Years ago I was on a call with another firm’s analyst. She said the bonds they owned were “money good.” I was unsure what that phrase meant.
I knew it must be positive. Then I put it together.
What she meant was that despite the bond prices going down, the likelihood of default by the borrower was extremely low. By all assessments, the issuer would pay the interest and principal back without a problem. She was right.
The bond prices were down not due to fundamental performance of the company. It was selling off for other reasons.
Investors often do not sell because they want to, they sell because they have to. Some times the risk department does an actual “tap on the shoulder” and says it is time to take down risk for the whole firm or fund. The portfolio manager must sell assets.
Other times, mutual funds may get redemption requests from jittery investors that who just want their cash back in hand. The manager still likes the bonds or stocks, but has no choice but to meet the customer’s sale request.
Another case is when investors have rules in place to hit the sell button if volatility gets too high for the assets in the fund. Perhaps the fund has too much debt and must sell to bring down the leverage, lest they truly become a forced seller.
When looking for investment opportunities, this is what we want to see. Other investors selling for non-economic reasons gets us interested in investment ideas. If the fundamentals remain strong, then it creates a mispricing to scoop up “money good” assets on the cheap.
We think about this when allocating capital on behalf of clients. What is the price we are paying implying about future returns? Do we have high confidence in the cash flows being repaid?
It seems like every few years, we see extreme moves in asset prices. Part of this is due to the leverage in the system. It also has to do in what dynamic environment we have lived through. Pandemic, inflation, war – and that is just the last two years.
If we fall back to the fundamentals of understanding the assets we own and the prices we paid, we can have confidence in the future cash flows of those stocks, bonds, and real estate. The narrative of the day and scare mongering on financial television is less concern. Interim price declines and market volatility can be seen as a chance to pick up assets at reasonable prices to continue compounding capital.
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