But first, there’s a catch…

These “Trump Cards” aren’t traded very often. And you can’t find them on an exchange. That’s what makes them so lucrative. You see, it’s this lack of liquidity that makes these high-yield bonds, as they’re called, double and even triple overnight.

Once you get past the sometimes-frustrating volume issue, you’ll find many advantages high-yield bonds use to trump regular stocks.

First, there is the time element. You can hold a stock indefinitely, as long as the company stays in business. Bonds, however, mature at a certain date. They can even be called away. But unlike options, bonds use time to work in their favor. The closer to maturity date, the better. Time adds an extra benefit, because once it runs out, investors get paid.

Bonds are also higher on the importance scale for a company. Even if the unfathomable occurs and the issuing company liquidates, bondholders are paid first. Next come preferred stockholders and finally common stockholders.

The most important advantage bonds have over stocks is their guaranteed value. Stocks are bought and sold with a constant moving target. Each investor has his or her own target value. Bonds, however, have a face value. That face value, usually $1,000, is the price those holders will receive at maturity. This gives us a clear picture of what our investment will pay us. It can also give us a guaranteed double or triple.

Say you buy a corporate bond with a face value of $1,000 and a maturity date of August 2011. Instead of paying the full $1,000, you’ll oftentimes receive a hefty discount. Let’s say in this case, the bonds are trading at around $330. That’s a guaranteed triple as long as the company doesn’t go insolvent.

Here’s why the guarantee is so important. Even if the company does go belly up, every asset sold will be used to pay you. Common shareholders might receive a few dollars of whatever is left in the end. But you are paid first.

Don’t want to wait until 2011 to have your payday? No problem. Just trade it in early. As you can see, that’s an equally lucrative choice.

Instead of waiting until October 2027 for a 614% payday, investors on this bond could’ve cashed out today for a 5-month 186% gain. It’s easy enough to flip that gain into other fast moving high-yield bonds.

To get you started, here are two of the top traded bonds:

• Realogy Corp 10.5% Coupon Maturing Apr. 2014 (CUSIP: 75605EAT7)
• Clear Channel Communications 10.75% Coupon Maturing Aug. 2016 (CUSIP: 184502BB7)

Note: Be careful trading these. Corporate bonds can be extremely volatile.

The coupon rate is the original yield based on the $1,000 face value. This is also a large selling point for income investors as the yield becomes inflated with lower prices.

The CUSIP is the equivalent of a stock’s ticker symbol. Although, instead of using it to place orders on an exchange like stocks, the CUSIP is used for bond traders to quickly identify each particular issue.

To find your own high-yield bonds, you can check out any free bond screener such as Yahoo! Finance’s. Just enter the criteria you are looking for – like coupon rate, maturity date, and credit rating – and scan through the results until you find one you like.

Sincerely,
Jim Nelson

Source: Your Guaranteed Triple with the Stock Market ‘Trump Card’

We bought the Debt Strategies Fund (DSU), which held a basket of high-yield bonds and was paying a double-digit interest rate. From late 2002 to late 2003, trough to peak, the fund nearly doubled. In boring bonds!

We’re seeing a similar setup right now… So the question is, should we be buying high-yield bonds now?

Despite the big move back in 2003, bond funds aren’t supposed to double in a year. They’re not designed to…

The basics of a bond are usually something like this: You invest $1,000 in a bond paying 5% interest. You receive your 5% a year in interest. Then in five years’ time, you get your $1,000 back. No possibility of triple-digit returns there. But when we bought our high-yield bonds, some of those $1,000 bonds were selling for only $600. When the prices went up from $600 to $1,000, we made great money – plus the interest too!

Since late 2003, high-yield bonds haven’t done all that well. DSU is only up about 16% in four years or so. But now, DSU is paying more than 11% in interest. Is DSU a buy once again? Let’s see…

The last time we bought high-yield bonds, we were in the midst of the dot-com bust. Companies were going under. And investors were fleeing anything risky. Prices fell on high-yield bonds, as people sold. So bond yields shot up. That’s when we swooped in and bought.

We’re seeing a similar situation now… Investors have fled anything risky. And bond yields have shot up. Take a look:

This chart shows how much more interest you can earn from high-yield bonds than from U.S. Treasuries. You see, Treasuries are considered one of the safest investments out there… but you don’t get a big percentage yield. Right now, they’re paying less than 4%.

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When high-yield bonds are yielding the same as Treasuries, investors don’t have much incentive to take on the extra risk to get a slightly higher yield. And when times get turbulent, like now, investors flee high-yield bonds… which pushes the yield up. That gets me interested.

One thing is different this time though… Take a look at the next chart:

Historically, high yields on risky bonds have coincided with high default rates. But default rates on bonds have not risen yet.

So one of two things will happen… Either the default rate will soar, or – if default rates stay the same – high-yield bond prices will soar, and you’ll make a mint in shares like DSU, starting now.

If you’re really bold, and really optimistic about the economy, you could buy high-yield bonds now, and possibly make a lot of money.

But if you’re not so bold, like me, and you believe that things aren’t different this time – that default rates will climb in this recession as they have in the last two – then you’ll wait.

If you look closely at the chart, you’ll notice we’ve seen something similar to this two times before…

In 1989, default rates were low, but interest rates started to spike. Default rates started to rise a bit late, but they didn’t stop rising until they hit double digits. And in 1998, the same thing happened, and default rates again started rising and didn’t stop until they hit double digits.

I expect defaults will rise – which would hurt anyone invested in a bond fund now. But will defaults get to double-digits? I don’t know.

The double-digit yields on funds like DSU are incredibly enticing. But when it comes to high-yield bonds, I’m not willing to bite, yet.

Good investing,

Steve