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.