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.”