Third Avenue Focused Credit Fund takes rare step, seeking an orderly liquidation as j

[jim584672]

Funds that are closed end do not have any underlying liquidation risk since all trades are secondary market. Also ETFs are mostly secondary market, the exception is when price disparity forces a buy or sell of a creation unit, usually a block of 50,000 to the underlying securities. The real risk is from traditional open ended funds where you buy and sell directly to the fund itself.

 

[MichaelB]

Funds that are closed end do not have any underlying liquidation risk since all trades are secondary market. Also ETFs are mostly secondary market, the exception is when price disparity forces a buy or sell of a creation unit, usually a block of 50,000 to the underlying securities. The real risk is from traditional open ended funds where you buy and sell directly to the fund itself.

I'm not sure about the bond ETFs. As you point out, the mechanism that keeps the ETF market price close to the NAV is the creation unit. If the bonds are suffering from limited liquidity (or supply) and a creation unit is not available there could be a substantial difference in price. It just seems to me that the ETF mechanism does not apply well to bonds.

 

[jim584672]

If the underlying becomes illiquid to the point of preventing a creation unit, then the ETF will start to trade at a discount. You will be able to get out, just not a price that reflects the underlying, sort of like a closed end fund.

 

[Lsbcal]

According to the detail in the link, Vanguard Total Bond Market has 5% in holdings that "might be difficult to sell in 7 days". That doesn't seem like much, especially compared with Loomis Sayles or Dodge and Cox.

Michael, your comment made me actually look at that article's table.

What happened in 2008 was that illiquid positions made some entities (hedge funds?) sell the more liquid stuff. That was supposedly why inflation indexed Treasuries took a dive. So by analogy if such should occur now it wouldn't be just those lower quality less liquid bonds but maybe even further up the credit quality ladder to the liquid issues.

There have been a few articles over recent months saying how thin the bond market liquidity was getting. I do not understand the mechanics of all this but got the message of stresses in the bond market. Credit spreads have already widened to a pretty high level. The yield curve is steep and business conditions are not indicating an imminent recession with consequent stresses on lower quality companies. I would really be concerned if equities were really tumbling (ignoring last week).

Still I'm a bit worried about my intermediate bond funds. I'll be reorganizing my deck chairs to increase credit quality. A few I have:
DODIX credit quality = BBB (will decrease this in favor of VFIDX)
VFIDX credit quality = A
BOND credit quality = ?? (M* does not rate this one but management is quick on their feet ... I think. For more info see: PIMCO ETFs - PIMCO Total Return Active Exchange-Traded Fund)

 

[brewer12345]

The high yield market periodically gets stupidly optimistic and periodically blows up. This is the way this market has behaved since inception. So with spreads ballooning despite a relatively decent economic backdrop, there will probably be a nice opportunity to buy cheap high yield soon.

 

[Mulligan]

Michael, your comment made me actually look at that article's table.

What happened in 2008 was that illiquid positions made some entities (hedge funds?) sell the more liquid stuff. That was supposedly why inflation indexed Treasuries took a dive. So by analogy if such should occur now it wouldn't be just those lower quality less liquid bonds but maybe even further up the credit quality ladder to the liquid issues.

There have been a few articles over recent months saying how thin the bond market liquidity was getting. I do not understand the mechanics of all this but got the message of stresses in the bond market. Credit spreads have already widened to a pretty high level. The yield curve is steep and business conditions are not indicating an imminent recession with consequent stresses on lower quality companies. I would really be concerned if equities were really tumbling (ignoring last week).

Still I'm a bit worried about my intermediate bond funds. I'll be reorganizing my deck chairs to increase credit quality. A few I have:
DODIX credit quality = BBB (will decrease this in favor of VFIDX)
VFIDX credit quality = A
BOND credit quality = ?? (M* does not rate this one but management is quick on their feet ... I think. For more info see: PIMCO ETFs - PIMCO Total Return Active Exchange-Traded Fund)

There has been saber rattling about bond liquidity in general for several years and could cause a crisis. From my understanding, after bank tier capital changes went into effect from last crisis, has led to investment banks not being able to hold as robust an "inventory of bonds". So they are more aligned with selling and buying on demand than a third party providing the liquidity needs to either absorb or sell quantities of them.



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[marko]

The high yield market periodically gets stupidly optimistic and periodically blows up. This is the way this market has behaved since inception. So with spreads ballooning despite a relatively decent economic backdrop, there will probably be a nice opportunity to buy cheap high yield soon.

+1

 

[Fedup]

What other Vanguard funds or other fund family has hidden junk bond investment in them, like Wellington, what percentage? Does everybody know?


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[audreyh1]

What other Vanguard funds or other fund family has hidden junk bond investment in them, like Wellington, what percentage? Does everybody know?


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What you want to do is look at the portfolio management or characteristics like here. https://personal.vanguard.com/us/funds/snapshot?FundId=0021&FundIntExt=INT#tab=2

Investment grade is BBB and above, or Baa and above. So anything below that is "junk". For Wellington only 0.1% is below Baa, so it's almost 0.

 

[meierlde]

Interesting that a number of startups inspired by the Amazon model want to replace the call the broker to buy bonds with an electronic exchange. E-Trading Disruptors Seek Untapped Liquidity in Corporate Bonds - Wall Street & Technology

The idea is to handle the huge number of bond issues thru an electronic exchange and eliminate the middle man that exists today. It would be investor to investor trading. After all if Amazon can sell all the stuff it does including from third parties, then it can be done for bonds. Of course this is another knife in the back for the old fashioned fixed income part of the big banks.

 

[audreyh1]

Michael, your comment made me actually look at that article's table.

What happened in 2008 was that illiquid positions made some entities (hedge funds?) sell the more liquid stuff. That was supposedly why inflation indexed Treasuries took a dive. So by analogy if such should occur now it wouldn't be just those lower quality less liquid bonds but maybe even further up the credit quality ladder to the liquid issues.

There have been a few articles over recent months saying how thin the bond market liquidity was getting. I do not understand the mechanics of all this but got the message of stresses in the bond market. Credit spreads have already widened to a pretty high level. The yield curve is steep and business conditions are not indicating an imminent recession with consequent stresses on lower quality companies. I would really be concerned if equities were really tumbling (ignoring last week).

Still I'm a bit worried about my intermediate bond funds. I'll be reorganizing my deck chairs to increase credit quality. A few I have:
DODIX credit quality = BBB (will decrease this in favor of VFIDX)
VFIDX credit quality = A
BOND credit quality = ?? (M* does not rate this one but management is quick on their feet ... I think. For more info see: PIMCO ETFs - PIMCO Total Return Active Exchange-Traded Fund)

Seems like you could just target 1/2 DODIX and 1/2 VFIDX and then rebalance whenever they deviate from 50/50.

It's so hard to see credit issues ahead of time. I prefer to be diversified then rebalance after the fact.

Anyway - I don't tend to figure things out ahead of time.

I'm still miffed that DODIX waded into lower credit quality issues this year. MWTRX which is usually more aggressive than DODIX in terms of credit quality has half the junk exposure at present!

I've already taken my planned action, but wondering if I should do more.

 

[audreyh1]

It's ironic, that just when the Fed is almost guaranteed to raise interest rates this coming week, we are seeing a credit crisis in high yield, which drives a flight to quality, which causes treasuries to rally! Which one will have the bigger impact on intermediate and long-term bond rates in the coming year? I think flight from high yield will have a bigger impact than the Fed raising short-term rates.

 

[Mulligan]

It's ironic, that just when the Fed is almost guaranteed to raise interest rates this coming week, we are seeing a credit crisis in high yield, which drives a flight to quality, which causes treasuries to rally! Which one will have the bigger impact on intermediate and long-term bond rates in the coming year? I think flight from high yield will have a bigger impact than the Fed raising short-term rates.

I wonder if the collapse of high yield market is more from the metals, mining, and energy areas which comprise almost a third of that market than say the whole area in general coming down.


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[audreyh1]

I wonder if the collapse of high yield market is more from the metals, mining, and energy areas which comprise almost a third of that market than say the whole area in general coming down.


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I think it's two things:

1. Is the collapse of commodities and energy, the latter which had racked up quite a bit of cheap debt during the recent U.S. Oil boom.

2. The huge number of retail (and other) investors who flocked into high yield bonds and MLPs chasing yield in 2014.

It appears that the high yield issues extend beyond commodities and energy, from what I read.

 

[bmcgonig]

It's ironic, that just when the Fed is almost guaranteed to raise interest rates this coming week, we are seeing a credit crisis in high yield, which drives a flight to quality, which causes treasuries to rally! Which one will have the bigger impact on intermediate and long-term bond rates in the coming year? I think flight from high yield will have a bigger impact than the Fed raising short-term rates.

If credit gets worse on Monday or Tuesday I think that they will not raise. Would be very strange indeed.


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[audreyh1]

If credit gets worse on Monday or Tuesday I think that they will not raise. Would be very strange indeed.


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It does seem like that could stay their hand.

 

[audreyh1]

Still I'm a bit worried about my intermediate bond funds. I'll be reorganizing my deck chairs to increase credit quality. A few I have:
DODIX credit quality = BBB (will decrease this in favor of VFIDX)
VFIDX credit quality = A
BOND credit quality = ?? (M* does not rate this one but management is quick on their feet ... I think. For more info see: PIMCO ETFs - PIMCO Total Return Active Exchange-Traded Fund)

Lsbcal - I'm curious why you choose VFIDX, a predominantly corporate bond fund (even though investment grade), instead of a fund with much higher credit quality (AA rated) like VBTLX.

During a period of credit crisis, or market turmoil, the highest credit quality bond funds tend to behave the best. Even investment grade corporate debt can get knocked hard during liquidity scares.

 

[Lsbcal]

Lsbcal - I'm curious why you choose VFIDX, a predominantly corporate bond fund (even though investment grade), instead of a fund with much higher credit quality (AA rated) like VBTLX.

During a period of credit crisis, or market turmoil, the highest credit quality bond funds tend to behave the best. Even investment grade corporate debt can get knocked hard during liquidity scares.

Well the answer is a bit complicated. First, I have an indicator that is my own concoction to indicate when to reduce stock positions. It turns out that a combo of that and yield curve flattening is a good way to move from an investment grade intermediate bond fund to an intermediate Treasury fund.

I've looked at this with data from July 1987 to now and it seems a gentle way of sidestepping times when credit risk comes up. I always remind myself a 1930's crisis could happen (but probably will not). So that is my current plans and not suggesting anyone else should like this approach.

Also, VFIDX is an index fund (no active management risk) with low ER and a good track record even if one does not trade it. Compared to DODIX it comes out looking pretty good. It looks even better when I employ the switching method to Treasuries.

Here is a table comparing some of the bond funds I own or am considering:

FWIW, I'm probably going to sell my DODIX plus some BOND. I'm then going to be holding VFIDX (largest position), VBTLX, and BOND.

I would welcome any constructive criticism.

 

[mathjak107]

right now my own holdings are a mix of vanguard vbtlx and fidelity total bond fund , fidelity short term bond , fidelity corporate bond and fidelity limited term bond fund .