How to Make Money with Junk Bonds by Robert Levine

Author:Robert Levine
Language: eng
Format: epub
Publisher: McGraw Hill LLC
Published: 2012-06-15T00:00:00+00:00

Figure 12.4 BoA Merrill Lynch High Yield Bond Index Spreads Since the End of 1996

Type I and Type II Errors

In bond analysis, as opposed to equity analysis, the risk/reward dynamics are much different when you miss a good investment from when you make a bad one. I call the errors of making a bad investment Type I, and the errors of missing a good investment Type II. If you own a par bond and it runs into credit problems, the bond price could drop 50 points. If you miss a par investment that does well, you could have missed a 10-point (10%) rise. Thus, one Type I error is equal to five Type II errors. I never bemoan the fact that I missed a good investment. Before buying a junk bond, take the time to perform a good credit analysis. You make money by not making mistakes. In bond investing, defense wins.

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