This Bull Has Legs

The longest bull market in history stampedes on

a standard overweighting. We will underweight and underyield, when necessary.

B.E.: What are your three best picks?

Hughes: First, it is Pemex Finance 845s of Feb ’07 [Petroleos de Mexico Finance bonds, 8.45% coupon, maturing in February 2007]. It is a financing vehicle that the national oil company in Mexico has used as a way of essentially being able to access the credit market. It is 51% owned by the Mexican government; but, surprisingly enough, while [Mexico is] rated double B, this has a triple B rating, so it’s investment-grade.
We have also used some of Waste Management’s (NYSE: WMI) bonds. I should have to say-with some clarification, in other words-we did not start out being eager investors.
We recognize-and this is a bad pun-that there is some odor as it relates to the security, or to the company. But we think, nonetheless, that the prospects are reasonable for it, for the investing horizon that we’re looking at and we are looking at the shorter-term bonds. We think the thing that it has going for it is that [Waste Management] is still the No. 1 company in that sector of the market. It has a huge work force. It’s 68,000 people.
The next one that we have is a [Yankee bond, a foreign bond denominated in U.S. dollars] and it’s an electric company in South Korea. Again, it’s a shorter term maturity. It happens to be the 63/8s of December ’03 [bonds with a 63/8% coupon maturing in December 2003]. Again, we’re driven by the fundamentals as much as by how this particular security happens to be structured. It, too, has a heavy government ownership component which, of course, is not unusual for foreign entities.

DIAMOND: In general, if you want to buy corporate bonds, those most likely to outperform are those that are out of favor; the ones investors don’t like; the ones manag
ement has made a commitment to and is demonstrating a focus on improving the balance sheet of; and-and this is important-the ones equity investors have an interest in management improving their balance sheet, which doesn’t always occur.
One such company that did that last year was Seagram (NYSE: VO). They were downgraded several notches. They came to an equity-oriented group and said, “No, I know it might make sense to you if we buy back our debt, but what is important to us is that we improve our balance sheet because we don’t like our ratings.” And there are certain sectors where equity investors care that a company can have cost savings if the company increases its debt rating.
We think that European banks’ [Yankee bonds], for example, will benefit from consolidation, much like U.S. domestic banks [bonds] benefited from the consolidation over the last several years. Their balance sheets improved; their ratings improved. If you can get in at the beginning part of that consolidation trend, I think you’ll make money and we think European banks have an incentive with the euro. Most large firms want to have a broader footprint in

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