Wednesday, October 24, 2012

Bargains Are Where You Find Them

I just bought some Federal Farm Credit Bank bonds with a 3.7% coupon below par.  (But by the time I finished the transaction, they were worth above par.)  They have a 30 year maturity, which would ordinarily make them not a wise investment with the current prospects for interest rates, except that these are callable, and in practice, GSE bonds like this almost always get called within a few years -- hence the quite high coupon for such a low-risk bond.

UPDATE: A little clarification.  There are two reasons why bonds get called early: interest rates fall, and the person who borrowed money that the bond is financing can refinance, or the original reason to borrow the money goes away (someone sells the item or property that the bond financed).  This tends to make the effective duration of these sort of bonds much shorter duration than the nominal term. 

1 comment:

John Moore said...

Hmm... I don't know much about bond investing, but it seems to me that an issuer is only going to call bonds that have relatively high interest rates so they can re-issue the debt at a lower rate.

In a world where interest rates are almost sure to rise, betting on the bonds being callable seems dubious.

I think I've owned only a couple of bonds in my life, but one of them was called - when the interest rates dropped way down.

Maybe that's why your bond looks like such a good deal.

Or... there's a good chance I'm missing something.