Not all junk is garbage

Herb Greenberg

February 22, 1991|By Herb Greenberg | Herb Greenberg,Chronicle Features

News from the high-yield junk-bond front doesn't look encouraging.

Last week, Chicago-based USG Corp. said it wouldn't be able to make interest payments on its junk bonds. Earlier, Los Angeles-based Carter Hawley Hale filed for bankruptcy protection, causing the price of its junk bonds to tumble.

You can expect more such stories amid the weak economy, yet some well-respected junk-fund portfolio managers continue to act bullish.

No one is pounding the table harder than Paul Suckow, who says that a portfolio of well-managed, high-yield bonds "will be the best-performing fixed-income investment over the next year or two."

Suckow is director of fixed-income securities for the New York-based Oppenheimer funds, whose high-yield fund was ranked second by Lipper Analytical for the four years ending in 1990. While the group as a whole was down 11 percent last year, Oppenheimer was off only 3 percent.

Oppenheimer's strategy tends to be contrarian. For example, before the junk market got totally trashed in 1988, the Oppenheimer fund started shifting to higher-quality corporate issues. Now it's doing just the reverse, and has raised to 80 percent the portion of its fund that holds bonds rated single-B or lower. A year ago, half its holdings were in that category. Prices have dropped and yields have jumped to an average of about 16 percent and Suckow says, "Many of these bonds are priced way too low for their inherent credit risk."

What about more defaults, especially if the economy worsens? There's been a major bankruptcy filing "just about every business day" so far this year, Suckow says. "Yet the high-yield market in general is up." What that means is that the market expects such filings and has factored that into the price.

"If you own a security that files for bankruptcy, you have problems," he notes. But high-yield issues shouldn't be viewed as one monolithic market. "It's individual bonds, and you have to do your homework to buy the right one."

DANGEROUS PLAY: One of the most dangerous ways to play the stock market is to try to pick tops and bottoms, but that doesn't stop investors from trying, especially when the Dow is rising as quickly as it has been.

Historically, one sign a market may be reaching a top is when small investors rush in. Back in the '60s, when individuals played a more prominent role in the market, an indicator concocted by Richard Russell of the La Jolla, Calif.-based Dow Theory Letters was that the market had reached a top when a book on "how to make money in the stock market" reached the New York Times best-seller's list. That hasn't happened, yet, but one long-time street watcher says there are more and more unfamiliar faces crowding the Quotron machines at Charles Schwab & Co.'s main lobby in San Francisco.

When all is said and done, however, the most successful investors -- in good times and bad -- are those who stick with fundamentally sound companies, and watch a few simple ratios, such as the price/earnings multiple, the dividend yield, and the stock price-to-book value.

Savvy investors often buy when the P/E multiple for the Standard & Poor's 500 is less than 10, the dividend yield is greater than six, and the book value ratio is near one. They sell when the P/E has reached 20, the dividend yield is less than three, and when price-to-book is three or greater. The last time P/E ratios were at the low end of the spectrum was right before the August 1982 rally; they were unusually high just before the October 1987 crash.

Right now, all three indicators are in the middle of that range, "which indicates the market isn't yet overvalued," says Marvin Suchman, an officer at Commercial Bank of San Francisco, who's also an active private investor.

If the market continues rising, those indicators won't stay in the middle for long.

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