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A company's best word is its bond

There's something about the four-letter word that still manages to fan public outrage despite centuries of linguistic evolution. Even mentioning the term "four-letter word" sends vast numbers of Australians into a lather.

There's something about the four-letter word that still manages to fan public outrage despite centuries of linguistic evolution. Even mentioning the term "four-letter word" sends vast numbers of Australians into a lather.

Not so long ago the S-word was considered completely out of bounds and it was only recently that the B-word was accepted, perhaps because it was excused on the technicality it had seven letters and so didn't strictly conform to the four-letter format.

How things have changed.

Nowadays even the F-word has become part of the accepted patois across the developed world, to the point that it now is one of the most widely used and adaptable expressions in modern English one of the few words that can be tailored for use as a verb, noun, adjective or adverb.

There's no accounting for public taste. But as far as investors go, only one word is considered an abomination, and that is the D-word. That's D for debt. D-E-B-T.

As far as dirty words go, debt ranks right up there, or right down there depending on your point of view, with the worst of them.

In the past couple of years, we've witnessed the implosion of some of our former national heroes, those bull-market devotees of debt. Eddy Groves watched his ABC Learning unravel at a rate of knots, David Coe couldn't prevent the collapse of Allco Finance and Babcock & Brown's founder Phil found it wasn't so easy being Green as the company torched $10 billion of other people's cash.

At least Eddy provided his shareholders with a handy selection of four-letter epitaphs A, B and C. (Remember B has seven letters but still is classed in the four-letter words.)

But, in a perverse reversal of logic - as the financial storm sparked by the European and American debt crisis threatens to engulf the developed world - many of the world's most sophisticated traders have sought out debt as a safe haven.

One reason sharemarkets globally are sinking, apart from the prospect of a global recession, is that the big money is shifting out of stocks and into debt - primarily US government bonds but also other forms of debt such as corporate bonds, something local investors generally shy right away from.

That flight to American government debt - even though it has just been downgraded - is a big reason for the plunge in the Australian dollar in the past couple of days.

When it comes to financial markets, Australians think only of stocks. A punt on the market usually entails a plunge either into a particular company or a sharemarket sector or slapping cash into an indexed fund that spreads your money over the top 200 companies via a computer program. You'll pay a fee for that too. Talk about money for old rope.

But the debt markets? The accepted view is that they are way too complicated and there's a certain truth to that. Even market-savvy stockbrokers shy away from debt markets. They don't trust them and they don't trust those who work in them. It's calculators and butter knives at 20 paces.

This may come as a shock but debt markets rule the world. In fact, they are much bigger - by a factor of two or three times - in each region. It was debt traders who created the American real-estate explosion that morphed into the sub-prime debt crisis. And it was debt markets that first realised there was a crisis - a good six months before Wall Street stock traders cottoned on - back in mid-2007. Wall Street couldn't even keep pace with the lemmings.

Now international debt markets again are calling the shots. They are demanding that bankrupt European nations such as Greece, Italy, Spain and Portugal come clean, even if that means sending some of Europe's biggest banks broke.

So where could there be any opportunity amid all this gloom, when every day we are regaled with new tales of woe and forecasts of impending economic doom? Should you simply put all your remaining cash under your pillow?

In a bizarre twist, as the latest episode of the financial crisis has gripped the market psyche, central banks and some of the world's biggest investors have begun shifting trillions of dollars out of what they reckon may become dodgy investments and into US government treasuries - short-dated debt.

Given America was one of the fundamental causes of the crisis and that its central bank is running short of options to kickstart the economy, it seems a strange thing to do. The main reason they cite for this odd behaviour is the liquidity in US bond-market trading. If they need to get out in a hurry, they can.

The returns are pretty ordinary, especially after President Barack Obama's "Twist and Shout" initiative on Wednesday which aims to drive long-term interest rates well below 2 per cent - hardly what you'd call a handsome return.

This is the kind of environment where debt traders come into their own, the kind of situation that gets them all excited.

Australian banks and many of our biggest companies have been raising debt on local credit markets in the past three years at very attractive rates. And, unlike shares, investors have a much higher level of confidence they will be repaid once the debt matures.

Our banks have been big borrowers in recent years. Most bond-market traders reckon if you stick your hand up, a bank will shove a bond into it.

Our big four banks, in particular, are keen to reduce their borrowing from offshore wholesale markets - after getting caught in the financial storm three years ago - and have lifted their domestic borrowing.

But many of our big companies, wary of borrowing from the banks, also have batted up corporate bonds in an effort to raise cash. Many of these are offering terrific yields with a guarantee of getting you money back in full at the end of the term. That's something that is not available on the sharemarket.

It's an area that many of our big superannuation funds have been pursuing. Not only is it safer than shares, the returns are good. If you are wondering how that could be, given the sharemarket reckons everything is turning to the S-word, you wouldn't be alone.

Partly it is because major corporations - in Australia and in many parts of the developed world - faced up to what Western governments now are unwilling to confront.

They bit the bullet three years ago, paid down their debts, took the hit to their balance sheets - and put their finances in order.

According to big funds managers, such as local outfit Perpetual, Australian corporate debt may well be the new safe haven for investors. They reckon returns far outweigh risks because investors, so scared of debt after the meltdown three years ago, inadvertently have created an investment opportunity.

Australian default rates are incredibly low by international standards and our economy is in infinitely better shape than our traditional trading partners in the West.

It just goes to show. Even in a downturn, there's always someone looking for a way to turn a B, so they can earn some C and take home the D. (Buck, Cash, Dosh.)


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