PDI - Trade Alert Buy The Dip On This 16% Yield: PDI

2023-10-26 07:35:00 ET

Summary

• When it comes to the unknown, it's best to have a guide.
• The market is filled with many nooks and crannies, and having an expert at your side can greatly improve your outcomes.
• Earn over 16% while leveraging the skills of this special set of experts.

Co-authored by Treading Softly.

Are you familiar with the expression "jack of all trades?" Perhaps you consider yourself to be one of these rare and unique individuals who are skilled in many different areas, but the second half of the phrase is so often forgotten when it is said. It's not just that someone is a jack of all trades, but the saying is "a jack of all trades and a master of none."

In our current culture, we live in what I like to call an "expert" culture. Everybody tries to become an expert in some field or another and find that niche category where they can be the sole contender for being the best. Because of that, there is a growing trend to become more self-reliant or self-sufficient to idolize those who are "jack of all trades" and capable of doing many things. As I've mentioned before, part of the human condition is that our society and our cultures work in cycles. We go from being a culture that idolizes experts to a culture that idolizes jack of all trades, and then back and forth we go.

In my own life, I like to try and be as self-reliant as I can within reason. I change my own oil, raise my own chickens and collect their eggs, and have vegetables from my own gardens. I also know there is a point in which a task exceeds my personal skills. I don't wire my own house; I hire an electrician. I don't do my own plumbing; I hire a plumber. That is because I recognize that there is a point at which I need someone who is a master at a skill to aid me in being successful.

When it comes to the market, many of us are jack-of-all-trades type investors. We have experience in many different fields or sectors of the market, and we're comfortable assessing a wide range of companies. Yet even with my decades of experience, I find that having a team around me with different specialties greatly improves my success.

But if you want to get into bankruptcy investing or high-risk credit investing, you may want an expert to do it for you and use your money to benefit you. That is where a closed-end fund can come into play. Various firms offer these funds to allow you to leverage their expertise so that you can then benefit from them while paying a management fee from the returns that they've earned – the management fees are internally paid fees, unlike a mutual fund that deducts money out of your account. Therefore, you get the entire stated yield right up front.

Today, I want to look at some of these experts who are well worth hiring within your portfolio so that you can enjoy massive income from their skills.

Let's dive in!

Hiring A Specialist

I've made no secret that I believe PIMCO is one of the best fund managers in the fixed-income space. For decades, PIMCO has managed various closed-end funds that invest in various fixed-income opportunities. Investors who have invested with them have been rewarded with high yields and excellent total returns.

It has been a tough decade for debt, primarily due to the Federal Reserve hiking rates at the fastest pace since the 1980s. Treasury bond ETFs like TLT have seen a negative total return as the prices of Treasury bonds have fallen. This has had an impact on the prices of all types of debt. Despite this, PIMCO Dynamic Income Fund ( PDI ), yielding 16.8%, has seen a total return on NAV of 192% since its IPO.

Consider that this performance is measuring to an environment where bond prices are currently at multi-decade lows.

PDI 's focus is on mortgages, with non-agency MBS accounting for 27% of its holdings and 60% of its duration-weighted exposure. Source .

PDI also has material exposure to corporate credit and non-USD developed credit.

There are two main reasons PIMCO funds like PDI have often outperformed the various debt indexes.

1. Leverage is a Double-Edged Sword

PDI uses significant leverage.

Currently, PDI is using over $3.5 billion in leverage, about 43.5% of assets. PDI primarily uses reverse repurchase agreements. This method of financing uses specific pledged securities as collateral. Leverage magnifies returns, both positive and negative. This makes PDI more volatile, but let's keep some perspective – PDI is more volatile relative to other debt investments, but debt investments tend to be inherently low volatility compared to most of the investments that people are buying every day.

Beta is a common measure of volatility relative to the S&P 500. A beta over 1.00 means an investment is more volatile than the S&P 500, and a beta below 1.00 means an investment is less volatile. PDI's beta is 0.65, quite low relative to the stock market, but quite a bit higher than debt ETFs like iShares iBoxx $ High Yield Corporate Bond ETF ( HYG ) with a beta of 0.40, and certainly much higher than investment grade debt like iShares iBoxx $ Investment Grade Corporate Bond ETF ( LQD ) with a beta of just 0.27. This higher beta from PDI is in large part caused by its use of leverage. The other reason for more volatility (and outperformance) is PIMCO's propensity to tread where other debt investors run away.

2. Buying When Others Sell

An interesting development over the past year is that CMBS (commercial mortgage-backed securities) have grown to over 11% of PDI's portfolio. I'm sure you've seen in the news various stories about the difficulties in commercial real estate. Many have been selling from the sector as fast as they can, whereas PIMCO has been buying.

This is very typical of PIMCO. Very frequently, you will find PIMCO buying assets in sectors that are "distressed," and other institutions are selling for pennies on the dollar. Why does PDI have a lot of residential mortgages? Because PIMCO was backing up the truck during the mortgage crisis, buying up mortgages that banks were dumping at huge discounts. Looking back at it now, it was a brilliant move.

If you are reading financial news articles about mayhem in this sector or that sector, odds are you'll find PIMCO there ready to be a buyer. PIMCO is frequently involved in major bankruptcies; you might have seen that they entered into a pact with Apollo Global Management ( APO ) to negotiate a multi-billion dollar debt restructuring with Carvana ( CVNA ). We saw PIMCO involved in high-profile restructurings with Windstream, iHeartRadio, and even the Argentina government. If you read about this or that institution dumping assets or a major company with bonds that have crashed in price, it is very common to see PIMCO stepping in as one of the buyers, happily relieving investors who paid full price for debt obligations, at pennies on the dollar.

It isn't something that has always worked out. PIMCO has seen a few hits from debt that was never paid back. Yet PIMCO has also seen debt that it bought at a steep discount get repaid. The wins have historically been bigger than the losses as the market's initial reaction to distress is often proven to be more than is justified.

Today, interest rates are high, and that is depressing the prices of all fixed-income. PDI's portfolio has been hit by that reality as much as any bond fund, and its NAV is at all-time lows. Debt prices will recover either when interest rates decline, or if they don't, as borrowers repay at par – the borrower still has to repay face value, even if the trading price of the debt is below par!

In the meantime, we can buy PDI at just a small discount. Since 2016, PDI has only briefly traded at a discount to NAV and has spent most of its time trading at a significant premium.

We can buy at these low prices and collect a hefty dividend while we wait for the inevitable recovery in debt prices. Like PIMCO, we can buy what others are running away from.

Conclusion

When was the last time you hired a specialist to help you do something, an expert in their field who likely has years or even decades of training and experience to be able to conduct that task? When buying shares of PDI, we're able to leverage the long and storied experience of PIMCO in their fixed-income investing experience, and we're able to do so while enjoying massive amounts of monthly income from our holdings. It's a win-win, a win in the essence that we are locking in reliable, stable income and also a win in knowing that they are well positioned with their portfolio to benefit when interest rates fall. At this juncture, it is more likely that interest rates will fall than they are likely to be raised. When the next recession hits, I want to have various holdings that are going to strongly benefit from a recessionary environment and declining interest rates – funds like PDI are exceptionally well-positioned for that situation, plus 16% is nothing to scoff at!

When it comes to your retirement, I want you to be a jack-of-all-trades in your hobbies; unless you have one hobby you absolutely love, then go master that. But if you want to be a jack-of-all-trades as far as hobbies are concerned, you need to have the financial ability and capability to afford those various hobbies.

I don't want you to have to be sitting in a cold, dark room rubbing two pennies together, hoping that you'll be able to enjoy tomorrow. I want you to be able to have a wonderful, safe place to live with food on the table and surrounded by warmth and happiness with your family. To do that, you need to have financial security and financial independence. It is just something that our Income Method is able to provide and does provide. Income investing can open up so many doors of possibilities for you!

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

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