This post discloses two investment ideas we had this past month.  We hope this communication 1) helps you understand how your hard-earned capital gets invested in today’s turbulent marketplace and 2) sheds light on how our process and activity is quite different than traditional retails advisors. Whenever headlines grab our attention, we investigate and tend to look for opportunities.  Two such headlines occurred recently, one pertaining to General Electric and the other Pacific Gas & Electric.  Below are our thoughts and how we transacted in each scenario.

General Electric - A Go

What we bought:  GE 4.125 34 @ +275/olb.

Why did we buy it?

General Electric is a company whose products or services we likely encounter every single day – whether turning on the lights, turning up the heat (here in Iowa’s winter), or flying on a plane.  However, it seems lately the market is turning out the lights on GE.


No question – GE has a lot of debt (about $115 billion outstanding).  The company also has a lot of cash ($35 billion) and a lot of assets (think Baker Hughes, lights, jet engines, gas turbines, etc). Unfortunately, GE also has a lot of liabilities – both known and unknown.  In our opinion, they will be spending a lot of time shedding assets over the coming years to pay down the debt and fix those liabilities.


The question is: Do they have time?  GE currently has $20B of undrawn bank lines, which provides liquidity out to 2020.  They also have positive cash flow, and since, they have cut the dividend.  So, how much do they have to deleverage?


The company’s forecasted EBITDA is about $14 billion, and its goal is to achieve a 2.5x Net Debt/EBITDA ratio – a respectable ratio for a low investment grade credit (BBB tier).  This means it needs to reduce net debt to about $35B – or gross debt to $70B (adding back the $35B of cash).  That is a lot of assets to sell.


Consider this –  a sum of parts analysis. Well, at the time of this article, GE was at $9 – which gives you a 22% gain.  We are buying GE debt at $82. If the stock is worth anything positive, the bonds are worth par (only at maturity), and they are still subject to spread and rate risk.  However, the bonds were at $97 before this episode. Hence, there would be about an 18% gain if they go back to where they were (spread and rate wise).  Add in the $4.4 of coupon payments, and you are at 22%.  Would you rather achieve 22% by lending to GE or achieve 22% by owning the equity?  The answer to us is obvious for many reasons…


We legged into the GE bonds during the initial downdraft.  We have room to add, and we have flexibility to optimize economics and tax outcomes.  And while we wait, we are clipping a 5.3% current yield. Oh how the mighty have fallen.

Pacific Gas & Electric - A No

What we looked to buy:  PCG senior debt or preferreds.

Why didn’t we buy it?

Many are aware of the tragic wildfires in California. As some of you might remember, PG&E went bankrupt in early 2000s. At the time, they were short electricity, while Enron was manipulating the wholesale market.  PCG’s investable securities presented many attractive investment opportunities.


Early in the process when outcomes were uncertain, you could have bought the first mortgage bonds in the high 70s/low $80s (remember these are $100 par value).  These securities never missed a coupon payment during the bankruptcy process.  On the other hand, later in the process, you could have bought preferred stock (5% Series C) in the low teens ($25 par) when PCG had disclosed they would pay the accumulated accrued interest (about 3 years worth).   Pacfic Gas filed its plan in January 2003 and emerged in April 2004.  See the $4 payment below for that payment:

Today, the company has only unsecured debt, and there is not much information on the liability.  Based on estimates from Wall Street and California politicians, the liability for PG&E clearly exceeds their financial ability to meet that liability. In other words, they are at risk of bankruptcy.  PCG drew down their bank lines and don’t have a dividend to cut, leaving PCG without liquidity levers. Liquidity is the number one reason companies go b/k. If there were FMB to purchase, we might be inclined to start a position. However, anything besides a secured piece of paper in a company facing imminent threat of bankruptcy is just gambling.  That is something we choose not to do.