Wednesday, July 18, 2007

High-Grade Bonds ?

Definition - A bond with a rating of AAA or AA, the two highest ratings.

Bear Stearns dropped the bombshell today on investors in its two sub prime hedge funds. The company stated in a letter to investors that "the preliminary estimates show there is effectively no value left for the investors in the High-Grade Structured Credit Strategies Enhanced Leverage Fund and very little value left for the investors in High-Grade Structured Credit Strategies Fund as of June 30, 2007."

The real stunner, at least for me, was this line in the letter, where they gave the cause of the loss in the value of the fund,

“Unprecedented declines in the valuations of a number of highly-rated (AA and AAA) securities.”

Well, I’m sorry but AA and AAA securities don’t go from par to effectively nothing in a couple of weeks. Well maybe if you lever up 5 to 1 they do but someone at the ratings agency or Bear didn’t do their job.

So just imagine the meeting where Bear salesmen were pushing this fund on its clients.

“Well isn’t this a little risky?” said the client.

“Oh no, don’t worry, we only buy AA and AAA rated bonds,” said the smiling salesman.

“Oh, OK,” said the client

“We even put the words – High Grade – in the name of the fund to make you feel safe,” said the smiling salesman.

“Yes, but what about the word – leverage – that’s in there also?” said the client.
“Oh, don’t worry about it, we know what we are doing here. We are experts at this type of thing,” said the smiling salesman.

I even had to sit my wife down this morning and explain to her why this would never happen to the Hedge Fund where we have all of our life savings invested.

"I don't buy crap like this," I said.

"Well make sure you don't. I don't want to be working for a living when I am 70 years old," she said.

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