World Gone Mad, Part 2: “Perpetual Preferred”
Towards the end of a credit bubble, ideas that might have seemed crazy in more boring times are not just accepted but embraced by investors desperate to keep the high that comes from effortless bull-market profits.
In the junk bond bubble of the late 1980s, for instance, there was the “PIK preferred,” a kind of stock/bond hybrid that paid its holders in more securities (PIK stood for “payment in kind”). Companies could issue them with zero near-term cash flow consequence while credulous investors bought them for their “high yields.”
In the 2000s – as fans of The Big Short already know — bonds backed by mortgages written to people with no or unknown incomes were snapped up by pretty much everyone from major European banks to mainstream US mutual funds.
These and many other past credit bubble “innovations” eventually blew up, decimating nest eggs and imparting useful life lessons to savers and money managers.
But those previous versions of funny money pale next to what’s being invented these days. Negative-coupon bonds, obviously, belong at the head of any such list. But something even stranger is now spreading through low-interest rate countries: the perpetual subordinated bond. In Japan for instance:
(Nikkei) – Yield-hungry Japanese insurance companies and other domestic institutional investors are aggressively pursuing a type of perpetual subordinated bond issued by the country’s three megabanks.