only time PTY has seen lower prices was during the depths of the Great Financial Crisis. We often hear the phrase "buy low, sell high" as an axiom of investing, yet when it comes time to "buy low", I find that few investors are willing to do it.

You see, when prices are low, they are usually low for a reason. If everything were rainbows and sunshine, investors would be more optimistic, and prices would be high. Investors fear the Fed will keep interest rates high, they fear that defaults will rise, and they fear that a recession will start within the year; selling corporate bonds for these reasons.

I won't dispute any of that. There will be credit defaults. The Fed should be cutting interest rates, but it is very likely they won't. I'm convinced that there will be a recession within a year.

Guess what? The bears were completely right back in March 2020 too. Remember the last time PTY's NAV was this low?

March 23rd, 2020, there were a lot of reasons to be pessimistic. There were a lot of reasons to sell everything. Defaults did rise; the pandemic did last longer than anyone had hoped, companies were forced to revisit their business plans, and PIMCO recognized huge losses in their hedging portfolio.

On April 28th, 2020, we wrote :

"The market is frequently ruled by short-term hyperbole. Are there real economic issues being caused by Covid-19? Absolutely. Is this something that is going to make its mark on our economy and psyche for years? Yes. Is this the apocalypse that will end the world? No. Life will go on, lending will go on, and debt will be paid.

The magic sauce behind PTY is PIMCO. For all we know, PTY has substantially shifted their holdings over the past 2 months. When you invest in PTY, you are not investing in a collection of holdings, you are investing in a premier manager who has an impressive track record. PTY management can, and will, make the decisions they believe are best for the fund without notifying holders."

PTY fully recovered its NAV to pre-COVID levels in 2021 before taking another fall. This time, the fears are different on the surface, but the same things can be said. We only need to change one thing:

The market is frequently ruled by short-term hyperbole. Are there real economic issues being caused by [high interest rates] ? Absolutely. Is this something that is going to make its mark on our economy and psyche for years? Yes. Is this the apocalypse that will end the world? No. Life will go on, lending will go on, and debt will be paid.

The magic sauce behind PTY is PIMCO. For all we know, PTY has substantially shifted their holdings over the past 2-months. When you invest in PTY, you are not investing in a collection of holdings, you are investing in a premier manager who has an impressive track record. PTY management can, and will, make the decisions they believe are best for the fund without notifying holders.

I've personally held PTY for many years. Through the GFC, Taper Tantrum, COVID, and now I am holding through a hawkish Fed. Like all those past challenges, this too shall pass. I'm confident that PIMCO's elite management team will navigate these troubled waters and provide me with a healthy dividend. When others panic and sell at low prices, I smile and buy more, growing my monthly income a dividend at a time!

Conclusion

By using a closed-end fund, we can get exposure to a wide array of fixed-income investments. Many traditional bonds have a PAR value of $1000, making it difficult for even experienced investors with large accounts to have exposure to a wide range of investments. This means that you have to be extra careful to pick the best ones possible if you want to go the direct route. To remedy this issue, something like a closed-end fund can be exceptionally beneficial – for a fraction of the price, you can get exposure to a wide array of bonds, and you also get exposure to exceptionally skilled portfolio managers who have run this type of fund for decades. Another small benefit that many enjoy greatly is the fact that you don't have to wait every six months to get paid – you get paid every month.

The Federal Reserve has created an opportunity that may be a generational opportunity that many have not had a chance to experience before. I am currently enjoying the guaranteed interest rate on my money market account for my emergency cash – I will never turn down higher interest rates on that account. However, I am not going to blindly ignore the opportunity that is in front of me in fixed income at this time.

The Federal Reserve cannot maintain this level of interest rates forever. Therefore, just like double-digit losses occurred in fixed income during the last two years because of rising rates, we can expect high gains as rates fall. The beauty of being an income investor is that we're paid to wait. We can own these bonds through a closed-end fund, get paid monthly to wait, and lock in massive gains on the exit.

That's the beauty of my Income Method. That's the beauty of income investing.

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