PREFACE

Bonds and other fixed income investments used to be the boring part of most investors’ portfolios. They provided the safe foundation on which the riskier investments, like equities, commodities, artwork, derivatives, jewels, and other investments, could rest. No more. Alice has gone through the looking glass. The debt of Western governments, which was once the safest investment in the world, has become highly speculative. We live in a world which is floating on a sea of debt that can’t be repaid except by the wholesale printing of money. Thirty years ago, people traded stocks and held debt. Today, many experienced investors believe it is wiser to do the reverse.

This book tries to equip its readers with the concepts they will need to understand to be successful in today’s more challenging fixed income market, including:

Why index selection is probably the most important part of selecting a floating rate note
Why the call date of convertible bonds is so important
Why investors must compare the relative return of bonds with different compounding frequencies and calendar conventions
Why it often makes sense to avoid bonds with high yields to maturity (YTM)
Why YTM is such a poor metric of true return
Why some investors have no exposure to inflation
Why bonds with the same credit ratings and same maturities should offer different YTMs
Why the total spread and credit spread are very different

In addition to those concepts, this book presents numerous tools, including:

Using advanced yield measures that incorporate taxes, reinvestment, and/or inflation to maximize horizon analysis
Using duration to find the trade-off point between interest risk and reinvestment risk
Using modified duration to measure interest rate risk
Using convexity to measure volatility risk
Stacking the deck by riding the yield curve
Constructing immunized and dedicated portfolios
Valuing embedded options
Determining if a bond’s credit spread provides adequate compensation for the risk

What this book omits are basic markets stats such as the size of the US Treasury market or the historic yield range for US corporates. These stats constantly change and are readily available on the web, so I saw no reason to waste book space on them.