If you feel that the market’s volatility resulting from its buffering by a variety economic events has you wondering about your perspicacity in selecting investments, consider a recent move by the Federal Reserve.
The central bank bought $3 million of Waste Management’s bonds due 2024 at 105 cents on the dollar. However, Waste Management redeemed them at 101 cents on the dollar, resulting in a loss of $120,000. This according to the Fed’s latest update to its secondary market facilities purchases.
While not massive, the transaction highlights the risks the Fed takes when it leaves the safety of sovereign debt and ventures out into the niche corners of the bond market.
Since announcing in June that its acquisition of Advanced Disposal Services will not close until a later date, Waste Management decided to redeem the $3 billion of bonds that financed the deal well below their recent trading level.
Sold in May 2019, the bonds have special mandatory redemption language that allowed Waste Management to redeem them should the deal not close by a certain date, July 14 in this case.
A more critical error resides in the realm of individual investors and one that seems incredulous in hindsight. Specifically, amateur investors who bought J.C. Penney shares as the retailer went bankrupt are now pleading with a judge to spare them from a complete loss.
“I hope and pray for you to consider the shareholders,” wrote a 50-year-old individual investor in a letter dated May 25. This was one of dozens of letters sent in recent months to the Texas court overseeing the case.
This investment error is due in part to a growing number of investment amateurs who are driven by lockdown boredom and are lured by free online trading. Unfortunately, such trading on Wall Street is viewed as a potentially lucrative past time.
Speculation by amateurs is nothing new, but this sudden buying of shares in bankrupt companies is unusual. Hertz Global Holdings, oil driller Whiting Petroleum, and J.C. Penney saw their share price rise, despite being in Chapter 11.
Those gains are fleeting at best, leaving the uninitiated with little to show for their efforts, other than learning an expensive lesson. The corporate bankruptcy process generally results in a disappearance of shareholder equity. It is proffered in every investment text that all creditors must be made whole before shareholders receive anything. For those holding J.C. Penney shares, there is little to suggest the outcome will be different.
Those who insist on investing in struggling companies would be well advised to ignore companies in or near bankruptcy, said Fred Ringel, a partner and co-chair of the bankruptcy department of a major law firm.
“People who buy equity hoping that they’re not going to get wiped out in a bankruptcy just don’t understand the process. It is baffling to see investors putting cash into bankrupt stocks given the complexity of the restructuring process.” Ringel said.
J.C. Penney filed for Chapter 11 in mid-May. After climbing as high as 67.9 cents last month, the company’s stock is trading at around 30 cents.
Some of the company’s most junior debt, which is still ahead of common shares in the repayment line, is quoted at less than 2 cents on the dollar. This implies that nothing will be left for shareholders.
Some shareholders feel letdown by media reports citing several potential bidders, including Amazon. Others somehow assumed a buyer would somehow emerge and pay cash for the outstanding shares. Yet that is practically unheard of in bankruptcy. Any asset value that remains after court costs belongs to lenders with senior collateral claims.
Once the senior claims are paid, other creditors, including unsecured lenders and vendors are next in line. J.C. Penney entered bankruptcy with more than $2 billion in secured debt and $8 billion in total debt. There is no hope. The tragic part is that with so many quality investments available as low hanging fruit, why select from that rotting on the ground.
Lauren Rudd is a financial writer and columnist. You can write to him at LVERudd@aol.com. Phone calls accepted between 9 AM and 3 PM at (941) 706-3449. For back columns please go to www.RuddReport.com.