December 27, 2015 Here Is My Handle

Risk/Reward Vol. 289

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Here is my handle
Here is my spout
When I get all steamed up
I just shout
Tip me over and pour me out’---lyrics from “I’m a Little Teapot” sung by Children

“So tell me why, haven't I heard from you
Tell me why, haven't I heard from you”---lyrics from “Why Haven’t I Heard From You” sung by Reba McEntire

“And when we say
Yeow! A-YIP-I-O-EE-AY
Were only say-in "you're doing fine Oklahoma,
Oklahoma OK"---lyrics from “Oklahoma” by Oscar Hammerstein II

One of the lessons taught by famed investor and stock chartist, Bill O’Neill (founder of Investor’s Business Daily), is that one needs to be watchful when buying a battered stock early in its recovery. If one charts any such recovery, one sees a cup and “handle” pattern. Indeed, O’Neill doesn’t buy until the cup is complete (that is the price has fully recovered) and a handle has formed. His reasoning is simple. There is too much resistance during any recovery from those who see any price increase as an invitation to cut losses by selling. Those sellers make the trip up the right side of the cup perilous. I faced that peril this week in some of my VNR preferred stock positions about which I crowed last week. I exited a few but I did not “get all steamed up”; nor did I “shout”; nor did those price retreats “tip me over” into a loss. Having read O’Neill, I knew the road to recovery could be rough. What I did do was sell once I approached my sell limit and buy back once recovery appeared on sounder ground. By week’s end, every position was back in black with my original investment up 53% in less than a week.

Despite Thursday’s retreat, the week was a good one for Mr. Market as both major indices finished up 2.75%. Some claim this was a “Santa Claus” rally, but I think it had more to do with the exit of the Federal Reserve as THE dominant market force. Nothing---not a peep---was heard from the Fed last week, and I do not expect much news from the Fed until well into Q1. ‘So tell me why haven’t we heard from the Fed/Tell me why?” Because along with its decision to raise short term rates last week, the Fed set a reasonable and predictable path of rate increases for the next 12 months. These increases are now factored into short to medium term bond prices including the all-important US 10Year Treasury Bond, the yield on which has held steady in the 2.2 to 2.35 range for several weeks. This is very good news for income investors such as yours truly and I believe for the stock market in general.

I continue to add to preferred stock positions and have opened a few others in the mortgage real estate investment trust sector which took a beating these past several months as the Federal Reserve dithered on a rate increase. In addition, I opened a position in Oneok (OKE) an Oklahoma based oil and natural gas pipeline company that issued guidance early last week confirming its intention to maintain a healthy 11% dividend. This was welcome news and caused me to “say/ Yeow! A-YIP-I-O-EE-Ay/ You're doing fine Oklahoma, Oklahoma OK.” Look for other pipeline companies to issue favorable guidance if and when some stability returns to the oil patch; an event which appears more likely now that the US ban on exporting crude oil has been lifted.

I hope you are enjoying your holidays. As the New Year approaches rest assured Dear Readers that this Oscar (like Mr. Hammerstein) will continue to learn and to record. Keep reading this newsletter and find comfort in knowing that in the world of investing “You Will Never Walk Alone.” It may not be all “Happy Talk”, but on occasion we will “Whistle a Happy Tune” for sure. And as for Mr. Market, well he’s just like “Ol’ Man River/He just keeps rollin’ along.”

December 20, 2015 Finally

Risk/Reward Vol. 288

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Finally it has happened to me
Right in front of my face
My feelings can't describe it”---lyrics from “Finally” sung by CeCe Peniston

“Nothing from nothing leaves nothing,
And I ain't stuffing/Believe you me
Don't you remember I told you
That I'm a soldier in the war on poverty”---lyrics from “Nothing From Nothing”---sung by Billy Preston

“We've all been down this road before,
I give it all, you wanted more.
I've only got myself to blame”---lyrics from “Back Again” sung by Daught

“Finally, it has happened/Right in front of my face.” On Wednesday, the Federal Reserve raised short term interest rates for the first time since 2006. That’s right---for almost a decade, interest rates have been in either a declining or zero bound state. Maybe historically low rates were necessary in 2008-2009 at the height of the credit crisis, but since then they only have disproved the long held belief of Federal Reserve wonks that cheap money alone can spur robust economic growth. Clearly, it cannot. Meanwhile, those same wonks have wiped out 10 years’ worth of returns on savings; returns upon which most Americans and every pension plan rely to grow their nest eggs. As an income investor in the twilight of his earning years, I struggle for words “to describe my feelings.”

Immediately following the rate increase announcement on Wednesday, the stock market exploded. The Dow Jones Industrial Average rose 250 points between the 1 o’clock press release and the close of trading at 4pm; a signal from Mr. Market that it was high time to start normalizing rates. Unfortunately, the stock markets could not sustain the rally. Continued weakness in the oil patch on Thursday (due in part to the rate increase and a concomitant strong dollar) and a technical trading event on Friday (the quadruple witching hour when all options expire thereby magnifying whichever way the market is trending) conspired to wipe out the mid-week gains. The two major indices finished the week below where they ended last week. “Nothing from nothing leaves nothing/Believe you me.” In other words, index investors retreated in their “war on poverty.”

But not everyone lost money as the week ended. As stated over these past several weeks, I intended to gauge the impact of the rate increase on the benchmark 10Year Treasury Bond, and if it was de minimis (as I believed it would be), I would jump “Back (in) Again.” In fact, the yield on the 10Year held steady. Accordingly, I began buying some of my favorite interest rate sensitive stocks on Thursday (PGX, HPF, HPI), many of which had been hammered; an overreaction to the anticipated impact of the Fed’s action. As the stock indices collapsed on Friday, the yield on the 10Year remained steady--- as did the value of my purchases. Some even appreciated. But where I really prospered this week was with Vanguard Resources (VNR). Before the market opened on Friday, VNR announced that it was reducing the dividend on its common stock by 75% but maintaining the dividend on its preferred. 20.VNR’s preferreds (VNRAP and VNRBP) have been favorites of mine for several years, but I have shied away from them over the past month or so due to unfavorable oil and gas developments and the belief of many that VNR’s preferred dividend would be cut along with that on its common. With Friday morning’s announcement, the safety of the preferred dividend was strengthened significantly. I bought several positions of each through the day. VNRAP rose 25% and VNRBP rose nearly 12%: in one day! If luck is the intersection of preparation and opportunity, I was lucky indeed. Overall, it feels natural to be back investing. But I’ve “been down this road before” and if it goes badly because I entered too soon, “I’ve only got myself to blame.”

I reenter the market with enthusiasm. In the words of Billy Preston, “I’m Born Again.” For the first time in years, I feel confident that a sensible and predictable path will be followed by the Fed. The Fed’s dot plot (See Vol. 259 www.riskrewardblog.blogspot.com for an explanation) also published on Wednesday foretells a series of quarterly 25 basis point increases over the next year. As an income investor predictability of rates is all that I need to make a decent return. But if it all goes awry (as it will at some point), I will not hesitate to liquidate only to re-enter when the time is once again right. Like Billy, inevitably and inexorably, Mr. Market “Goes ‘Round in Circles.”

December 13, 2015 What Goes Round

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

Risk/Reward Vol. 287

“But now the days grow short/I'm in the autumn of the year
And now I think of my life as vintage wine from fine old kegs”---lyrics from “It Was A Very Good Year” sung by Frank Sinatra

“When you hear that the preaching does begin
Bend down low for to drive away your sin
And when you gets religion, you want to shout and sing
There'll be a hot time in the old town tonight”---lyrics from “Hot Time In The Old Town Tonight” sung by Bessie Smith

“Don't want to think about it
Don't want to talk about it
What goes around, goes around
Comes all the way back around”---lyrics from “What Goes Around” sung by Justin Timberlake

“The days grow short. It’s the autumn of the year.” It’s time to assess. Was it "A Very Good Year?" Do you think of your portfolio's year to date performance "as vintage wine from find old kegs?" Or does it leave you with a sour note as if turned to vinegar? If it is the latter, you are not alone. Year to date the Dow Jones Industrial Average is down 3.1% and the S&P 500 is down 2.2%. As far as stock indices go, only the tech heavy NASDAQ Composite is in positive territory with a year to date gain of 4.1%. According to a report from the Federal Reserve released this past Thursday, the net worth of U.S. households fell in the third quarter due primarily to a $2.3 trillion drop in the value of equities. But it could be worse. You could have invested with noted money manager (and Milwaukee native son) David Einhorn whose flag ship hedge fund is down over 20% so far this year.

Recently, it has been commodities in general and the oil and natural gas patches in particular that have driven Mr. Market downward. Consistently warm temperatures have reduced the demand for fossil fuels worldwide. Indeed, it hasn’t been “preaching or getting religion or shouting or singing”, but the presence of El Nino which has produced a “Hot Time In The Old Town Tonight.” Natural gas is trading at 17 year lows, and crude oil closed the week at $35/bbl, more than 70% off of its mid 2014 price. With Saudi Arabia continuing to flood the world with petroleum, prices will continue to suffer. But, for how long? If the Saudi’s purpose in ramping up production is to ruin US producers and to curtail the miracle of fracking, then 2016 could be the year the hemorrhaging abates. Up to now, many small to medium US producers have been able to survive because of hedging. Indeed, through 2015, domestic producers hedged nearly 30% of their production at or above $50/bbl. That percentage drops to 11% in 2016. The result likely will be continued cut backs in production, reductions in capital expenditures and a series of debt defaults and/or bankruptcies. If you want a preview, look at what mighty Kinder Morgan did last Tuesday; cutting its dividend by 75%! KMI is down an astonishing 57% year to date.

So what’s going on? Oh ye of short memory! This is the stock market, bro! Unless you “don’t think about it or/Don’t talk about it”, you know that when it comes to Mr. Market “what goes around, goes around and comes all the way back around.” If you have cash on hand (and as loyal readers know I have ample having sold entire porfolios this spring and again on October 26th), a disappointing close of 2015 could present excellent buying opportunities in 2016. But where? As discussed previously, in preferred stock once the Fed raises rates as it likely will next week. And (of all places), the oil patch. Huh? That’s right, the oil patch. Chevron, Conoco, BP and Shell all recently have reiterated that maintaining their hefty dividends (5-8%) are their top priority. Each has a budget in place for 2016 which has room for dividends even at rock bottom oil prices. But do not be in a hurry to buy. The bottom may not have been reached. Buy stock on the rise. It is never wise to catch a falling knife.

To be Frank, 2015 is not looking good. The two major stock indices are struggling to break even. “From This Moment On” the time for any Santa Claus Rally is short. Even if you conclude that a bottom has been reached, remember that only “Fools Rush In.” Caution is the best approach. I, for one, don’t have “Someone to Watch Over Me.” Fortunately, I took profits in October, and unless I do something stupid, “They Can’t Take That Away From Me.”

December 6, 2015 Truckin"

Risk/Reward Vol. 286

THIS IS NOT INVESTMENT ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

‘Truckin', like the do-dah man
Once told me "You've got to play your hand"
Sometimes the light's all shinin' on me;
Other times I can barely see.
Lately it occurs to me
What a long, strange trip it's been”---lyrics from “Truckin’” sung by The Grateful Dead

“I'll never know
How the future will go
I don't know what to tell you,
I'm not a fortune teller”---lyrics from “Fortune Teller” sung by Maroon Five

“Like a rock, I was strong as I could be
Like a rock, nothin' ever got to me
Like a rock, I was something to see
Like a rock”---lyrics from “Like A Rock” sung by Bob Seger

Trying to ascertain what occurred in the stock market last week was like “Truckin’”. “Sometimes the light was all shinin’ on me”, and I thought that I grasped what was happening. At other times “I could barely see”; unable to make any sense of what was unfolding. At its end “it occurred to me”, that the week, like the entire year to date, was just “a long strange trip.” Buffeted up and down by a disappointing ISM report, an anemic ECB rate cut, news that the Saudi’s will not cut oil production, a forecasts of slower global growth and finally solid job numbers, the Dow Jones Industrial Average (DJIA) ended the week up only 0.28% despite Friday’s 2.12% jump, and the S&P 500 gained a mere 0.08% despite rising 2.05% on Friday. Year to date, the DJIA is up 0.14% while the S&P is up 1.6% despite the volatility. Are we destined like “the do-dah man” to merely “play our hand?”

Maybe; maybe not. “I’ll never know/How the future will go/I don’t know what to tell you/I’m not a fortune teller.” But, I can foresee the following holding through the first quarter of next year: 1) an accommodative ECB; 2) a 0.25% increase in the Fed Funds rate; 3) oil in the $40-45 range; 4) steady if unspectacular domestic employment; 5) near zero inflation ; and 6) global growth in the 2% range. I view last week’s activity as those in the market positioning themselves for the above described scenario; nothing more and nothing less. Of the events cataloged above, to me (not surprisingly) the most significant is the now almost certain increase in the Fed Funds rate at the FOMC meeting of mid December.

Why? Because, Dear Readers, as I have preached lo these many months and years, for income investors such as yours truly, money can be made so long as the rate on US Treasury securities remains steady “like a rock.” If the FOMC raises the short term rate in December and signals that it will be conservative in any future moves (as most now believe), the rate on the US Ten Year will stabilize as will the rates on securities priced in relation thereto; most notably preferred stocks. I see the 10Year stabilizing near 2.3% and PGX (a basket of highly rated preferred stocks) yielding a steady 5.75-5.9%. That would be “something to see”, indeed. There is no reason to jump the gun however. I will remain “as strong as I can be” and resist the urge to buy in advance of the FOMC’s meeting.

For income investors, the last several years of zero bound interest rates have been trying to say the least. Talk about sailing “Against The Wind”! But if the FOMC “Turns The Page” and begins to raise rates, like Bob Seger, I will “Lock and Load” up with several of my long time favorites. Perhaps, “You’ll Accompany Me”, but only if and when you reach your own conclusions based upon your own research.

November 29, 2015 Flowers Gone

Risk/Reward Vol. 285

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Where have all the young girls gone?
Where have all the husbands gone?
Where have all the soldiers gone?
Long time passing”---lyrics from “Where Have All the Flowers Gone” sung by Peter, Paul and Mary

“Money can't buy back
Your youth when you're old
Or a friend when you're lonely
Or a love that's grown cold”---lyrics from “A Satisfied Mind” sung by Johnny Cash

“Rock steady baby!
That's what I feel now
Let's call this song exactly what it is”---lyrics from “Rock Steady” sung by Aretha Franklin

Early reports indicate that Black Friday Weekend sales are lackluster. But even if they rebound, they cannot hide the biggest problem facing every economy in the developed world; namely, falling demand for goods and services. Merchants and manufacturers alike are asking “Where have all the young girls gone?/Where have all the husbands gone?/Where have all the soldiers gone?” The sad truth is they are “passing.” Indeed, this year, for the first time since 1950, the number of working age persons worldwide will shrink. Meanwhile, the numbers of those aged 65 and above continue to skyrocket. As warned by Harry Dent (highlighted in Vol. 218 www.riskrewardblog.blogspot.com ) this demographic shift is not good for the world’s economies. The peak age for consumption is 46 which means that Baby Boomer demand crested in 2007. And the following generations simply have not procreated like their predecessors. Who needs a five bedroom house like the Busch’s bought in 1989? Who needs a house at all? Apparently not many, as the sale of newly constructed houses has remained below 500,000 annually since 2008 even in the presence of record low mortgage rates. Between 1963 and 2005, that number averaged 700,000 peaking in 2005 at 1.3 million.

So if demand is dropping how come corporations continue to report record earnings? Remember, corporate earnings are not reported as actual earnings, but “earnings per share”. A corporation can improve its “earnings per share” by increasing actual earnings or by reducing share count. And it is the latter course of action that virtually every corporation in the S&P 500 and the Dow Jones Industrial Average has adopted. “Money can’t buy back/Your youth when you’re old/Or a friend when you’re lonely/Or a love that’s grown cold”—but it can buy back stock. Those corporations comprising the S&P 500 have repurchased over $550billion of their stock in the past 12 months thereby reducing their share count by nearly 3% and increasing “earnings per share” accordingly. In the face of ever shrinking demand, real earnings growth is hard to achieve so corporate managers can and do appease shareholders by buoying their stock price via buy backs.

So are we destined for reduced returns on our investment dollars? Absolutely not. It may not be as easy as it has been since 2010, but hopefully it will not be as difficult as it was in 2008-2009. One sector where I predict a “rock steady” annual return of 5-8% for 2016 is preferred stock. As mentioned countless times in this publication, the return on preferred stock is highly correlated to the interest rate on the US 10 Year Bond. The return on preferred stock will remain stable so long as the rate on the 10Year holds steady. With the futures market now 75% confident that the Federal Reserve will raise short term rates 25 basis points in December and that any increase thereafter will be extremely gradual if at all, one can be reasonably confident that the yield on the 10 Year will stabilize and thus the return on a basket of preferred shares will hold steady. For example, “what I feel now” is that for the foreseeable future PGX will trade between $14.50 and $15.00 and will yield between 5.75 and 6%. For those with an appetite for a bit more risk, any number of closed end preferred stock funds should deliver consistent 8-9% returns.

Throughout my life, I have fallen in love with my own ideas. I know this, and so I establish escape routes in case they don’t work. A perfect example is my 8% loss rule. Don’t any of you fall in love with them. Do your own research; reach your own conclusions. Falling in love with ideas, even one’s own, can be dangerous. In the words of Johnny Cash,

“Love is a burnin' thing,
And it makes a fiery ring
Bound by wild desire
I fell into a ring of fire
And it burned, burned, burned
That ring of fire/That ring of fire.”

November 15, 2015 Watching The Wheels

Risk/Reward Vol. 284

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“People say I'm crazy/Doing what I'm doing

Well, they give me all kinds of warnings/To save me from ruin

When I say that I'm okay, well, they look at me kinda strange
"Surely, you're not happy now, you no longer play the game"

People say I'm lazy/Dreaming my life away

Well, they give me all kinds of advice/Designed to enlighten me

When I tell them that I'm doing fine watching shadows on the wall
"Don't you miss the big time, boy. You're no longer on the ball"

Ahhh, people ask me questions/Lost in confusion

Well, I tell them there's no problem/Only solutions

Well, they shake their heads and they look at me as if I've lost my mind

I tell them there's no hurry, I'm just sitting here doing time

I'm just sitting here watching the wheels go round and round
I really love to watch them roll

No longer riding on the merry-go-round
I just had to let it go”---lyrics for “Watching The Wheels” sung by John Lennon

OK, I admit it. For the past few weeks, my iPhone has been tuned to the Pandora Beatles station. But don’t knock the lyrics of John and Paul when it comes to financial advice (or any other advice for that matter). Ten days ago, I heard the above song while driving home from a delightful dinner with two new subscribers. They were intrigued by my investment philosophy, in particular my obsession with correlations and my rejection of a buy and hold investment orientation. Unfortunately, I did a poor job of explaining my approach that evening (which is why I described it in last week’s edition www.riskrewardblog.blogspot.com ). I wished that I had had John’s lyrics in mind to assist. "People say I’m crazy/Doing what I’m doing.” “They give me all kinds of warnings/To save me from ruin.” “They give me all kinds of advice/ Designed to enlighten me." “They shake their heads and look at me as if I’ve lost my mind.” But, “I’m just sitting here (in cash) watching the wheels go round and round/No longer riding the merry-go-round.” Because two weeks ago I did not like where my holdings were headed so “I just had to let them go.”

And it's a good thing that I sold. Last week Mr. Market experienced his worse performance since August. Had I remained invested as I was just two weeks ago my handsome profits would have disappeared. I’m not discounting the role of luck, good or bad, in my approach (or anyone else’s). But, luck is merely the intersection of preparation and opportunity. Let’s take oil stocks for example. In late September, I noticed that the price of RDS/A and BP had not recovered from the shock delivered to the oil patch in August when the price of oil fell below $40/bbl. I bought both, as well as VNRBP, ETP and KMI and saw each vault skyward as the price of oil recovered to nearly $50/bbl. On October 24th the price of oil began a rapid decline and I was able to exit all of my oil positions. I did not buy at the bottom, nor sell at the top, but I did make a good profit. Moreover, I came to believe that the foreseeable future would not be good for oil due to the increased likelihood that interest rates would be raised in December, a belief that was confirmed during Janet Yellen’s post FOMC meeting press conference on October 26th. There are direct correlations between increased interest rates and a strong dollar (Increased US bond rates attract international investors thereby raising the demand for dollars at the expense of other currencies.) and between a strong dollar and lower oil prices (All oil contracts worldwide are denominated in dollars. A stronger dollar equates to less buying power in euros or pounds or whatever currency resulting in a lessened ability to purchase and a concomitant drop in demand and price.) These correlations are at work even as I write as the Euro is now worth $1.07 compared to $1.25 last year and the price of oil is back down to $40/bbl. My moves are not infallible. I am right only part of the time. When I am right, I let my winners run until they falter. When I am wrong I sell before absorbing more than an 8% loss on any one position. “I’m not lazy or dreaming my life away; nor am I lost in confusion.” I’m looking for “solutions.”

Alright SmartyPants, it's easy to look brilliant in retrospect. How about the future? OK, this is what I see. First, the yield on the ever important US 10 Year Treasury Bond has held steady at or around 2.3% ever since the blockbuster jobs report of November 6th; this despite a 3.7% decline in the Dow Jones Industrial Average and the S&P 500 over the same period. Since the bond futures are priced with a 70% certainty that the FOMC will raise short term rates in December, I am equally certain (70%) that even with such an increase the rate on the 10Year will not exceed 2.5%. If this is correct, then one should be able to buy with confidence those income securities that are most closely correlated to the rate on the 10Year, such as preferred stocks, and thereby enjoy a 6-9% annualized return. In this sector I like PGX (an ETF) or better yet several closed end funds such as HPS or HPF which pay monthly dividends. Note, however, if you buy closed end funds, be sure to avoid any that trade at a premium to net asset value. For this reason alone, I would avoid my favorite preferred stock fund, FFC. Personally, I likely will not make such a move until after the FOMC's December meeting. Second, with the news on Friday that the world's oil surplus is currently 3billion barrels (a 30 day supply) and growing at 2million barrels a day, the price of crude hit $40/bbl again. Once it hit that level, however, it found support and closed at $40.73. In turn, several of my favorite oil plays (ETP and VNRBP) rallied in the afternoon while others trimmed their losses from earlier in the day. If its price can hold at $40/bbl., there will be some excellent buys to be had in the oil patch. As a word of caution, I would avoid buying anything on Monday due to the potentially disruptive events that occurred in France on Friday night.

I close with a note of sadness---and apprehension. Once again we are reminded that mortal combat always has been and seemingly always will be part of the human experience. At some point even France will respond in kind to violence. With apologies to John Lennon, "the world won't live as one" so long as there are those who refuse to "give peace a chance.

November 8, 2015 Correlation

Risk/Reward Vol. 283

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

Due to familial obligations, I am not publishing a typical column this week. However, as a result of the blockbuster jobs report issued on Friday, the likelihood of the Federal Reserve raising interest rates in December soared. Indeed, pundits are placing the odds at 70% or higher. Such a development deserves some reflection.

As a student of correlation (more about that in a second), Friday played out in a predictable manner. The likelihood of a rate increase triggered a spike in bond yields. The yield on the US two year Treasury bond jumped to a five year high, and the yield on the 10 Year popped above 2.3%. This of course caused a concomitant drop in bond prices and in the prices of those securities that trade in correlation thereto. (Remember, in the bond and interest rate sensitive world higher yields means lower prices). Thus real estate investment trusts (REIT's), utilities, preferred stocks and a host of other rate sensitive securities took it on the chin. The prospect of increased rates also caused the dollar to strengthen in relation to other world currency. When this happens, the price of oil, which is denominated world wide in dollars, typically falls which it did yesterday. In turn, oil stocks tanked.

As reported last week, the heightened likelihood of this scenario contributed to my recent decision to sell my holdings in oil, REIT's and other rate sensitive securities. Had I not, my profits would have been halved last week. Ironically, based on my study of correlation, these sectors now may be oversold. If this situation continues into next week, I may not wait for the actual rate increase to re-enter.

Displayed below is an excerpt from Vol. 221 (www.riskrewardblog.blogspot.com) which explains in more detail my correlation theory.

"Modern portfolio theory posits that an investor can maximize his/her return and minimize risk through asset diversification. In other words, by creating a portfolio of assets that move in different (even opposite) directions in response to any given market stimulus one can lower one’s risk and still profit. I get the theory. But, it just isn’t right for “ lovers, dreamers or me.” I have come to believe that one can construct a non-diverse portfolio correlated to a market singularity; with movement by that singularity providing clarity on when to buy, hold or sell. I believe that my “some day to find” that singularity, the “rainbow connection” if you will, has arrived. No surprise to my readers, the singularity of which I write is the yield on the 10Year US Treasury Bond (10Year). I further believe that by maintaining daily vigilance, adhering to strict principles and fearing not, the buying and/or selling, in short order, of some or all of one’s portfolio, one can prosper. In sum, predictability is more important to me than diversification.

Allow me to elaborate As loyal readers now know,” hands on your knees/hands on your hips/hands down” the benchmark interest rate against which all income securities are priced or spread is the yield on the 10Year. Based upon observation and study over the past three years, “hands on your shoulders/hands on your head/ hands down” the asset class most correlated to movement in the 10Year yield or rate is preferred stock. This is understandable since preferred stocks are a pure interest rate play and absent credit risk are unaffected by the performance of the underlying issuer. Stated alternatively, any change in the price of a credit worthy preferred stock is driven almost exclusively by the interest rate on the 10Year. Indeed, on most days I can tell whether my preferred stocks are “up or down” by simply looking at what happened to the yield on the 10Year. or vice versa Moreover, having studied and confirmed this correlation, I have increased my preferred stock income by buying preferred stock closed end funds (e.g. FFC, HPF, JPC) which enhance returns through leverage. To me, the risk associated with these leveraged funds is no greater since the correlation to the 10Year remains the same. Similar correlations to the yield on the 10Year obtain for mortgage real estate investment trusts, triple net lease investment trusts, leveraged bond funds, leveraged senior loan funds, leveraged municipal bond funds, leveraged utility funds and a host of other income securities. On average this portfolio pays an 8% annual dividend. In addition, I look for stocks or funds that distribute dividends monthly because a corollary to owning a portfolio singularly correlated to the yield on the 10Year is that one must be prepared to sell everything once the prevailing winds shift, and the yield on the 10Year starts to rise. This is what happened during the “taper tantrum” last summer when the yield on the 10Year went from 1.63% on May 2 to 2.16% on May 31 to 2.6% on July 5. Once the upward direction of that movement was confirmed (remember: upward yield means downward price), liquidation of the portfolio was in order (See Vol. 172 www.riskrewardblog.blogspot.com ). That wholesale departure was made more palatable by the receipt of monthly dividends which meant that I was not leaving a juicy quarterly dividend behind. In time, the yield on the 10Year stabilized, the typical spreads returned and I re-entered en masse. (See Vol. 200 www.riskrewardblog.blogspot.com ) If and when the 10Year yield begins to inflate in the future, I will sell and await stability again. It's a win/win because all that I have wanted from the beginning of this journey is a decent rate of return on government bonds (see Vol. 1 www.riskrewardblog.blogspot.com )"

November 1, 2015 Nae Nae

Risk/Reward Vol. 282

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Drop it like it's hot

Drop it like it's hot”---lyrics from “Drop It Like It’s Hot” sung by Snoop Dawg

“Now watch me whip (Kill it!)

Now watch me nae nae (Okay!)

Now watch me whip whip

Watch me nae nae (Want me do it?)”---lyrics from “Watch Me” sung by Silento

“When you were young and your heart was an open book

You used to say live and let live

(you know you did, you know you did you know you did)

But if this ever changing world in which we're living

Makes you give in and cry
Say live and let die”---lyrics from “Live and Let Die” sung by Paul McCartney

October was a good month for Mr. Market as the Dow Jones Industrial Average (DJIA) rose 8.5%, its biggest monthly percentage gain in four years. As detailed in earlier editions, I was fortunate to catch the updraft, in particular in the oil patch. But as discussed last week, that sector had begun to cool so on Monday I “dropped it like it was hot/dropped it like it was hot.” I made a small profit on KMI and ETF which have yet to rebound from the surprise equity offering that KMI launched (see Vol. 281 www.riskrewardblog.blogspot.com ). But, I profited handsomely in selling RDS/A (Shell), VNRBP and BP. Mid and long term, I see oil as a great investment, especially Shell. It has adjusted so well to the new, lower price of oil, it is able to cover operating costs, debt service, capital expenditures and, most importantly, its nearly 9% dividend all from current revenue. But given the downward bias in oil these past two weeks and the fact that my big winners were mostly in my 401k account, I decided to take a tax free time out.


How did you interpret Wednesday's Federal Reserve post meeting press release? Are we in for a rate increase in December? Clearly, Mr. Market is without a clue as the DJIA dropped 131 points in the minutes following the press release and then rebounded 203 points to close the day in positive territory. In other words, watching the Fed caused Mr. Market initially to do the “nae, nae” then to “whip, whip” back upward. Who knows, after December’s meeting maybe he'll do the “bop, bop” or the “Superman” or even the “stanky leg.” Sometimes I wish the Fed would just remain Silento.

Lost in the wake of the Fed’s press release was news this week that China adjusted downward to 6.5% the projected rate of growth of its gross domestic profit. That news broke at the same time China announced that it was abandoning its “one child rule.” This is likely too little too late as China, like Japan before it, has become a demographic time bomb. Its working age population is shrinking---fast. Today each retired citizen is supported by 5 workers; in 2040 that ratio shrinks to 2 to 1. Fewer workers means fewer consumers; fewer consumers means less production. This is bad news for the world’s economies, especially those in the developing world. They prospered from 2009 through 2014 primarily via exporting raw materials to China. Take a look at Vol. 74 where I catalog the percentage of the world’s cement, copper, iron ore, etc. that China consumes. (www.risksrewardblog.blogspot.com ). It is astounding. This is of particular concern when one realizes that the performance of 15 of the 30 companies comprising the DJIA is dependent on China. In light of this news and the Fed’s ambiguous signals, I decided to take some profit off the table in sectors other than oil. In so doing, I followed the advice of Sir Paul : “When I was young/And my heart was an open book/I used to say live and let live/But this ever-changing world in which we're livin'/Sometimes makes me give in and cry/Say live and let die”

Maybe you’re amazed that I have chosen to bail after Mr. Market’s splendid October. “Maybe I’m Amazed” myself. Am I being wise to capture what I consider an acceptable level of profit for the year or am I merely a frightened “Band on the Run.” Who knows? But, I rarely have regretted selling and often have regretted staying put. I will take certainty over "A Little Luck” anytime. I do not see myself re-entering until after the Fed’s December meeting---unless of course I hear a “Silly Love Song” and change my mind. But do your own research and do not "Listen To What The Man Said,"

October 25, 2015 Whim

Reward Vol. 281

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN

I was invited to a small, exclusive subscriber conference in Florida this week and therefore will not be publishing a regular edition.

Wow, what a run the bulls had at the end of the week! In response to an announcement from the European Central Bank that it is considering even more quantitative easing (including extending or increasing its $68billion monthly purchase of sovereign bonds), the Dow Jones Industrial Average skyrocketed 321 points on Thursday. The S&P 500 experienced a similar percentage rise. Friday saw another 150+ bump in the Dow on news that China’s Central Bank cut rates 50 basis points and reduced its bank reserve requirement. And so the easy money parade continues overseas and places pressure on the Federal Reserve to postpone any interest rate increase stateside. Since their nadir at the end of September, both major indices have rallied approximately 8% and now both are even for the year.

As good as the week was for the markets in general, the oil patch disappointed. Leading the way down was Kinder Morgan which sent shock waves by announcing that it was planning an unanticipated equity raise. Mr. Market hates surprises and even more when the surprise comes in a sector (oil in general and pipelines in particular) that has already been rocked. Kinder’s shocker hit other pipeline companies including ETP. Large oil companies also faltered as bench mark oil prices fell. Indeed, my week was rescued from this oil patch fiasco by some outsized gains by GM and several REIT’s.


This week serves as a reminder that at present Mr. Market is most influenced by the whims of a handful of central bankers. The lower the rates and the easier the money, the better Mr. Market likes it. But relying on whims is risky. By definition, whims can change inexplicably and without notice. The wise investor must remain vigilant and nimble.

October 18, 2015 Dry Powder

Risk/Reward Vol. 280

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“While you've been saving your neck

I've been breaking mine for ya'

The power is on, the guillotine hums

My back's to the wall - go on, let it fall

Make up your mind”---lyrics from “Make Up Your Mind” sung by Florence + The Machine

“Don't wait keep right on

But be aware

Don't take too long

The time just seems to fly

Just keep your powder dry”---lyrics from “Keep Your Powder Dry” sung by Motorhead

“This land is your land
This land is my land

From California to the New York island

From the red wood forest to the Gulf Stream waters

This land was made for you and Me”---lyrics from “This Land Is Your Land” sung by Woodie Guthrie

Volatility again prevailed in the stock market this week. And why not. Disappointing retail sales prompted two of Janet Yellen’s closest allies on the FOMC (Fed Governors Tarullo and Brainerd) to speculate that it may not be appropriate to raise rates in 2015. How does this square with Chair Yellen’s commitment to raise rates absent a significant downturn; a downturn that has not materialized? These mixed messages prompted Larry Fink, the founder and CEO of BlackRock the world’s largest asset management firm, to blast the Fed. He accused it of destabilizing financial markets worldwide when its mission should be to promote stability. Mr. Market finds himself in Florence’s shoes: “While Janet’s been saving her neck/He’s been breaking his/The power is on, the guillotine hums/His back’s to the wall- go on, let it fall/Make up your mind!”

But volatility need not be bad---at least not for those who "kept their powder dry.” Having plenty of cash on hand going into September’s swoon has proven a year-saver for me, at least so far. Capturing the double digit gains reported in last week’s edition (See Vol. 279 www.riskrewardblog.blogspot.com ) as well as others (e.g. a 12% gain in HQH to which a subscriber/fellow ski bum led me) has yours truly on track for a profitable 2015 even as the indices remain in the red. But one does not acquire powder without selling---hopefully at a profit. Paraphrasing Bernard Baruch, I've never lost money taking a profit. I need to keep this in mind and to “be aware/Don’t take too long (to sell)/The time just seems to fly.”

If the Fed does not raise rates in 2015 or even if it does but signals that it is a “one and done”, interest rate sensitive stocks including two of my favorite sectors, preferred stocks and real estate investment trusts (REIT’s), will continue to hold value and to pay handsome dividends. Both have done well recently with FFC (a preferred stock closed end fund) up 9% and two REIT’s, OHI and O, up 9% and 7.5% respectively, since I bought them at the beginning of September. Bargains may be difficult to find going forward, but a stable interest rate environment is always good for real estate. Make “this land/your land/From California to the New York island/From the redwood forest to the Gulf Stream waters/This land’s worth owning by you and me.”

Buy and hold has been an uninspiring strategy this year. The profit I will make in 2015, assuming I do, will come from adherence to my loss limit rule then re-entering in September at the bottom of a trough. The question remains will I sell in time to avoid another downturn. This has been an issue for me in the past. In any event, being nimble has been key this year, and may well be for years to come as economic growth remains sluggish worldwide. Florence’s lyrics may provide a path to success in the future:


“Run fast for your mother, run fast for your father

Run for your children, for your sisters and brothers

Leave all your love and your longing behind

You can't carry it with you if you want to survive”

October 11, 2015 Putin--On the Ritz

Risk/Reward Vol. 279

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

"Dressed up like a million dollar trooper

Trying hard to look like Gary Cooper
Perfect fits
Puttin’ on the Ritz"---lyrics from “Puttin’ on the Ritz” sung by Fred Astaire

“Tell me why
Is it so
That I never can say goodbye, no, no, no, no, now

Never can say goodbye”---“Never Can Say Goodbye” sung by the Jackson 5

“I'm scared, I'm scared, I'm scared
I'm scared, so scared
I'm scared, I'm scared, I'm scared”---lyrics from “Scared” sung by John Lennon

The price of oil rose 9% this week, a welcomed development for me. One reason for the rise was the continuing drop in domestic production. The US rig count stood at 795 at week’s end compared to 1930 this time last year. A second reason was the uncertainty stemming from Vladimir Putin’s ever growing presence in the Middle East. Last week, he brought his air force into the region. This week he launched a cruise missile attack on Syrian rebels, the same rebels that the US has been arming these past several months. The missiles were fired from a ship in the Caspian Sea and traveled 900 miles without detection, hugging the terrain through Iran and Iraq then into Syria. Just as easily, those missiles could have been used to disrupt shipping lanes out of Saudi Arabia. The man who Boone Pickens calls “the new sheriff in town” looms over the Mideast “dressed up like a million dollar trooper/Trying hard to look like Gary Cooper/Perfect fits/It’s Vladimir---Putin on the Ritz.”

My ability to find joy in the oil patch is because I abandoned it many months ago and returned to it only recently. The KMI and ETP that I purchased on September 30th are up 17% and 19% respectively. The VNRBP that I bought on Wednesday is up over 4%. That said, had I stayed in those stocks from my penultimate foray into the oil patch in the summer of 2014, I would still be down 20% on KMI, 25% on ETP and 29% on VNRBP. My adherence to an 8% loss limit saved me from that fate. Why people buy and hold in the face of such dramatic drops is beyond my comprehension. Somebody “tell me why/Is it so/That they never can say goodbye, no, no, no, no now/Never can say goodbye.”

Release of the minutes from the Federal Reserve’s meeting of September 16-17 lent support to those who believe no interest rate hike will occur this year. As I have written in the past, I believe that this is bad policy. But I have no influence on policy. My concern is the interest rate on the US Ten Year Treasury Bond off which many of my investments are priced. As an investor, I don’t care at what level the 10Year trades. I just want rate stability, something that alludes us as long as the Fed’s guessing game continues. The confidence I had that Chair Yellen would be a woman of her word and would raise rates at least once in 2015 has been eroded. The released minutes bespeak the following refrain: “I’m scared, I’m scared, I’m scared/I’m scared, so scared/I’m scared, I’m scared, I’m scared.” Scared of what, you ask, with unemployment at only 5% and inflation in check? Apparently scared of Mr. Market or Mr. Draghi or Mr. Xi---who knows. Again, Janet, just do it.

And so we head into the final quarter of the year with little certainty as to the course of our monetary policy. I don’t know about you, but I am tired of the Fed’s “Mind Games.” With each Fed meeting, Fed speech and/or Fed minute release, it’s like “Starting Over.” “Imagine” a financial world where the whims of central bankers do not hold sway. In recognition of what would have been John Lennon's 75th birthday, we implore you, Federal Reserve, do (or don’t do) something---definitively. “Give (monetary policy) Peace a Chance.”

October 4, 2015 Sexy Back

Risk/Reward Vol. 278

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“How can I listen to my mind

Without breaking my heart

I'm so confused

What should I do”---lyrics from “Confused” sung by Justin Timberlake

“In and out of love 

Hear what I'm sayin'

In and out of love

It's the way that we're playing”---lyrics from “In and Out of Love” sung by Bon Jovi

“Arabian nights, 'neath Arabian moons

A fool off his guard

Could fall and fall hard

Out there on the dunes”---lyrics from “Arabian Nights” from “Aladdin”

Did you follow the Dow Jones Industrial Index’s mercurial, 469 point ride on Friday? Clearly, Mr. Market was “Confused” on how to interpret the disappointing jobs number reported Friday morning. Was the bad news actually bad news as indicated by the market’s drop in the morning or was it good news (at least in regard to postponing an interest rate increase) as some interpreted the afternoon rise? Saturday morning’s reportage shed little light on what to make of the data. Like Mr. Market, “How can I listen to my mind/Without breaking my heart/I’m so confused/What should I do?”

Although more dramatic, Friday’s action mirrored that which has been occurring for some time. Just look at the 300 point drop on Monday and the recovery had on Wednesday. That action caused me to sell BX, KMI and ETP per my 8% loss rule only to repurchase them one day later. “In and out of love/Hear what I’m sayin’/In and out of love/It’s the way that I’m playing.” Although still in a loss position, as of Friday’s close I am down less than 4% on each of these favorites. The transactional cost: $7 in, $7 out and forfeiture of a wash sale tax loss. Cheap insurance, in my opinion. Is this yo-yo-ing what we can expect? I am afraid so, at least until we get a clearer read on when and what the Fed will do with interest rates.

The big news of the week may have been lost in the hubbub of the jobs number. And that news is about oil. Domestically, the Keystone pipeline is dead. Moreover, the number of active US crude oil rigs fell by 26 last week and now stands at 614, the lowest number since 2010. On that news alone, the price of domestic crude rose 1.8% on Friday. Internationally, crude prices face significant upward price pressure from a variety of forces. One is the threat posed by the sudden appearance of the Russian air force in Syria with air rights granted by both Iran and Iraq. Russia, the economy of which is dependent upon oil exports and thus has been decimated by declining prices, is now within striking distance of every major oil route out of the Mideast. A second upward force is the toll that the oil price war has had on its instigator, Saudi Arabia. Earlier this year, the Saudi’s literally opened the spigot in an attempt to run US oil producers out of business by having the price of oil fall below the US’s cost of production. As evidenced by the drop in the rig count noted above, the move has been partially successful, but at a tremendous cost. In order to shoulder its expensive welfare state and to fund its various military adventures in Yemen and elsewhere, the Saudis need oil prices of $100/bbl. Thus for several months the Kingdom has had to liquidate its foreign reserves to subsidize the $50 delta between current international oil prices and this social cost. At a $10 billion per month burn rate, even the Saudi’s substantial $700 billion reserve is not inexhaustible. This is a tricky gambit they are running. “Arabian nights ‘neath Arabian moons/A fool off his guard/Could fall and fall hard/Out there on the dunes.” What does this mean to me ? I see oil prices stabilizing, even rising. I am not alone in this view. The BP that I bought last week is up 8%. The KMI that I repurchased on Wednesday is up 7%. And the ETP that I repurchased that same day is up 10%.

My five year, daily study of the stock market has led me to believe, like Justin Timberlake, that “What Goes Around/Comes Around.” The secret is being “N Sync” with Mr. Market. Anytime I am not, I “Cry Me a River.” But when I am (which I think I am in regard oil), it’s like bringing “Sexy Back.”

September 27, 2015 One Week

Risk/Reward Vol. 277

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. In determining how long to maintain this target range, the Committee will assess progress--both realized and expected--toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. The Committee anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term.”---Janet Yellen September 17, 2015

“Most FOMC participants, including myself, currently anticipate that achieving these conditions will likely entail an initial increase in the federal funds rate later this year, followed by a gradual pace of tightening thereafter. But if the economy surprises us, our judgments about appropriate monetary policy will change”---Janet Yellen September 24, 2015

Although my sabbatical is at an end, events this week conspired to make a full edition impossible. However, the stark difference in the two statements above, spoken only one week apart, compels a comment. During that short span of 7 days, what “further improvement in the labor market” occurred and/or what data was reported that indicated that “inflation will move back to its 2 percent objective”? The answer is clear: none. Then, how come Chair Yellen was so uncommitted on the 17th and on the 24th so definitive that a rate increase will occur in 2015? The answer is equally clear--- and disheartening. She was responding to Mr. Market’s disappointment in her performance on the 17th; a disappointment evidenced by a 3% drop in both the Dow Jones Industrial Average and the S&P 500.

C’mon, Ma’m! You and your cohorts are not to respond to trading vicissitudes. You are to set monetary policy to maximize employment and to stabilize prices, both of which you have achieved and both of which are in jeopardy should you continue your easy money policy. Start normalizing rates now so that those who rely upon conservative investments (e.g bonds, savings accounts, cd’s, etc.) can achieve a decent rate of return. Otherwise an entire generation of savers and every pension fund in the country will find themselves unable to fund their retirement obligations.

Out of the debris made of the markets this week, I did spy one gem. I bought BP at $30.05. Wow! BP has not traded this low since immediately after the Deepwater Horizon disaster in 2010. At that time, the threat to BP was existential. Today, the only threat to BP is whether it can maintain its whopping 8% dividend. All indications are that it can shoulder this $7billion annual dividend obligation given that it has settled virtually all of the claims arising from that disaster, is divesting unproductive assets and sits on $30 billion in cash. So I bought some. We will see how it does.

Once I a confident that a 2015 rate hike is fully priced into the market, I will be looking to add to interest rate sensitive positions.

September 20, 2015 ZIRP

Risk/Reward Vol. 276

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

Although my sabbatical continues, I am compelled, once again, to reflect on what occurred. And this week was all about the decision by the Federal Reserve to stand pat on its zero interest rate policy (ZIRP). Although the decision was not a surprise, the rationale, as articulated by the Fed in its press statement and as expanded by Chair Yellen in her press conference, was.

Instead of focusing on employment and price stability which are the Fed’s mandates, the Chair spoke of many things including the Committee’s consideration of economic conditions in China and emerging markets, a strong dollar and volatility in the stock market. Since when are these the Fed’s concerns? Indeed, this lack of focus left markets worldwide wondering what developments, if any, will cause the Fed to raise rates. After all, unemployment is at 5% (which historically has been viewed as full employment) and the consumer price index (CPI) inflated (less food and energy) 1.8% year over year in August, a rate that approximates the Fed’s stated inflation goal of 2%. Moreover, GDP grew at a healthy 3.4% in the second quarter. So why not raise rates ?

Mr. Market abhors uncertainty, and the Fed’s trepidation in light of the above described data has made what was already
opaque monetary policymaking even murkier. What data point is going to improve so markedly between now and the end of the year so as to provide the Fed the assurance it needs to warrant a rate increase? I doubt any. So if the Fed does raise rates in December, it will be viewed as an arbitrary act, not one driven by data. This in turn will leave Mr. Market to wonder when and under what circumstances future increases will be implemented. It is not surprising that the Dow Jones Industrial Average and the S&P 500 fell 1.74% and 1.62% respectively on Friday.

On a personal level, my week was salvaged by real estate investment trusts (O and OHI) and preferred stocks (PGX and FFC), sectors which do well when the yield on the US 10 Year Treasury falls, as it did in the wake of the Fed’s announcement. That said, my appetite to add to any position has been lessened for the reasons discussed above.

September 13, 2015 It's Time

Risk/Reward Vol.275

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

I am enjoying the last gasps of summer too much to compose a full blown edition. That said, the Federal Reserve meeting scheduled for next week is too important to go without comment.

Two weeks ago, I reported that I had re-entered ahead of the September Fed meeting in order to take advantage of what I viewed as an excellent buying opportunity. I also stated that if stability returned to the market I would buy more. Well, stability did not return, and the buying opportunity proved to be less than excellent. That said, I have not approached a sell point on any position, and all tolled the positions I bought are down less than 1.5 %. I don't consider this bad considering that much of what I bought is in the oil patch (RDS-S, BP, KMI and ETP) which continues to be hammered.

So why the volatility? Oh, we can mention China or domestic gdp growth or emerging market risk, but all of these are inconsequential when compared to the uncertainty surrounding what the Fed will do. As the market closed on Friday, bond futures put the odds at 23% that the Fed will raise rates next week. These odds are too low. Unemployment has fallen to nearly 5%, and the most recent economic data indicates that gdp growth is currently at 3+%. Admittedly, inflation is well below the Fed's target of 2%, but I see nothing between now and the end of the year that will cause that to increase. Don't forget that very early in 2015, Janet Yellen stated that absent a significant reversal in direction, rates would be raised sometime in 2015. Directionally, the economy has continued to improve, She missed her best opportunity to raise rates in June. Her next best time is now. I look for the Fed to take a baby step. Instead of implementing a 25 basis point increase (which is a typical move), I see a 15 bp (0.15%) bump and a clear signal that it is a "one and done" until sometime in 2016.

For goodness sake, Janet, get this done. My favorite quote this week is from the Financial Times: "Once again the fate of the global economy rests on the judgment of a few individuals without reliable economic models to guide them."

August 30, 2015 Rulebreaker

Risk/Reward Vol. 274

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN

“I should be so lucky

Lucky, lucky, lucky

I should be so lucky in love”---lyrics from “I Should Be So Lucky” sung by Kylie Minogue

“I just wanna color outside the lines
I’ve been reprimanded ‘bout a thousand times
I’m a rulebreaker
You know, I’m a rulebreaker.”---lyrics from “Rulebreaker” sung by Ashlee Simpson

“Hey, I don’t feel so good lately
Must I take pills for stability
You take me right to the edge.”---lyrics from “Stability” sung by Deborah Harry

Those who are acquainted with my bride know that “I should be so lucky/Lucky, lucky, lucky/I should be so lucky in love.” And never more than this week. On Tuesday, in the wake of Monday’s 600 point drop in the Dow Jones Industrial Average (DJIA), Barb decided to buy some master limited partnership interests. She did so without any input from me and after consulting one of our investment advisors, Nick Webster. This coincided with encouragement from another of our advisors, Dave Bartz. (Yes, dear Readers, neither Barb nor I are so stupid as to trust all of our money to my management.) Emboldened by her move, on Wednesday, I decided to start buying again. According to Seneca, “luck is what happens when preparation meets opportunity.” Having studied assiduously while on the sidelines, I was prepared with a list of stocks to take advantage of what I perceived as a great opportunity.

I recognize that some may be disappointed that I did not follow my self-imposed rule to refrain from buying until the Federal Reserve decided to raise rates. Unlike Ashlee Simpson, “I don’t wanna color outside the lines/I’ve not been reprimanded a thousand times/ and I’m not a rulebreaker.” But slavishly following a rule just did not make sense when Kinder Morgan dropped so low as to pay a 6.5% dividend; when Realty Income likewise dropped in price so as to pay a 5% dividend; when ETP was paying nearly 9%; when the price of GAB and FFC fell 8% below net asset value, etc., etc. So I bought, and then I bought some more. By week’s end, I had deployed 25% of my available cash.

So how about next week? If I keep “feeling so good” as I have “lately”; if I sense that we are not “to the edge”; and if Mr. Market does not need “pills for stability”, I likely will continue to buy. The key is stability; something I sensed on Thursday and Friday as the Federal Reserve met in Jackson Hole. Indeed, even as the stock market precipitously fell and then rose just as abruptly, the yield on the benchmark 10 Year US Treasury remained remarkably stable. I am beginning to believe that the bond market has priced in a 0.25% increase this year, and it matters little if it happens in September or December. If I continue to see evidence of stability in the 10 Year yield, I will continue to buy.

Wow, what a ride! Who would have thought on Monday, that both the DJIA and the S&P 500 would end up for the week? Times like these are great learning experiences and present wonderful opportunities for those who maintain a healthy cash reserve. I am very interested in your take on what occurred and what you believe will happen in the near future. Follow Deborah Harry's advice and : “Call me, call me on the line/Call me, call me any, anytime/Call me, call me any day or night/Call me.”

August 23, 2015 Correction

Risk/Reward Vol. 273

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

I remain on summer sabbatical. But, the extraordinary events of the past two trading days mandate that I memorialize my impressions.

On Thursday, aspecific concerns about global growth caused a sharp decline. That decline became a rout on Friday in response to news that the Chinese manufacturing index (PMI) had fallen to its lowest level since 2009. Chinese manufacturing now is officially in a state of contraction. By their close on Friday, both the Dow Jones Industrial Average and the S&P500 had fallen 5% in two days, and each is now in a correction. (A market correction is a drop of at least 10% from a market’s high experienced in the previous 12 months.)

So why did this news from China rock our markets? Because bad news from China impacts more of the world than from anywhere else; the US included. As detailed in Vol. 74 of this venerable publication (www.riskrewardblog.blogspot.com ), Chinese industrial production single handedly supports most emerging market economies. These economies are heavily dependent upon exporting commodities. China consumes 53% of the world’s cement, 48% of its iron ore, 50% of its coal, 45% of its lead, 40-50% of its copper, 36% of its steel and a growing percentage of its oil. With Chinese production slowing, the world is in a state of commodity oversupply. Emblematic of this oversupply is crude oil, the price of which fell below $40/bbl on Friday. This is a drop of 55% from last year. Crude is at its lowest price in six years.

In 2009, when China’s PMI was last at its current depressed level, the Chinese government embarked upon a massive stimulus program; building power plants, roads and thousands of new apartments. The byproduct of this program was a resurgence of commodity prices, a boost in emerging market prosperity and steady if sluggish worldwide economic growth. China’s willingness or ability to repeat that program in 2015 is suspect. Instead, many are expecting China to engage in a currency war in which China will allow its yuan (a/k/a RMB) to devalue 25-30% against the dollar. This will make Chinese products so cheap no Western country will be able to compete. Compounding any devaluation by China is the impending rate increase promised by the Federal Reserve sometime this year; a move which will strengthen the dollar against every other currency and which will make American products even less price competitive.

With the above as a backdrop, a correction to the unprecedented six year bull market should not be a surprise. How long it will last and how deep it will go remain to be seen. As for me, I stay focused on the rate of the US Ten Year Treasury Bond which once again fell below 2.10%. The volatility it has experienced in anticipation of the Fed’s rate increase was magnified by the news from China. That volatility is why I went to cash several months ago and is why I will remain so deployed until the rate increase is announced.

July 12, 2015 Short Stack

Risk/Reward Vol. 272

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

I am suspending the usual format of Risk/Reward for a few weeks in light of an impending move and crowded weekend social schedules. That said, I may send some random thoughts your way if the spirit moves me.

I remain convinced that the Greek affair is much to do about nothing. Indeed, the fear of a Grexit (Greek exit from the Euro) has never been about Greece. It always has been about contagion; the fear that should Greece exit the Euro then Portugal, Spain, Ireland and Italy (PIIGS) could follow suit. That fear has subsided in light of various programs adopted by the European Central Bank (ECB’s) under Mario Draghi, and those countries’ adherence to some modest economic reforms. If you doubt that contagion is a low risk, just look at the yield on the 10Year Bond from the PIIGS. Spain’s is 2.12%; Italy’s is 2.13% (both lower than the US 10Year) while that of Greece is nearly 13%. Remember, the lower the yield, the higher the price, the more creditworthy the debt.

Moreover, the amount of Greek debt held by foreigners has dropped from 247billion Euros in mid- 2012 to 34billion Euros today. That reduction alone lessens the blow from a Grexit; a blow which has been lessened even more by the ECB’s promise to backstop any country that suffers should Greece not reach a deal in the next few days. And this is an event which I believe is likely.

So once Mr. Market determines that Greece is not the boogeyman (and Friday’s action indicates that he may have so determined already), his focus will shift to corporate earnings which will begin to be reported in earnest this coming week. As for me, I will continue to focus on the timing of the Fed’s rate increase with plenty of cash ready to deploy.

June 28, 2015 Dem Bones

Risk/Reward Vol. 271

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.


“When I'm gone (when I'm gone)

When I'm gone (when I'm gone)

You're gonna miss me when I'm gone”—lyrics from “Cups (You’re Gonna Miss Me) sung by Lulu and The Lampshades

“Imagine how the world could be

So very fine

So happy together”---lyrics from “Happy Together” sung by The Turtles

“The foot bone connected to the leg bone,

The leg bone connected to the knee bone”---lyrics from “Dem Bones” sung by Everyone

The Dow Jones Industrial Average and the S&P 500 have barely moved since last I wrote two weeks ago. In fact, I am sure that “You did not miss me when I was gone/When I was gone/When I was gone.” Plot the 50 Day Moving Average on these indices, year to date, and you will see both undulate over and under the nearly flat 50DMA like gentle waves. This remarkably stable condition prevails despite a worsening of the Greek debt crisis; a story to which much blame is assigned to explain day to day market variability. I don’t know what will cause the stock market to break up or down. Maybe it will be when the Fed raises rates in September or December, but one would think much of that has been baked into stock prices already. But the wags who proclaimed that this is a “stock picker’s market” (that is, one where gains are achieved on individual stocks and not on stock indices) appear to be right.

The stock pickers that have done the best this year are those that have identified merger and acquisition candidates. And there are a lot of them. The Wall Street Journal reported yesterday that we are headed for the most active m&a year on record. More than $2.15 trillion worth of deals have been announced as of the third week in June which puts us on a pace to eclipse 2007’s $4.3 trillion merger mania. (Yikes! Does that portend something?) With debt so cheap, plenty of cash on balance sheets and stock prices still high, corporate managers “imagine how the world could be/So very fine/So happy together.” No industry exemplifies this thinking more than health insurance where Humana is for sale, United Health is stalking Aetna and Anthem wants to buy CIGNA---and where, with this week’s Supreme Court decision, we march inexorably to a one party payer system.

This has NOT been a good few months for those who like income producing stocks; that is, those correlated to the bond market. It is for this reason that I am so heavily weighted in cash, having sold most of these in March. However, it has been a great time to study these correlations. And if anyone doubts the existence of correlations (which I define as “the foot bone connected to the leg bone/And the leg bone connected to the knee bone, etc.”), I suggest you do the following. Access Yahoo Finance, and click on the 10Yr. Bond hyperlink. When it opens locate the chart and click on the 2y hyperlink. When it opens click on “Comparison” and enter OHI, the symbol for Omega Health Investors one of my favorite real estate investment trusts (REIT’s). What will be displayed is a chart showing the relative performance between the yield on the 10Yr. and the price of OHI. Have you ever seen a more perfect inverse relationship? Plug in any income stock (REIT, BDC, preferred stock) and you will see similar results. I look for these correlations, focus like a hawk on the yield on the 10Year and make investment decisions accordingly. At present, all signs are that the yield on the 10Yr is headed up. Thus I am in cash until that yield stabilizes. I only need stability because what I seek is steady income (for example, the yield on OHI is presently over 6% annually). However, if the yield on the 10 Year falls, all the better for me because I achieve capital appreciation as well as income. It is an imperfect system, but it protects me from experiencing what befell the stock markets in 2008-2009; an event which has had a greater influence on my investing philosophy than the spectacular gains achieved thereafter.

Having interviewed countless money managers and read countless books on investing, I am convinced that all of us in the game are looking for the one, true secret to investing success. Barb calls it “the one trick”- as in “he is a one trick pony.” For me, the “one trick” is trading in correlation to the yield on the 10Yr. Like The Turtles, that yield

“…showed me what to do
Exactly what to do
How I fell in love with you.”

June 14, 2015 Fed Up

Risk/Reward Vol 270

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Their lips are lying
Only real is real

Grease is the word”---lyrics from “Grease Is The Word” sung by the cast of Grease

“You got to get back up

And when they push you down
You got to get back up”---lyrics from “Get Back Up” sung by T.I. (feat. Chris Brown)

“I’m fed up (ayy), I’m fed up (ayy), I’m fed up (ayy)

I’m so sick and tired of being sick and tired”---lyrics from “Fed Up” sung by DJ Khaled (feat. Lil Wayne)

As a longtime, devoted reader of several financial publications, I can state that, with a few exceptions (e.g. Jon Hilsenrath), financial journalists like their counterparts elsewhere in the Fourth Estate just mail it in. After Wednesday’s huge 236 point jump in the Dow Jones Industrial Average (DJIA), the financial rags were remarkably silent as to the reason ---and, of course, none of them predicted it. Even market-focused Investor’s Business Daily (IBD) disappointed by reporting that “stocks rallied broadly amid signs of progress in Athens.” After Friday’s 140 point drop all IBD could report is “indexes fell as a setback in the bailout talks between Greece and its creditors weighed on sentiment.” Greece? “Greece is the word?” I don’ think so. I think “their lips are lying.” The sad truth is that financial reporters and the publications that employ them don’t help us understand market dynamics. They would rather be silent than be wrong.

Although the indices are stuck in a tight trading range (DJIA up 0.43% and S&P 500 up 1.71% year to date) some individual stocks and sectors have done very well. Year to date, JPMorgan (JPM) is up 7.73%, Goldman Sachs(GS) is up 8.57% and KBE (the banking ETF) is up 9.63%. My hometown stock, Lilly(LLY) (which Barb and I have owned most of our married life) is up 13.23%. But before the “buy and hold” crowd becomes too smug, please note that it was not until 2015 that JPM consistently traded above its 1999 price; that GS still trades far below its 2007 price; and that LLY trades below its year 2000 highs. The years in between have been dominated by forces that “pushed these stocks down.” It is about time that they “got back up/got back up.”

As “sick and tired” as we all are by the Federal Reserve's dominion over the financial world, be prepared to be “Fed up (ayy)/Fed up (ayy)/ Fed up (ayy)” again this week as the Federal Reserve Open Market Committee meets on June 16-17. The conventional wisdom is that if the Fed intends to raise short term interest rates in September, it will so signal in the press release and/or the press conference following this meeting. No signal will be read as postponing the rate increase until December. Either way look for volatility the afternoon of the 17th. If you have not done so already, you may wish to prune some of your interest rate sensitive holdings in advance.

Rest assured, Dear Readers, that even if financial reporters do not spend “Summer Nights” pouring over closing tables, earnings call transcripts and comparative graphs in search of what drives markets, I do. I do so because “You Are the One(s) I Want” to please. I can’t help it. I am “Hopelessly Devoted To You.”

June 7, 2015 Wrecking Ball

Risk/Reward Vol. 269

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“I came in like a wrecking ball

All I wanted was to break your walls

All you ever did was wreck me

Yeah, you, you wreck me”---lyrics from “Wrecking Ball” sung by Miley Cyrus

“There's no way out of this dark place

No hope, no future”---lyrics from “No Way Out” sung by Phil Collins

“Need a little sweetness in my life

Your sugar! (sugar!)
Yes, please (yes, please)”---lyrics from “Sugar” sung by Maroon 5

If, in the future, you ever doubt the influence that the European Central Bank (ECB) and the Federal Reserve have on the financial markets just remember this week. On Wednesday, ECB President Mario Draghi’s offhand comment that the ECB would not use quantitative easing to suppress volatility in Europe’s bond market caused a rout in the German Bund the yield on which jumped 32 basis points (from 0.57 to 0.89%) in just two days. That action rippled through the world bond market “like a wrecking ball/breaking down walls.” If I had not reduced my holdings in interest rate sensitive securities, it would have “wrecked me,” as the yield on the benchmark US 10 Year Treasury Bond (off which most income securities are priced) skyrocketed to heights not seen since October last year. (Remember a rise in yield equates to a drop in price.) If you want a cogent explanation watch Rick Santelli’s interview of Jeffrey Gundlach on Wednesday last which can be accessed through CNBC’s archived videos.

The rise in yields and the concomitant drop in bond prices continued on Friday on the heels of a better-than-expected jobs report. The report was so good, it increased the odds that the Federal Reserve will increase short term rates in September. Traders looked to shed low yielding bonds---and guess what---found very few buyers. The fewer the buyers, the lower the bid; the lower the bid, the greater the volatility. Thus the swings in the bond market have become huge. But why? As discussed in previous editions ( See Vol. 266 www.riskrewardblog.blogspot.com ), since the passage of the Dodd-Frank Act in 2010, major banks, which used to serve as bond market makers (buyers of last resort), no longer are permitted to serve that function. With no market makers in place, those wanting to sell bonds have no ready outlet. “There’s no way out of the dark place.” As the desire to unload low yielding bonds increases (as it will when the Fed increases short term rates), sellers will see “no hope” of avoiding a fire sale.

In today’s world and as seen this week, a significant downdraft in the bond market negatively impacts stock markets. The Dow Jones Industrial Average gave back most of its year to date gains, and the S&P 500 is now up only 1.65%. Why, you ask? As discussed in last week’s edition, much of the gain in stocks this year has resulted from stock buy backs and increased dividends, both of which have been fueled by massive borrowings (bank debt and bonds) by corporations taking advantage of the zero bound interest rates provided by central banks. If the central banks take away this “Sugar! Sugar!/Yes, please/Yes,please” borrowing will slow, buybacks will end and stock prices will drop. The anticipation of this occurring caused stock markets to drop last week.

As I have written in the past, rising yields are inevitable and in the long run should be welcomed by income investors such as yours truly. Unfortunately, the voyage there will be more volatile than in times past due to the absence of bond market makers. The next few months will be a breathtaking roller coaster ride for income investors especially those holding bonds where sellers will outnumber buyers; remindful of what those noted investors Maroon 5 warned:

“And like a little girl cries in the face of a monster that lives in her dreams

Is there anyone out there 'cause it's getting harder and harder to breathe.”

May 31, 2015 So Excited (Not)

Risk/Reward Vol. 268

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“I'm so excited

And I just can't hide it

I'm about to lose control
And I think I like it”---lyrics from “Excited” sung by The Pointer Sisters


“Nothin like the old school
Ain't nuttin like the old school”---lyrics from “Old School” sung by 2Pac

“And I'm bringing you a love that's true.
So get ready, so get ready”---lyrics from “Get Ready” sung by The Temptations

When it comes to this year's stock market, have you heard anyone say “I’m so excited/And I just can’t hide it?” Has anyone exclaimed that “I’m about to lose control?” Or even “I like it?” I have not, and with the news on Friday that the nation’s economy shrank 0.7% in the first quarter, I don’t see a lot of excitement forthcoming. Experts now predict that the economy will grow about 2% for the year, consistent with the sluggish pace experienced over the past few years. With no new monetary stimulus at play (QE3 is over, and short term interest rates cannot go much lower), the stock market remains in a tight trading range. Year to date, the Dow Jones Industrial Average is up only 1.05%, and the S&P 500 is up 2.36%.

The performance of these indices would be much worse if not for an avalanche of share buy backs and dividend raises. Between these two shareholder-friendly moves, corporations comprising the S&P 500 will return a record $1Trillion to shareholders in 2015. Buybacks (which reduce the denominator in eps calculations) alone will raise earnings per share at least 4% for more than 100 companies this year. Exemplifying this is Pfizer (PFE) which is up 11% year to date notwithstanding fourteen consecutive quarters of diminishing sales and three straight quarters of earnings declines. Despite this poor performance, the pharma giant known for Lipitor, Viagra and Lyrica has kept its stock buoyed by coupling earnings announcements with huge buybacks and dividend increases. Is this bad? I don’t think so. Through the 1960’s, publicly traded corporations on average returned more than 50% of their earnings to shareholders primarily via dividends. That percentage fell dramatically in subsequent years. Indeed, dividends were considered passe during the dot.com era. Their return and that of their step sister, share buybacks, should be welcomed by income seekers of a certain age (e.g. yours truly). Like 2Pac, I say “Nothin like old school/Ain’t nuttin’ like old school.”

So far this year, I have not been penalized by sitting on a pile of cash. The DJIA and S&P’s paltry returns have not warranted taking much risk. I have not sat idly, however. I am “gettin’ ready/gettin’ ready” for my chosen moment to buy. As reported previously, that will be when the timing of the Fed’s decision to raise short term interest rates becomes clearer. Based upon the Fed Funds futures and the current yield on the bellwether 10Year Treasury (2.12%), most market participants are looking for the first rate increase in December. I am hoping that it occurs before then (say, September), that it sends a shock through the markets and that it thereby creates a significant buying opportunity. A good shopping list can be had by going to Google Finance’s stock screener, selecting a minimum dividend rate (e.g 3.5%) and sorting by market cap. There you will find "a love that's true." You will see some great, blue chip companies, many of which will be hammered once rates increase--- if only for a short while.

Like it or not, great buying opportunities arise when stock markets drop. And the next rain on the current bull market's parade likely will occur when the Federal Reserve raises interest rates. We all know it is going to happen, so get on with it, Janet. Bring on the storm. Until then, I will continue to invoke The Temptations:

“Sunshine, blue skies, please go away
I know to you it might sound strange

But I wish it would rain
How I wish that it would rain”

May 17, 2015 Don't Worry 'Bout Me

Risk/Reward Vol. 267

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Give me one reason to stay here
And I'll turn right back around”---lyrics from “Give Me One Reason” sung by Tracy Chapman

“I'm friends with the monster that's under my bed
Get along with the voices inside of my head”---lyrics from “Monster” sung by Eminem feat. Rihanna

“Out along the edge
Is always where I burn to be
Highway to the danger zone”---lyrics from “Danger Zone” sung by Kenny Loggins

So what caused the stock market to “turn right back around” on Thursday with the Dow Jones Industrial Average and the S&P 500 both gaining 1.1% and the S&P setting a new record high? The financial rags on Friday were noticeably silent as to why. If I were to “give you one reason” it would be the disappointing Producer Price Index published Thursday morning. Unexpectedly, it showed that the average selling price of domestic products fell 0.4% in April. In the minds of many, this deflationary news lessened the likelihood that the Federal Reserve (which so desperately wants inflation at 2%) will raise rates any time soon. This caused the yield on the bellwether 10 Year Treasury Bond (“10 Year”) to drop more than 10 basis points by the close on Friday. Indeed, the Fed Funds Futures market now pegs the chance of a rate increase earlier than year end at less than 50%. No rate increase means a continuation of easy money, and easy money has fueled the bull market for the past six years.

But is that easy-money bet wise? “The voices in my head” tell me that a rate increase will happen this year. Will it happen in June? Now, probably not. In September? Could be. This year? Probably. And based upon the “taper tantrum” that occurred when the end of QE was first discussed in 2013, the reaction in the bond market will be swift and violent once a rate increase becomes more certain. See the discussions at Vols. 172 and 211 www.riskrewardblog.blogspot.com . For income investors such yours truly, the ones whose favorite securities trade in relation to the yield on 10 Year, a violent increase in rates is “the monster that’s under my bed.” Something that is always there; something that is to be feared and avoided.

Accordingly, if I remain mostly on the sidelines for the next several months, so be it. I do not see any segment of the market catching fire. Despite the nice run in the indices this week, they remain in a tight trading zone with returns in the 1-3% range; returns not warranting the risk. At my age and stage, I have no reason to be “along the edge”, let alone on a “highway to the danger zone.” In times past, that “is always where I get burned.” For the reasons discussed in the past few editions, I look for both the stock and bond markets to remain choppy for the foreseeable future.

When it comes to this market, I find solace in the lyrics of Kenny Loggins. When will the rate increase come? I don’t know. Certainly, I’m NOT prepared to announce:

“(This is it) Make no mistake where you are
(This is it) Your back's to the corner
(This is it) Don't be a fool anymore”

That said, I remain very cautious. “Footloose”, I am not. Instead, I am overweight in cash. There, “Dip, dip,dip/I’m alright/Nobody worry ‘bout me.”

May 10, 2015 See The Exit

Risk/Reward Vol. 266

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.


“So Goldilocks for a while

 Would you mind

 Smiling your perfect smile”---lyrics from “Goldilocks Sometimes” sung by The Monkees



“A weather man of words

 But I could never shoot down

 My high-flying bird”---lyrics from “High Flying Bird” sung by Elton John



“Baby see the exit, exit, see the exit, let's go, out this club

 Exit, exit, exit, see the exit, let's go out this club, exit”---lyrics from “Exit” sung by RKelly



Who would have thought that a so-so April jobs report on Friday would vault the Dow Jones Industrial Average (DJIA) 1.5% (267 points) and the S&P 500 1.35% (28 points)?   Only Mr. Market.  The economy added a respectable 223,000 jobs last month, and unemployment fell to 5.4%. But the job participation rate remained at an historic low (only 62.8% of eligible workers were employed or looking for work), and wages grew at annual rate of only 2.2%, far below the 3-3.5% that labor economists believe is necessary to sustain healthy economic growth. So why the bump? Market commentators called the jobs report  “Goldilocks”: “ not too hot” so as to cause the Federal Reserve to raise interest rates before September; “not too cold” so as to indicate a stalled economy; “just right” for the market to trade within its year-to-date range.   And so, the stock market's steady downward march over the previous few days was halted and reversed by the Labor Department’s “perfect smile” jobs numbers.


And what a reversal it was from Tuesday and Wednesday when the DJIA sank 239 points (and even more intraday).  The market declined in the aftermath of comments from Fed Chair Janet Yellen early in the week that “equity market valuations were generally quite high.” Talk about “a weather man of words/shooting down/a high flying bird!”  Clearly, whatever else one believes impacts the stock market, one cannot deny that the Fed is influence numero uno.  A few negative words from Janet and the market lost all of its year to date gains; two days later a jobs report indicating that the Fed may not raise rates until September caused the indices to flirt with all time highs.  I believe that these “mixed signals,” about which I wrote last week (www.riskrewardblog.blogspot.com ), will cause the markets to yo-yo until the Fed makes a definitive move.


The bond market mirrored the stock market’s action with the yield on the bellwether 10 Year US Treasury reaching as high as 2.24% midweek before falling to 2.15% at Friday’s close. (Remember: as yields increase, prices decline.)  However, on a percentage basis, the bond market is much more volatile and will remain so until the Fed raises rates. The reason is simple and has been the subject of recent comments from virtually every market guru from Bill Gross to Jeffrey Gundlach to Mohamed El Erian to Stanley Druckenmiller to Larry Summers to Howard Marks to most recently Jamie Dimon, the head of JPMorganChase.  And that reason is this:  a lack of liquidity---which is a fancy way of saying there won’t be enough buyers when everyone wants out of bonds and starts yelling “ Baby see the exit, exit, see the exit, let's go, out this club/Exit, exit, exit, see the exit, let's go out this club, exit.” In the past, large banks (e.g. Citibank, JPMorganChase, Wells Fargo, Deutsche Bank, etc.) served as the buyers of last resort or “market makers” for all types of bonds. Historically, this role had been profitable for large banks.  At the same time, the role served to stabilize the bond market. But market making, in the short run, can and has exposed these institutions to significant risk; the type that occurred in 2008-2009 when the bottom fell out of all markets necessitating government assistance. The Dodd-Frank law was enacted, in part, to address the bond trading risks faced by banks, in particular the large ones such as Citibank which were deemed “too big to fail.” In typical regulatory fashion, however, Dodd Frank appears to have overshot the mark and now, in a classic example of “unintended consequences”, Dodd-Frank has created a bond market powder keg.  Without large banks serving as market makers, buying when others don't want to and backstopping prices, the bond market likely will fall precipitously once the Fed raises rates.  This is the main reason that income investors (preferred stocks, REIT's, municipal bond funds, utilities, etc.) such as yours truly, whose securities trade in relation to the bond market, must remain cautious and vigilant.  And why, Dear Readers, I remain overweight in cash.


And so the beat goes on--- with the stock and bond markets down significantly one day; up significantly the next. I see this pattern continuing until the greatest influence on Mr. Market's conduct, the Fed, finally raises rates. Like The Monkees, of this “I’m a believer/Not a trace of doubt in my mind.” Unless, of course, I change my mind.

May 3, 2015 Mixed Signals

Risk/Reward Vol. 265

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN

Sorry, but I have been too busy to compose a typical Risk/Reward. All good---just too busy. That said, once again, too much occurred this week to let it pass without comment.

Thursday and Friday were quite a roller coaster ---the Dow down 200 one day then up 200 the next. Despite this action, the week ended nearly where it did last week. Why the volatility, you ask? Mixed signals. Corporate earnings are ok, but top line performance is spotty and guidance is cautious. The economy grew at a disappointing 0.2% in the first quarter, but employment numbers continue to improve. Add to this the uncertainty arising from the Federal Reserve's press release after its mid week meeting. It left many Fed watchers wondering whether the first rate increase would occur in June or September or not at all this year. Mixed signals indeed--- at least for those in the equity market.

The bond market however traded with much more certainty. The yield on the bellwether 10 Year Treasury Bond rose steadily after the Fed meeting. It ended the week at 2.12%, 20 basis points above its close last week. This 10% increase bespoke conviction by bond traders that the Fed will raise rates this year, a sluggish economy notwithstanding. Indeed, the rapidity of the increase in the 10Year yield indicates that many in the bond market see the increase coming in June. Frankly, a rate bump before the release of Q2 economic numbers (which would be in July) makes sense if the Fed is hell bent on an increase in 2015---as it appears to be. If Q2 economic data disappoints, as it well could, the Fed would have a difficult time raising rates at all this year.

At this point, I want an increase in June. If one occurs, it will cause the market to oversell income securities---of this I am certain. And I have identified a slew of great stocks that I will buy if and when an increase occurs. Take a look at my favorite triple net lease, real estate investment trust (REIT), Realty Income (O). O owns nearly 4500 single purpose buildings leased to highly rated tenants like Firestone, Publix, Taco Bell, Home Depot, etc. Moreover, it has increased its dividend every quarter for 70 quarters. Nevertheless, its stock price is down double digits over the past 3 months which has caused its annual yield to approach 5%. It is a must buy once the Fed announces a rate increase. Also take a look at the senior living REIT space where Ventas (VTR), Senior Housing (SNR) and Omega (OHI) have likewise suffered double digit losses since February. These are solid companies with a history of increasing dividends. They too are on my shopping list once the Fed acts.

April 26, 2015 Livin' On A Prayer

Risk/Reward Vol 264

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“Buy it, use it, break it, fix it,

Trash it, change it, mail it,

Charge it, point it, zoom it, press it”---lyrics from “Technological” sung by Daft Punk

“Whoa, we're half way there

Whoa, livin' on a prayer”---lyrics “Livin’ On a Prayer” sung by Bon Jovi

“Is that all there is/Is that all there is

If that's all there is my friends/Then let's keep dancing”---lyrics from “Is That All There Is” sung by Peggy Lee

The NASDAQ Index, comprised of the top 100 “Technological” companies, set a new record on Friday surpassing its previous high set fifteen years ago during the Dotcom days. This rise also caused the S&P 500 Index to flirt with a new high because many NASDAQ companies are also in the S&P. Leading the advance was Amazon which rose 15% on Friday despite reporting another quarter of negative earnings. Investors are willing to forego profits because they love the growth story that is and always has been Amazon---first books, then Kindles and now logistics and web services. As long as consumers “buy it, use it, break it, fix it/Trash it, change it, mail it/Charge it, point it, zoom it, press it”----and it is supplied and/or delivered by Amazon, investors will support the stock. Oh and talk about a good day. On Friday alone, Amazon founder Jeff Bezos’ net worth rose $5billion.

We are midway through the earnings season. How are doing “half way there?” So far, 53% of the companies reporting have missed sales (top line) expectations, but 73% have beaten earnings per share expectations. This dichotomy is not surprising in light of the impact of share buy backs highlighted in last week’s edition. (www.riskrewardblog.blogspot.com ). Overall the performance has been less than stellar, but has been good enough to put both the Dow Jones Industrial Average (+1.44%) and the S&P 500 (+2.86%) back into positive territory for 2015. So are these gains on solid footing, or are we “livin’ on a prayer?”

When tech stocks lead the way and more than half of the companies miss on the top line (despite lowered expectations), one is left to wonder “is that all there is/is that all there is” to support a rally? Should we “keep dancing” or is the music about to end? Having been burned badly by NASDAQ stocks fifteen years ago, I am leery of any market dominated by the tech sector. Moreover, even in the presence of massive stock buy-back programs (which reduce denominators in earnings per share calculations), stocks are at the high end of historic valuations. The S&P 500 stocks are trading at 27 times earnings averaged over the past 10 years---something that they have not done since before the Dotcom collapse. “Is that all there is”---indeed.

But for the NASDAQ 100 (+7.52%), stocks so far in 2015 have been a risky and only marginally rewarding investment. Is the six year bull market about to end? Who knows? I, for one, am holding pat, overweight cash. I remember only too well my Y2K NASDAQ love affair--- and the woe it begot me. Back then, I found myself living these Bon Jovi lyrics:

“Shot through the heart and you're to blame

You (NASDAQ) give love a bad name.”