Stock Markets and Safer Choices — There may be a better way

In a recent article in The Economist, the author bemoans the fact that today’s “low interest rates leave savers with few good options.” True, but a limited analysis.  Carofin suggests savvy investors, and particularly relative newcomers to private investments, look closely at private debt.  Let’s dig a little deeper.

If they were planning for #retirement, this couple might have turned to U.S. Treasuries 40 years ago.  Unfortunately, that’s not a viable option for the time being.  The two-year note is yielding 0.38% — a stark contrast to what Jamie Lee Curtis, in her role as a prostitute in the 1980’s comedy, “Trading Places,” would have earned (~18%).  Returns in other “safe” choices are equally lackluster, e.g., bank accounts, money-market mutual funds, and other short-term instruments.

The author goes on to say that an alternative is to invest in riskier assets, such as equities. What does that mean for an average investor?  The S&P 500, commonly considered the benchmark measure for annual returns, has earned a 9.22% and a 10.69% annualized return over the last five and ten years, respectively.  However, the YTD return for the S&P 500 Index as of October 30, 2020, is almost flat[1].

Analysts and pundits are talking about the “frothy” valuations of equity investments. My financial advisor noted in a call on Friday, October 30, that 2019 may have been the one really good year the stock market gets every 5-7 years. With the added uncertainty that COVID has injected in many industries (think Travel, Hospitality, Convention centers), less experienced investors should observe the yellow flag before racing into more public or private equity.

So, what are investors to do?

Drawing from a Carofin White Paper titled “Alternative Investments & Their ROI’s: What should I be getting from these investments?”, I would draw your attention to – from among the numerous types of alternative investments – private, senior debt.

What does senior mean? This refers to the “priority” that an investor has in the event of a company liquidation. In other words, you would get paid ahead of all others in case something goes wrong and the company declares bankruptcy.  Because of that seniority, an investor should expect a lower return than one that carries a riskier profile, such as sub-debt, or mezzanine financing.

Now, there’s risk in every form of security (or note). Private notes are fixed-term, meaning you cannot get out until maturity. And, in the case of notes that Carofin offers, each is a loan to a specific company, so you have to conduct due diligence on the strength of the company, its cash flow, and ability to repay the notes in a timely manner.

However, depending upon factors such as the size and strength of the issuing company, investors should be offered anywhere from 7-16% returns for short-term (1-3 year) senior notes.  And, because many (if not most) of these amortize (the principal is paid down over time, just like a conventional mortgage), the risk to the investor reduces over the time span of the note.

Are these a panacea?  No.  But, if you are not sure which direction the public markets are going over the next few years, consider this.  Setting aside a portion of your portfolio over time into some private notes may reduce the volatility in your portfolio while generating a steadier return. It surely will be an improvement over the market’s 2020 YTD return. Doing so in a tax-advantaged retirement account may be an even smarter strategy to consider.

Happy investing. For more information about Carofin, please click here.


1 Indices are unmanaged and investors cannot invest directly in an index.  Unless otherwise noted, the performance of indices does not account for any fees, commissions, or other expenses that would be incurred.  Returns do not include reinvested dividends.  The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general.  It is a market value-weighted index with each stock’s weight in the index proportionate to its market value.





In the interest of accessibility, here are some terms that any investor should be familiary with.