General Electric: 5.8% Yield And 15% Potential Upside

| About: General Electric (GE)

General Electric's (NYSE:GE) Capital division has had an interesting decade. The segment was minting billions in profits leading up to the financial crisis but fears over Capital's holdings drove GE shares down to $6 during the worst days of the crisis. After those fears proved overblown Capital resumed massive dividend payments to the parent company. With Capital part of the consolidated GE, taking advantage of Capital's continuous fundamental improvement has been difficult or impossible. However, Capital issued a new exchange traded debt issue earlier this year in the 4.875% Notes due 2053 (GEH). By taking a look at this debt issue in this article, we'll take a look at one way to take advantage of investing in GE Capital's business fundamentals without owning GE common stock.

These shares were issued at $25 each and an annual yield of 4.875%, good for quarterly dividend payments of 30.47 cents per share. GE took care to issue these notes at a very advantageous time in the interest rate market and as such, the coupon yield leaves a bit to be desired. However, there is hope for those investors that would like to invest in GE debt because GEH is currently on sale. Following its IPO, GEH traded up to $26, or a premium of $1 over its liquidation preference, before the talk of tapering began by the Fed earlier this year. As interest rates began to rise, GEH took a beating and is now trading hands for just over $21. The good news is that you are being offered a chance to purchase GE debt at a large discount and enjoy a larger-than-expected yield on shares because at the current price, shares are yielding 5.8%, roughly 100 basis points higher than the stated rate.

In addition to this, you have the chance to receive a capital gain should these shares be called early by GE. While this isn't going to happen any time soon given interest rates and the fact that these shares were just issued in 2013, the current yield is still excellent and GE is a robust borrower to say the least. Principal protection is strong with this issue given the issuer, the great yield and the large discount to the liquidation preference brought on by rising interest rate expectations.

If you don't believe me, Moody's and S&P have rated this issue A1 and AA+, respectively, which means this debt is of investment quality. While you can find higher yields out there, you aren't likely to find one rated this highly while still providing such terrific income and such a large discount to par.

Understanding that investing in debt isn't for everyone, there are some risks that investors in these shares are subject to. First, interest rate risk is paramount with any interest-bearing security. As we've seen in just the past few months, even the expectation of rising rates can crush the value of debt instruments such as GEH. Thus, if we see another sharp rise in interest rates, you could see the value of GEH plummet further. Even though shares are trading at a large discount to par already, the discount could get larger. There is no way to avoid this risk when investing in interest-bearing securities as any debt instrument is only as good as it's issuer and coupon in comparison to similar issues in the marketplace.

Second, should GE get in trouble financially and default, you could lose your entire investment. I consider this possibility to be as close to zero as possible but it is something to consider; you are loaning money to GE so if it is unable to pay, you are on the hook for losses.

While GEH's current yield isn't as high as some other issues, its issuer is rock solid and has a terrific rating from the major rating agencies. And since it is trading for a sizable discount to its liquidation preference, the current yield is much higher than the stated rate. This discount also offers investors a bit of cushion against capital losses as a large loss has already been absorbed since the IPO earlier this year. While there are higher yielding issues out there, for safety and security while generating nearly 6% in current income, GEH is a great pick.

Disclosure: I am long GE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.