A number of years Warren Buffet wrote about the term equity bond and Larry Sarbit of Sarbit Advisory Services recently revisited the term in the article Hunting for the elusive equity bond in the face of economic uncertainity. What is an equity bond? Mr. Buffet points out bonds pay a predefined amount of money at specific times called coupons. On the maturity date of the bond, a predefined amount of money is returned to the investor. Equites has a maturity date of infinity with varying rates of return over time.

Mr. Buffet points out there is link between the two ideas – an investment is the purchase of assets that are not consumed today but will be used to create wealth. A successful investment is putting a dollar into ownership and receiving more than a dollar back at some time in the future. The important thing is the expectation of the return between a bond and an equity is same.

For an equity investment what is the coupon? In most cases it is nearly impossible to figure out what the coupon will be.

For commodity linked business, the individual company has no control over the price of the commodity which translates into earnings can and do vary year to year.

For retailing companies, there is a small barrier to entry which means you are only as smart as the dumbest competitor. Mr. Buffet says in this situation if a competitor sells at a loss to gain market share, what choice do you have but to match it?

Some industries are seeming more predictable for example cellphone networks, although there will be some churn, contracts will dictate the company’s revenue or there should be free surprises.

There are companies which tend to have a sustainable competitive edge, small required capital inputs over the long term, increasing free cash-flow and good people as managers of the companies. This allows for the investor to have a reasonable accurate estimate of what the range the coupon will be in.

To purchase companies such as this, you have to buy in when they have dips in their stock price for it you buy at the high end and hope, hope is a great thing to have but is not an investment strategy. Purchasing at the low end with reduce the risk of capital loss and you should be better off in the long run.

Linking to dividend paying companies, while the dividend can be seen as a coupon or it helps in holding the company for a long time all the other features of why it is a long term profitable company has to evaluated over the year to ensure you want to continue to hold or it is better to seek alternatives. Looking at the concept of equity bonds will help you

There are more questions than answers, till the next time – to raising questions.