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Michael McDonald

Michael McDonald

Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance…

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Is This The Time To Buy Energy Bonds?

With the election of Donald Trump as President, the bond market is seeing a tremendous amount of turmoil among high quality issues. Interest rates on the long end have risen substantially as investors anticipate faster economic growth and higher inflation. All of this has led investors to shift out of bonds and into equities at a rapid pace. Energy investors following suit might be making a mistake.

Energy bonds these days are often short term debt with only a few years until maturity and relatively high interest rates. The debt for many energy companies is often sub-investment grade as well. Energy investors are making a mistake by giving up on such debt too easily.

While it is true that a rapid rise in interest rates would hurt the value of all existing bonds, energy bonds are probably better insulated than most. For one thing, by issuing short term debt the bonds have limited exposure to duration risk (i.e. interest rate risk).

More importantly, interest rates are not going to stay elevated unless the economy picks up steam, and if the economy picks up steam then oil prices will rise as well. Oil prices have been low as much because of lackluster demand as because of excess supply, and a stronger economy will help cure that demand shortage. And of course if oil prices pick up, then that will boost the financial stability of all but the weakest of energy companies which in turn should help lift bond prices.

The conclusion one might draw then is that…

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