Saturday, September 27, 2014
September 27, 2014 Ball of Confusion
Risk/Reward Vol. 237
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Round and around and around we go
Where the world’s heading/Nobody knows
Great googalooga/Can’t you hear me talking to you
Just a ball of confusion.”---lyrics from “Ball of Confusion” sung by The Temptations
“Don’t you know things can change
Can you hold on for one more day
Things’ll go your way.”---lyrics from “Hold On” sung by Wilson Phillips
“Give me that old time religion
It’s good enough for me.”---lyrics from “Old Time Religion” sung by Everyone
“Round and around and around we go/Where the market’s heading/Nobody knows.” This week The Dow Jones Industrial Average was down triple digits, down triple digits, up triple digits, down triple digits, up triple digits. Is the stock market just a roulette wheel; “just a ball of confusion”? At first glance the answer appears to be “yes”; but a deeper look reveals that the market’s confusion is justified. Domestically, Mr. Market is struggling to digest the impact of an improving economy and the prospect of interest rates rising as early as Q1 2015. Meanwhile, he must consider the fact that economies elsewhere; notably in China and the Eurozone are staring at sluggish growth in one instance (weak domestic demand for goods and slowing exports in China) and recession in the other (Euro at multi-year low versus the dollar). In response, their central banks are adopting ever more accommodative monetary policies. In short, Mr. Market must determine if the US can continue to prosper and to tighten its monetary policy if the rest of the world’s economies continue to struggle and their banks continue to loosen their purse strings.
The cross currents buffeting the broader market also were felt this week in the income sectors that I fancy. Action on the 5Year Treasury Note exemplified this. On Wednesday, the 5Year experienced a weak auction with low coverage and a low bid, both facts signaling a belief that interest rates likely will increase sooner rather than later. This followed news earlier in the week that the spread on the 5Year Treasury Inflation Protected Note (TIP) was at a multi-year low signaling Mr. Market’s belief (that day at least) that inflation would average only 1.6% annually over the next five years; a situation that augurs against any interest rate increases. Huh? Adding to the confusion in the fixed income world was the shocking resignation on Friday of the Bond King, Bill Gross, from PIMCO, the company that he founded. Much disruption in the fixed income sector is possible in the days ahead as billions of dollars may follow him to his new home at Janus---or not. Through it all, the yield on the 10Year Treasury, to which I attach great significance, traded in a tight range---essentially holding pat; as did I. I bought very little this week. “You know that if you hold on (to your cash) for one more day/Things can change.” Indeed, “they may even go your way.”
In times like this, I seek guidance in “old time religion/It’s good enough for me.” So this week, I re-read portions of Benjamin Graham’s books Security Analysis (first published in 1934) and The Intelligent Investor (first published in 1949). And am I glad that I did. Ben Graham is considered the father of value investing and is remembered as Warren Buffett’s mentor and guru. But he is so much more than either of those sobriquets. If you have not read these, I suggest that you do (and if only one, make it The Intelligent Investor). The distinction he draws between investors and speculators, with the former’s insistence upon the receipt of regular and consistent income, reinforces the conviction I have in my approach. In a world of suppressed interest rates, balance sheets bloated by retained earnings and a love affair with share buy backs, it has become difficult to find solid streams of income. But, the difficulty of the search only makes the discovery more rewarding.
In editing this edition, it reads too didactic. I will resist The Temptation for “store front preachin’” in the future. That said, you may not hear from me for two weeks. I am heading to Italy with “My Girl.” And it is likely that
“I won’t have time to think about money
Or what it can buy
I’ll be a fella
With a one, a one track mind
And if it comes to thinkin’ about
Anything but my baby
I just won’t have the time.”
Saturday, September 20, 2014
September 20, 2014 The Man
Risk/Reward Vol. 236
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Yeah, you can tell everybody
Go ahead and tell everybody
I’m the man, I’m the man, I’m the man.”---lyrics from “The Man” sung by Aloe Blacc
“You got me running, muttering, screaming each and every night
Faster and faster.”---lyrics from “Faster” sung by Janelle Monae
“The present has no ribbon
Your gift keeps on giving
We’re up all night to get lucky.”---lyrics from “Get Lucky” sung by Daft Punk
As I have written in the past (see Vols. 174, 205, 217, 220 and 224 www.riskrewardblog.blogspot.com ), “you can tell everybody/Go ahead and tell everybody” that when it comes to gauging the pulse of the Federal Reserve, Jon Hilsenrath of the Wall Street Journal is “the man, is the man, is the man.” And never has his position as the Fed’s designated leak been more on display than Tuesday morning during a webcast that he hosted and that I watched. At approximately 11:15 a.m., he predicted, confidently, that in the statement scheduled to be released the next day at the conclusion of its two day meeting, the Fed would not abandon its promise to forego raising short term interest rates for a “considerable time” after QE3 ends in October (see last week’s discussion). Almost instantaneously, both the Dow Jones Industrial Average (DJIA) and the S&P 500 (which had been languishing in negative territory for days in anticipation of the Fed’s statement) skyrocketed. The DJIA gained more than 100 points in a matter of minutes. Indeed, the release of the actual statement by the Fed on Wednesday afternoon, which confirmed Hilsenrath’s prediction, proved anticlimactic as the markets moved only modestly upward. Assured that the Fed’s easy money policy will remain intact for the next several months, the DJIA continued to cruise upward to new highs on Thursday and Friday.
That said, the Fed’s statement was not all rosy for the easy money crowd. Although Mr. Market has interpreted the phrase “considerable time” used in the statement to mean that short term interest rates will not be raised until mid-2015, the Fed’s statement also contained charts indicating that once rates do begin to rise, the pace will be “faster” than previously anticipated. This news caused “muttering and screaming” among fixed income investors as reflected in the yield on the bellwether 10 Year Treasury Bond which increased on the news, closing Thursday at 2.63% (highest since July 3) and Friday at 2.59%. (Remember a rise in yield means a drop in price.) For those like me who were agnostic as to the Fed’s course of action (since I was 2/3rds in cash), the statement and its impact have helped inform the actions I will take over the next few weeks and months. My read is that, absent exogenous events, the yield on the 10Year will remain range bound between 2.4% and 2.75% into the first quarter of 2015. This read gives me comfort sufficient to reinvest into the full complement of securities that I held prior to liquidating them at the end of July. Assuming my read is correct, these securities should provide me an additional 1 ½ to 2% gain by year end.
With so much attention focused this week on the Fed, Scotland and the Alibaba IPO, it would have been easy to overlook some “presents”, many of which came with “no ribbon.” One such present is a rights offering issued by Gabelli Equity Trust (GAB), market guru Mario Gabelli’s flagship equity closed end fund. Rights offerings (RO) are like secondary stock issuances, but limit the participants to existing shareholders thus reducing their dilutive effect. GAB’s offering has resulted in its stock trading at or below its projected post RO net asset value (NAV) something that rarely happens. This looks like “a gift” which will “keep on giving". I initiated a position late in the week. Sometimes, you don’t need to be “up all night to get lucky.” I also took advantage of a dip in ARCP, the nation’s largest single tenant triple net lease real estate investment trust. For those who want a lesser but more secure return, take a look at its preferred stock, ARCPP. And then there are the oil companies, all of which remain in the bargain bin. A broken record I may be, but one cannot look at the events occurring in the mid-east and the sanctions placed on Russia (the world’s second largest oil exporter) and not conclude that a bet on US domestic oil production, transport and/or supply is a good one. Pick any number of companies in these sectors, and I believe you will be a winner.
And so my search for a reasonable return in exchange for a reasonable risk continues. Earning such a return in today’s zero-bound interest rate environment, created and now perpetuated by the world’s central banks, is not easy. But, like Daft Punk, I believe the following:
“Work it, make it, do it, makes us
Harder, better, faster, stronger.
And work it, make it, do it, I will.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Yeah, you can tell everybody
Go ahead and tell everybody
I’m the man, I’m the man, I’m the man.”---lyrics from “The Man” sung by Aloe Blacc
“You got me running, muttering, screaming each and every night
Faster and faster.”---lyrics from “Faster” sung by Janelle Monae
“The present has no ribbon
Your gift keeps on giving
We’re up all night to get lucky.”---lyrics from “Get Lucky” sung by Daft Punk
As I have written in the past (see Vols. 174, 205, 217, 220 and 224 www.riskrewardblog.blogspot.com ), “you can tell everybody/Go ahead and tell everybody” that when it comes to gauging the pulse of the Federal Reserve, Jon Hilsenrath of the Wall Street Journal is “the man, is the man, is the man.” And never has his position as the Fed’s designated leak been more on display than Tuesday morning during a webcast that he hosted and that I watched. At approximately 11:15 a.m., he predicted, confidently, that in the statement scheduled to be released the next day at the conclusion of its two day meeting, the Fed would not abandon its promise to forego raising short term interest rates for a “considerable time” after QE3 ends in October (see last week’s discussion). Almost instantaneously, both the Dow Jones Industrial Average (DJIA) and the S&P 500 (which had been languishing in negative territory for days in anticipation of the Fed’s statement) skyrocketed. The DJIA gained more than 100 points in a matter of minutes. Indeed, the release of the actual statement by the Fed on Wednesday afternoon, which confirmed Hilsenrath’s prediction, proved anticlimactic as the markets moved only modestly upward. Assured that the Fed’s easy money policy will remain intact for the next several months, the DJIA continued to cruise upward to new highs on Thursday and Friday.
That said, the Fed’s statement was not all rosy for the easy money crowd. Although Mr. Market has interpreted the phrase “considerable time” used in the statement to mean that short term interest rates will not be raised until mid-2015, the Fed’s statement also contained charts indicating that once rates do begin to rise, the pace will be “faster” than previously anticipated. This news caused “muttering and screaming” among fixed income investors as reflected in the yield on the bellwether 10 Year Treasury Bond which increased on the news, closing Thursday at 2.63% (highest since July 3) and Friday at 2.59%. (Remember a rise in yield means a drop in price.) For those like me who were agnostic as to the Fed’s course of action (since I was 2/3rds in cash), the statement and its impact have helped inform the actions I will take over the next few weeks and months. My read is that, absent exogenous events, the yield on the 10Year will remain range bound between 2.4% and 2.75% into the first quarter of 2015. This read gives me comfort sufficient to reinvest into the full complement of securities that I held prior to liquidating them at the end of July. Assuming my read is correct, these securities should provide me an additional 1 ½ to 2% gain by year end.
With so much attention focused this week on the Fed, Scotland and the Alibaba IPO, it would have been easy to overlook some “presents”, many of which came with “no ribbon.” One such present is a rights offering issued by Gabelli Equity Trust (GAB), market guru Mario Gabelli’s flagship equity closed end fund. Rights offerings (RO) are like secondary stock issuances, but limit the participants to existing shareholders thus reducing their dilutive effect. GAB’s offering has resulted in its stock trading at or below its projected post RO net asset value (NAV) something that rarely happens. This looks like “a gift” which will “keep on giving". I initiated a position late in the week. Sometimes, you don’t need to be “up all night to get lucky.” I also took advantage of a dip in ARCP, the nation’s largest single tenant triple net lease real estate investment trust. For those who want a lesser but more secure return, take a look at its preferred stock, ARCPP. And then there are the oil companies, all of which remain in the bargain bin. A broken record I may be, but one cannot look at the events occurring in the mid-east and the sanctions placed on Russia (the world’s second largest oil exporter) and not conclude that a bet on US domestic oil production, transport and/or supply is a good one. Pick any number of companies in these sectors, and I believe you will be a winner.
And so my search for a reasonable return in exchange for a reasonable risk continues. Earning such a return in today’s zero-bound interest rate environment, created and now perpetuated by the world’s central banks, is not easy. But, like Daft Punk, I believe the following:
“Work it, make it, do it, makes us
Harder, better, faster, stronger.
And work it, make it, do it, I will.
Saturday, September 13, 2014
September 13, 2014 Worry,Worry
Risk/Reward Vol. 235
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Worry, worry, worry, worry
Worry just will not seem to leave my mind alone.”---lyrics from “Trouble” sung by Ray LaMontagne
“Slow ride/Take it easy
Slow ride/Take it easy.”---lyrics from “Slow Ride” sung by Foghat
“Love til you hate
Know that we all fall down.”---lyrics from “All Fall Down” sung by One Republic
This week’s drop in the stock market resulted from “Worry, worry, worry, worry” that the Federal Reserve (Fed) will amend its forward guidance at its meeting next week. Specifically, the “worry” is that the Fed will announce that it may not wait a “considerable time” (at least six months) after quantitative easing (QE3) ends in October before raising short term interest rates. On Friday one of my favorite market gurus, Mohamed El-Erian, handicapped at 50/50 the likelihood of a change in Fed guidance. As a consequence of this “worrying”, the bond market experienced a sell-off causing the yield on the benchmark US10 Year Bond to climb to 2.61% at Friday's close. (N.B. falling prices mean rising yields). This in turn caused yields to rise worldwide. Stocks took a breather as well, as investors mulled the potential consequences of the Fed’s first rate increase since 2006. As an income investor, thoughts of rising interest rates “will not leave my mind alone”---at least not until after next week’s Fed meeting.
One notable dissenter from the “worry” crowd is Jeffrey Gundlach. If Bill Gross is the Bond King, then Gundlach is the Crown Prince. During his webcast last Tuesday, Gundlach advised fixed income investors to “Take it easy.” He sees no reason for the Fed to change its forward guidance or to otherwise signal an increase in interest rates. He cites the following facts as evidence that economies worldwide continue on a “slow ride” which he believes will grow even “slower” if the Fed even hints of a rate increase next week:
• Wage inflation for the lower 70% of US wage earners is non-existent, and wage inflation is Janet Yellen’s major concern. The prospect of wage inflation appears even less likely in light of the most recent, disappointing jobs number and the increase in jobless benefit claims reported last Thursday.
• Other drivers of inflation are moderating with oil prices dropping 15% since June.
• Domestic new home starts, traditionally a Fed bellwether, continue to fall despite low interest rates.
• The Chinese economy which served as a major catalyst for the post 2008 worldwide economic recovery (See Vol. 74 www.riskrewardblog.blogspot.com ) has been downgraded and is scheduled to grow at only 7.4% annually, its lowest rate since 1990. Evidencing this is the 40% year-to-date decline in the price of iron ore. China buys 2/3rd’s of all of the iron ore mined in the world, and iron ore drives the economies of many emerging markets like Peru, Brazil and Australia.
Gundlach cites these facts as further reasons for fixed income investors to “take it easy”:
• Quantitative easing in the Eurozone and elsewhere makes US 10 Year rates look attractive---above or below 2.5%. In last Wednesday’s $21bn auction of US10Year Bonds, 53 % were purchased by “indirect purchasers”, a group that includes foreign central banks; the highest percentage since Dec. 2011
• Even if the Fed does raise short term rates, it will only flatten the yield curve. Longer term rates (e.g. 10Year Bonds and longer) will experience little if any disruption due to the unprecedented amount of liquidity worldwide; in other words there is just too much demand for safe haven securities.
I recommend that you listen to a replay of Gundlach's presentation which was closely followed in real time on Twitter. It can be found at www.doubleline.com/webcasts.php .
As noted above, the price of oil continues to “All Fall Down” with the world’s benchmark, Brent oil, below $100/bbl and the domestic benchmark, WTI, near $90/bbl. And demand continues to drop. China is the second largest consumer of oil in the world, and its crude oil imports fell 2.4% in August. Meanwhile, production continues to increase. Thanks to hydraulic fracturing (“fracking”), US domestic crude production is now at 8.5million bbls/day (up from 5million bbls/day in 2007) and is projected to rise to 9.5million bbls/day in 2015 (more than half of US daily consumption and equal to the daily production of Saudi Arabia). Oil stocks, like all securities, are ones that investors “love till you hate.” Well, if falling prices are a sign of hate, then the hatin’ has begun. That said, there are some excellent companies on sale at present. Last week I highlighted Vanguard Natural Resources (VNR). Next week take a look at Breitburn Energy (BBEP) an acquisitive exploration and production company that pays a 9% dividend as one waits for the price of oil (and BBEP stock) to recover. With all of the turmoil in the world today, I am confident both will occur. A safer way to play Breitburn is its preferred stock (BBEPP) which is less volatile but still yields over 8% annually, amortized monthly. If big oil suits your fancy, Jim Cramer and some of my readers are pushing Royal Dutch Shell (RDS).
With so much riding on what happens at next week’s Federal Reserve meeting, I added very little to my holdings this week and remain 2/3rd’s in cash. I like counting the dollars that I have earned so far this year. I don’t want to spend any restless nights living the following One Republic lyric:
“Lately I been, I been losing sleep
Dreaming about the things that we could be
But baby, I been, I been prayin' hard
Said no more counting dollars
We'll be counting stars”
Saturday, September 6, 2014
September 6, 2014 Can You Do It
Risk/Reward Vol. 234
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You can go your own way
Go your own way."---lyrics from “Go Your Own Way” sung by Fleetwood Mac
“Come on people. Can you do it, can you do it, can you do it
Can you do it, can you do it, can you do it
Can you do it, can you do it”---lyrics from “Cool Jerk” sung by The Capitols
“My boyfriend’s back/He’s gonna save my reputation
If I were you/I’d take a permanent vacation.”---lyrics from ‘My Boyfriend’s Back” sung by The Angels
On Thursday, as expected the ECB embarked on a new round of quantitative easing (QE) announcing that it will purchase asset backed securities and covered bonds (bonds with an added layer of security). In a bit of a surprise, the ECB also lowered the rates at which it lends to its member banks and raised the penalty for parking money that it holds on deposit for those same institutions. The ECB is doing all of this in order to spur economic activity in the economically moribund Eurozone which is spiraling toward recession and deflation. In so doing, the ECB is "going its own way/its own way" at least in comparison to the U.S. Federal Reserve. With the US economy showing continued improvement, the Fed is winding down its QE program which is scheduled to end in October. Moreover, it has pledged to raise short term interest rates if future data points reveal steady job growth and increased momentum toward its goal for inflation of 2%. The personal consumption expenditure index (PCE), the Fed's preferred inflation measuring stick, is currently at 1.6%.
With the above central bank divergence now a reality, the hypothetical I posited last week (“Can the Fed expect to increase the 10Year Treasury rate by tightening its short term interest rate reins if the European Central Bank loosens its belt and embarks on a new round of quantitative easing?” www.riskrewardblog.blogspot.com ) has become a real question. “ Can you do it, can you do it, can you do it/ Can you do it, can you do it, can you do it/ Can you do it, can you do it” So far, the answer is unclear with the 10 Year yield rising this week but coming to rest well below 2.5% at the close. The disappointing job numbers reported on Friday lessened the likelihood that the Fed will signal any acceleration in its decisional timetable at this month's meeting which is scheduled for Sept. 16-17. Still, I remain cautious; 2/3rds in cash. The stock markets are also digesting the impact of this divergence. Both the S&P 500 and the Dow Jones Industrial Average traded flat for most of the week, but ended with a flair, obviously adopting the adage that bad news (job numbers) is good news at least when it comes to keeping interest rates low and stock prices high.
Those that invest in the oil patch likely have encountered Kevin Kaiser, the energy sector analyst for Hedgeye. Hedgeye describes itself as “a bold, trusted, no-excuses provider of actionable investment research.” In times past, Kaiser has bashed Kinder Morgan and Linn Energy only to be proven wrong. Despite this, Hedgeye has not sent Kaiser on a “permanent vacation.” And now he has attacked Vanguard Resources (VNR) which he states is “worth (only)a small fraction of its current price.” (Small fraction? Really?) Kaiser’s track record notwithstanding, VNR’s stock has plummeted 12% since July 29th. Admittedly, VNR’s dividend is not sustainable at its current coverage ratio, but its outlook is good, and management is on record that its 8.5% yield is not in jeopardy. That said, until VNR’s “boyfriend” or some defender other than management emerges to “save its reputation”, its price likely will continue to languish. I see this as a buying opportunity.
This week, one of my favorite market mavens (see Vol. 173 www.riskrewardblog.blogspot.com), Howard Marks of Oaktree Capital Management, published his latest memo. It can be found at www.oaktreecapital.com and I recommend it to your attention. Therein, he discusses various market risks. One risk he identifies is FOMO, the fear of missing out. FOMO is a silly reason to invest, but a real one nonetheless. Having booked a 7% return so far this year, I wonder if my foray back into the market is driven less by intellect and more by FOMO. I would hate like hell to have my year devolve into a pathetic Fleetwood Mac lyric:
“I climbed a mountain and I turned around
And I saw my reflection in the snow-covered hills
Till the landslide brought me down”
I don’t think FOMO is the reason I am back in the market, but it is something against which I must guard.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You can go your own way
Go your own way."---lyrics from “Go Your Own Way” sung by Fleetwood Mac
“Come on people. Can you do it, can you do it, can you do it
Can you do it, can you do it, can you do it
Can you do it, can you do it”---lyrics from “Cool Jerk” sung by The Capitols
“My boyfriend’s back/He’s gonna save my reputation
If I were you/I’d take a permanent vacation.”---lyrics from ‘My Boyfriend’s Back” sung by The Angels
On Thursday, as expected the ECB embarked on a new round of quantitative easing (QE) announcing that it will purchase asset backed securities and covered bonds (bonds with an added layer of security). In a bit of a surprise, the ECB also lowered the rates at which it lends to its member banks and raised the penalty for parking money that it holds on deposit for those same institutions. The ECB is doing all of this in order to spur economic activity in the economically moribund Eurozone which is spiraling toward recession and deflation. In so doing, the ECB is "going its own way/its own way" at least in comparison to the U.S. Federal Reserve. With the US economy showing continued improvement, the Fed is winding down its QE program which is scheduled to end in October. Moreover, it has pledged to raise short term interest rates if future data points reveal steady job growth and increased momentum toward its goal for inflation of 2%. The personal consumption expenditure index (PCE), the Fed's preferred inflation measuring stick, is currently at 1.6%.
With the above central bank divergence now a reality, the hypothetical I posited last week (“Can the Fed expect to increase the 10Year Treasury rate by tightening its short term interest rate reins if the European Central Bank loosens its belt and embarks on a new round of quantitative easing?” www.riskrewardblog.blogspot.com ) has become a real question. “ Can you do it, can you do it, can you do it/ Can you do it, can you do it, can you do it/ Can you do it, can you do it” So far, the answer is unclear with the 10 Year yield rising this week but coming to rest well below 2.5% at the close. The disappointing job numbers reported on Friday lessened the likelihood that the Fed will signal any acceleration in its decisional timetable at this month's meeting which is scheduled for Sept. 16-17. Still, I remain cautious; 2/3rds in cash. The stock markets are also digesting the impact of this divergence. Both the S&P 500 and the Dow Jones Industrial Average traded flat for most of the week, but ended with a flair, obviously adopting the adage that bad news (job numbers) is good news at least when it comes to keeping interest rates low and stock prices high.
Those that invest in the oil patch likely have encountered Kevin Kaiser, the energy sector analyst for Hedgeye. Hedgeye describes itself as “a bold, trusted, no-excuses provider of actionable investment research.” In times past, Kaiser has bashed Kinder Morgan and Linn Energy only to be proven wrong. Despite this, Hedgeye has not sent Kaiser on a “permanent vacation.” And now he has attacked Vanguard Resources (VNR) which he states is “worth (only)a small fraction of its current price.” (Small fraction? Really?) Kaiser’s track record notwithstanding, VNR’s stock has plummeted 12% since July 29th. Admittedly, VNR’s dividend is not sustainable at its current coverage ratio, but its outlook is good, and management is on record that its 8.5% yield is not in jeopardy. That said, until VNR’s “boyfriend” or some defender other than management emerges to “save its reputation”, its price likely will continue to languish. I see this as a buying opportunity.
This week, one of my favorite market mavens (see Vol. 173 www.riskrewardblog.blogspot.com), Howard Marks of Oaktree Capital Management, published his latest memo. It can be found at www.oaktreecapital.com and I recommend it to your attention. Therein, he discusses various market risks. One risk he identifies is FOMO, the fear of missing out. FOMO is a silly reason to invest, but a real one nonetheless. Having booked a 7% return so far this year, I wonder if my foray back into the market is driven less by intellect and more by FOMO. I would hate like hell to have my year devolve into a pathetic Fleetwood Mac lyric:
“I climbed a mountain and I turned around
And I saw my reflection in the snow-covered hills
Till the landslide brought me down”
I don’t think FOMO is the reason I am back in the market, but it is something against which I must guard.
Saturday, August 30, 2014
August 30, 2014 Reachin'/Low
Risk/Reward Vol. 233(2)
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“And I know the sky may be high
But, Baby, it ain’t really that high
Reach for the stars
Let’s reach for the stars.”---lyrics from ‘Reach For The Stars” sung by Will.I.Am
“How low can you go?
I could go low/Lower than you know.”---lyrics from “How Low Can You Go” sung by Ludacris
“You got no guts/You get no glory
And I’m bettin’ my money on an ace in the hole
Think I’m getting’ out of control.”---lyrics from “Out of Control” sung by The Eagles
For the month of August, the Dow Jones Industrial Average is up over 3% and the S&P 500 is up nearly 4% with each index fully recovering from July's correction and each hitting record highs this week. Truly, “the sky may be high/But, Baby, it aint’ that high” when markets “reach for the stars”. And, “reachin’ for the stars” is what the stock markets are doing. Indeed, prices are so high, I had to be very selective as I began my re-entry this week. Municipal bond closed end funds, preferred stock funds and some oil plays still look attractive.
Aiding the stock market’s “reach for the stars” has been the falling yield in the bond market, most notably the yield on the all-important 10Year Treasury Bond. Traditionally, as bond yields fall, stocks become more attractive. This certainly has held true recently as the cyclically adjusted price/earning ratio for the S&P 500 (CAPE, see Vol. 226 www.riskrewardblog.blogspot.com for a discussion of this) has been stretched to historic levels. With the US 10Year yielding only 2.34% at yesterday’s close, one is left to wonder “How Low Can It Go?” “Lower than you know”, or at least lower than the experts know. Indeed, at the start of the year, any suggestion that the yield on the 10Year would be below 2.35% on Labor Day would have been deemed “Ludacris.”
And now these very same experts are questioning whether the Federal Reserve has lost the ability to raise interest rates if and when it decides the time is right. A provocative opinion piece written by George Melloan in the August 26, 2014 edition of the Wall Street Journal suggests that interest rates indeed may be “getting’ out the the Fed’s control.” I recommend the piece to your attention. Therein Melloan analyzes each of the Fed’s traditional tools for raising rates (e.g. reverse repos, raising interest rates paid on reserves, and its “ace in the hole” raising the Fed funds rate). He then concludes that none of these may be effective in a world awash in liquidity---liquidity made available through accommodative monetary policies adopted by central banks world wide. Can the Fed expect to increase the 10Year Treasury rate by tightening its short term interest rate reins if the European Central Bank loosens its belt and embarks on a new round of quantitative easing? Forty percent of U.S. government issued debt is owned by foreign interests currently, and that percentage continues to increase. And why not, when the German 10 Year Bund yields only 0.89% and the Spanish 10Year yields only 2.2%. Given a choice, who wouldn’t rather own the US 10Year, even at a 2.3% yield?
How valuable are the opinions of so-called experts in this “Desperado” world, anyway? None has provided me with a “Peaceful, Easy Feeling." How about you? None can say with any conviction whether stocks will continue to climb and/or interest rates will continue to fall. Even if one were to predict “How Long” this “Life in the Fast Lane” will continue, I, for one, would not believe their "Lyin' Eyes." The only approach an individual investor can take is to remain nimble, reserving to oneself the ability “to check out anytime you want.” That’s what I did, and what undoubtedly I will decide to do again “One of These Nights.
Saturday, August 23, 2014
August 23, 2014 Do What You Say
Risk/Reward Vol. 232
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Why don’t you do what you say
Say what you mean
One thing leads to another.”---lyrics from “One Thing Leads to Another” sung by The Fixx
“We bounce to this track
Hands to the sky/And throw your hair back
Bounce, bounce, bounce.”---lyrics from “Bounce” sung by Calvin Harris
“Listen children, all is not lost
All is not lost, oh no, no
Can you dig it?/Yes I can
And I’ve waited such a long time
For the day.”---lyrics from “Saturday in the Park” sung by Chicago
On August 9th, when last I wrote, I noted that from my vantage point on the sidelines, prices throughout the oil patch had fallen significantly and that several stocks including master limited partnerships KMR, KMP and ETP (each of which is controlled by Kinder Morgan (KMI)) were “very attractive.” Sadly, although I “said what I meant”, I had no time to “to do what I said.” “One thing (low prices) led to another (a buyout).” Indeed, the very next day, Sunday August 10th, Richard Kinder, the chairman of KMI announced a reorganization effectively collapsing KMR, KMP and ETP into KMI under terms very favorable to KMR, KMP and ETP shareholders. The shares of these skyrocketed when the market opened on August 11th and are now up 30% in just two weeks.
Kinder Morgan shares were not the only stocks that shone brightly these past two weeks. The lessening of tension in both Ukraine and the Gaza Strip caused investors to put “Hands to the sky/And throw their hair back” as the Dow Jones Industrial Average gained nearly 500 points and the S&P 500 entered record territory. Aiding this “Bounce, bounce, bounce” was a return to the belief that the Federal Reserve would maintain its zero-bound monetary policy. Indeed, on Friday August 15th the rate on the US 10Year Treasury Bond fell to 2.35%, its lowest point since the “taper tantrum” began on June 19, 2013. The rate has remained suppressed closing at 2.40% yesterday.
Despite broad gains in the market in general, however, the income securities that I favor still have not recovered to where they were earlier this summer. What “I’ve waited such a long time for is the day” when a clearer read on future interest rates can be had. And that day may have occurred yesterday when, at the much anticipated Jackson Hole conference, both Fed Chair Janet Yellen and ECB President Mario Draghi reiterated their devotion to low rates. Her comments in particular were interpreted as supporting a slight rise in short term rates next summer and a measured move upward thereafter. “Can you dig it?/Yes, I can.” So, “listen children, all is not lost/All is not lost” when it comes to more 2014 profits. I am reviewing and revising my buy list. Likely, I’ll be invested again once the impact of Jackson Hole is fully digested by the market---which could be as early as next week.
In retrospect and upon reflection, I am comfortable with my decision to lock-in my 7+% gain for the year on July 31st--- including the sale of KMP, KMR or ETP . “Does Anybody Really Know What Time It Is?” when it comes to predicting mergers, acquisitions or reorganizations? That said, participation in Kinder’s meteoric rise during the past two weeks would have “Colour(ed) My World” very green indeed. After Richard Kinder made the announcement, I received emails from several subscriber/Kinder shareholders to the effect of “Wishing You Were Here.” I must admit, these notes did not ease the pain, but they did “Make Me Smile.”
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Why don’t you do what you say
Say what you mean
One thing leads to another.”---lyrics from “One Thing Leads to Another” sung by The Fixx
“We bounce to this track
Hands to the sky/And throw your hair back
Bounce, bounce, bounce.”---lyrics from “Bounce” sung by Calvin Harris
“Listen children, all is not lost
All is not lost, oh no, no
Can you dig it?/Yes I can
And I’ve waited such a long time
For the day.”---lyrics from “Saturday in the Park” sung by Chicago
On August 9th, when last I wrote, I noted that from my vantage point on the sidelines, prices throughout the oil patch had fallen significantly and that several stocks including master limited partnerships KMR, KMP and ETP (each of which is controlled by Kinder Morgan (KMI)) were “very attractive.” Sadly, although I “said what I meant”, I had no time to “to do what I said.” “One thing (low prices) led to another (a buyout).” Indeed, the very next day, Sunday August 10th, Richard Kinder, the chairman of KMI announced a reorganization effectively collapsing KMR, KMP and ETP into KMI under terms very favorable to KMR, KMP and ETP shareholders. The shares of these skyrocketed when the market opened on August 11th and are now up 30% in just two weeks.
Kinder Morgan shares were not the only stocks that shone brightly these past two weeks. The lessening of tension in both Ukraine and the Gaza Strip caused investors to put “Hands to the sky/And throw their hair back” as the Dow Jones Industrial Average gained nearly 500 points and the S&P 500 entered record territory. Aiding this “Bounce, bounce, bounce” was a return to the belief that the Federal Reserve would maintain its zero-bound monetary policy. Indeed, on Friday August 15th the rate on the US 10Year Treasury Bond fell to 2.35%, its lowest point since the “taper tantrum” began on June 19, 2013. The rate has remained suppressed closing at 2.40% yesterday.
Despite broad gains in the market in general, however, the income securities that I favor still have not recovered to where they were earlier this summer. What “I’ve waited such a long time for is the day” when a clearer read on future interest rates can be had. And that day may have occurred yesterday when, at the much anticipated Jackson Hole conference, both Fed Chair Janet Yellen and ECB President Mario Draghi reiterated their devotion to low rates. Her comments in particular were interpreted as supporting a slight rise in short term rates next summer and a measured move upward thereafter. “Can you dig it?/Yes, I can.” So, “listen children, all is not lost/All is not lost” when it comes to more 2014 profits. I am reviewing and revising my buy list. Likely, I’ll be invested again once the impact of Jackson Hole is fully digested by the market---which could be as early as next week.
In retrospect and upon reflection, I am comfortable with my decision to lock-in my 7+% gain for the year on July 31st--- including the sale of KMP, KMR or ETP . “Does Anybody Really Know What Time It Is?” when it comes to predicting mergers, acquisitions or reorganizations? That said, participation in Kinder’s meteoric rise during the past two weeks would have “Colour(ed) My World” very green indeed. After Richard Kinder made the announcement, I received emails from several subscriber/Kinder shareholders to the effect of “Wishing You Were Here.” I must admit, these notes did not ease the pain, but they did “Make Me Smile.”
Saturday, August 9, 2014
August 9, 2014 Musical Chairs
Risk/Reward Vol. 231
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You don’t know what you’ve got
‘Til it’s gone
They paved over paradise
And put up a parking lot.”---lyrics from “Yellow Taxi” sung by Joni Mitchell
“And now my baby’s playing musical chairs
Round and round
And when the music stops
She’s not there.”---lyrics from “Musical Chairs” sung by Yung Berg
“Nobody gets too much heaven no more
It’s much harder to come by
I’m waiting in line”---lyrics from “Too Much Heaven” sung by the Bee Gees
As noted last week, my sell signal came on July 30th in the form of a nine basis point spike in yield on the 10Year Treasury Bond(10Year) to which much of my portfolio was correlated. Since that time, those nine basis points have retrenched, and as of Friday's close the yield on the 10Year was at a year-to-date low of 2.42%. So why have I not repurchased that portfolio? The answer is simple---because the securities comprising that portfolio continued to drop in price despite a rally in the 10Year. Does this mean the correlation no longer applies? Is Joni right that “You don’t know what you’ve got/Til it’s gone?” Yes and no. I believe that the correlation holds, but not in the presence of the current combination of exogenous threats: the continued unrest in the Gaza and Iraq, the threat of retaliation by Russia and most importantly the ever weakening economies in Europe and South America. I am not alone in this belief. In an article in Thursday’s edition of the Financial Times, market guru Mohamed El Erian blamed last week’s across-the-board sell-off on the “…cumulative impact of multiple causes …cover(ing) geopolitical, financial, economic and policy factors,…(which caused) conventional correlations among asset classes to break down.” Safety became and remains paramount. Investors seeking to park funds in a safe place have few, if any, alternatives to Treasury securities. The only real alternative, the German bund, is ridiculously more expensive in comparison. Thus, now more than ever, the US is the financial world’s “paved paradise” and the 10 Year is the world’s “parking lot.” Not so, the securities otherwise priced in relation thereto such as high yield bonds, senior loans and closed end funds. Check the last 10 trading days of activity in the relevant exchange traded funds (ETF): JNK (high yield bonds), BKLN (senior loans) and PCEF (closed end funds).
Why not? Here’s my take. When the yield on the 10Year spiked on July 30th and its price correspondingly fell, those securities priced in relation thereto fell much more quickly and much more precipitously. Indeed, those of us who use limit orders found them going “round and round.” It was like playing “musical chairs” and when the “music stopped”, buyers at or above the limit price “were not there”. I had to sell at the price that Mr. Market bid—something I dislike. The very situation about which I had written in Vol. 227 (www.riskrewardblog.blogspot.com ) had occurred. Due to Dodd-Frank and other regulations, commercial banks were not there as backstop buyers. News articles over the next several days noted the absence of backstop buyers (a/k/a market makers) and the resultant lack of liquidity in these sectors. It is small wonder that the very investors that had driven the prices of these securities so high (and their yields so low) are continuing to exit. Indeed, Friday's Wall Street Journal reported that, as of Wednesday, junk bond funds experienced the largest weekly net outflow in history---$7.1billion eclipsing by a mile the previous weekly net withdrawal record of $4.6billion experienced during the "taper tantrum" of June 2013. To give some perspective on this, in May these same funds had a net inflow of $2.61billion. I have no doubt that I will own these securities again, but not until prices stabilize at a level that rewards me for this liquidity risk.
Remember just a few short years ago when our lament was that “Nobody gets too much oil no more/It’s much harder to come by/I’m waiting in line.” The recent drop in the US domestic (WTI) price of oil suggests that this is no longer the case. XOP, the domestic oil exploration and production ETF, has fallen 11% in value since its June high, and the price of AMLP, the master limited partnership ETF (which should be insulated from price swings) has fallen 6% since then. That stated, VNR, LINE, LNCO, KMR, KMP, BBEP and ETP (all which I sold last week) have stabilized and have begun to regain this week. Some commentators suggest that next month, once a refinery in Coffeyville, KS comes back on line, WTI should rise again. In any event, prices throughout the oil patch are very attractive.
Friday's action turned an otherwise bad week positive. Until then it seemed that nothing worked---not even market correlations. It is for this reason that I remain on the sidelines. But whether you join me there, you hold pat or you buy, remember the investors credo (with attribution to the Brothers Gibb):
“Whether you're a brother or whether you're a mother,
You're stayin' alive, stayin' alive.
Feel the city breakin' and everybody shakin',
And we're stayin' alive, stayin' alive.
Ah, ha, ha, ha, stayin' alive, stayin' alive.
Ah, ha, ha, ha, stayin' alive.”
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You don’t know what you’ve got
‘Til it’s gone
They paved over paradise
And put up a parking lot.”---lyrics from “Yellow Taxi” sung by Joni Mitchell
“And now my baby’s playing musical chairs
Round and round
And when the music stops
She’s not there.”---lyrics from “Musical Chairs” sung by Yung Berg
“Nobody gets too much heaven no more
It’s much harder to come by
I’m waiting in line”---lyrics from “Too Much Heaven” sung by the Bee Gees
As noted last week, my sell signal came on July 30th in the form of a nine basis point spike in yield on the 10Year Treasury Bond(10Year) to which much of my portfolio was correlated. Since that time, those nine basis points have retrenched, and as of Friday's close the yield on the 10Year was at a year-to-date low of 2.42%. So why have I not repurchased that portfolio? The answer is simple---because the securities comprising that portfolio continued to drop in price despite a rally in the 10Year. Does this mean the correlation no longer applies? Is Joni right that “You don’t know what you’ve got/Til it’s gone?” Yes and no. I believe that the correlation holds, but not in the presence of the current combination of exogenous threats: the continued unrest in the Gaza and Iraq, the threat of retaliation by Russia and most importantly the ever weakening economies in Europe and South America. I am not alone in this belief. In an article in Thursday’s edition of the Financial Times, market guru Mohamed El Erian blamed last week’s across-the-board sell-off on the “…cumulative impact of multiple causes …cover(ing) geopolitical, financial, economic and policy factors,…(which caused) conventional correlations among asset classes to break down.” Safety became and remains paramount. Investors seeking to park funds in a safe place have few, if any, alternatives to Treasury securities. The only real alternative, the German bund, is ridiculously more expensive in comparison. Thus, now more than ever, the US is the financial world’s “paved paradise” and the 10 Year is the world’s “parking lot.” Not so, the securities otherwise priced in relation thereto such as high yield bonds, senior loans and closed end funds. Check the last 10 trading days of activity in the relevant exchange traded funds (ETF): JNK (high yield bonds), BKLN (senior loans) and PCEF (closed end funds).
Why not? Here’s my take. When the yield on the 10Year spiked on July 30th and its price correspondingly fell, those securities priced in relation thereto fell much more quickly and much more precipitously. Indeed, those of us who use limit orders found them going “round and round.” It was like playing “musical chairs” and when the “music stopped”, buyers at or above the limit price “were not there”. I had to sell at the price that Mr. Market bid—something I dislike. The very situation about which I had written in Vol. 227 (www.riskrewardblog.blogspot.com ) had occurred. Due to Dodd-Frank and other regulations, commercial banks were not there as backstop buyers. News articles over the next several days noted the absence of backstop buyers (a/k/a market makers) and the resultant lack of liquidity in these sectors. It is small wonder that the very investors that had driven the prices of these securities so high (and their yields so low) are continuing to exit. Indeed, Friday's Wall Street Journal reported that, as of Wednesday, junk bond funds experienced the largest weekly net outflow in history---$7.1billion eclipsing by a mile the previous weekly net withdrawal record of $4.6billion experienced during the "taper tantrum" of June 2013. To give some perspective on this, in May these same funds had a net inflow of $2.61billion. I have no doubt that I will own these securities again, but not until prices stabilize at a level that rewards me for this liquidity risk.
Remember just a few short years ago when our lament was that “Nobody gets too much oil no more/It’s much harder to come by/I’m waiting in line.” The recent drop in the US domestic (WTI) price of oil suggests that this is no longer the case. XOP, the domestic oil exploration and production ETF, has fallen 11% in value since its June high, and the price of AMLP, the master limited partnership ETF (which should be insulated from price swings) has fallen 6% since then. That stated, VNR, LINE, LNCO, KMR, KMP, BBEP and ETP (all which I sold last week) have stabilized and have begun to regain this week. Some commentators suggest that next month, once a refinery in Coffeyville, KS comes back on line, WTI should rise again. In any event, prices throughout the oil patch are very attractive.
Friday's action turned an otherwise bad week positive. Until then it seemed that nothing worked---not even market correlations. It is for this reason that I remain on the sidelines. But whether you join me there, you hold pat or you buy, remember the investors credo (with attribution to the Brothers Gibb):
“Whether you're a brother or whether you're a mother,
You're stayin' alive, stayin' alive.
Feel the city breakin' and everybody shakin',
And we're stayin' alive, stayin' alive.
Ah, ha, ha, ha, stayin' alive, stayin' alive.
Ah, ha, ha, ha, stayin' alive.”
Saturday, August 2, 2014
August 2, 2014 Na Na Hey Hey
Risk/Reward Vol. 230
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Six o’clock already
I was just in the middle of a dream
It’s just another manic Monday.”---lyrics from “Manic Monday” sung by The Bangles
“Waiting for Wednesday
My stomach doesn’t hurt bad enough
Pain always is the sign
Waiting for Wednesday.”---lyrics from “Waiting on Wednesday” sung by Lisa Loeb
“I wanna see you kiss him
I’m gonna see you kiss him/ Goodbye
Na na na na/Na na na na
Hey hey/Goodbye.”---lyrics from “Na Na Hey Hey” sung by Steam
Last week’s edition evoked a flurry of responses including one that I circulated. That loyal reader advised me to liquidate because I had surpassed my annual goal (6%) and because holding for more bespoke a lack of discipline. So what is my discipline? To answer that question, I reread several past editions (as I am wont to do) and found guidance in Vol. 221 (www.riskrewardblog.blogspot.com ). Therein, I stated that “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.” That singularity, for me of course, is the yield on the 10 Year Treasury Bond. As the trading day began on “manic Monday”, the yield on the 10Year held steady and by “six o’clock” it had risen hardly at all. Thus, I did not sell. Come Tuesday, the continuing conflict in the Mideast spurred a further flight to safe investments, and the news from Europe was that the yield on the Spanish 10 Year bond was LESS than that on the US 10 Year. These factors resulted in an increased demand for the 10Year which in turn raised its price and lowered its yield. This action increased the value of interest rate-sensitive securities many of which I hold. Thus, on what was a down day for the Dow Jones Industrial Average and the S&P 500, the portfolios that I manage reached all time highs.
And then came Wednesday—a day which all market watchers were “waiting for” On Wednesday came the release of second quarter gross domestic product (GDP) numbers, of the quarterly personal consumption expenditure index (a/k/a PCE--- the inflation indicator deemed most reliable by the Federal Reserve) and of a statement at the conclusion of the Fed’s monthly meeting. Coming off a great Tuesday, “my stomach didn’t hurt.” But the combination of a blockbuster GDP report (up an annualized 4% in Q2) and a spike in inflation (core PCE up 1.7%--close to the Fed’s target of 2%) led Mr. Market to believe that it is now more likely that the Fed will raise interest rates sooner than expected; this despite protestations in the Fed’s press release to the contrary. This belief manifested in the yield on the 10Year spiking a whopping 9 basis points, its largest one-day move since last November. Its price fell accordingly. (N.B. A rise in yield means a drop in price) The value of those securities priced in relation to the 10Year (closed end preferred stock funds, high yield bond funds, etc.—you know, the kind I like and own) dropped as well.
Per my discipline, this was the movement in the 10Year yield which told me to sell. So come Thursday morning, it was “Na na na na/Na na na na/Hey, hey/Goodbye” to the interest rate-sensitive portion of my portfolios. I was not alone in “wanting to kiss him (Mr. Market, that is) good bye’ as the DJIA fell nearly 200 points as I sold and 316 points by day’s end. In so doing, the DJIA gave back all of its year to date gains. Meanwhile, the S&P shaved 39 points (2%!). The bloodbath continued on Friday, albeit at a slower pace due in part to the fact that Friday's jobs report was lukewarm thus lessening fears of an even sooner hike in interest rates. Would I have retained more profit had I sold on Monday or Tuesday? Yes, but that would have been undisciplined. I waited for a clear signal, the type which Wednesday provided. My one mistake was not exiting Wednesday before the market closed. Had I done so, I would have avoided a reduction in profits incident to the mass exodus on Thursday. That said, I escaped with the vast majority of my year to date gains and remain very pleased with my approach--- and my results.
I don’t know how quickly I will redeploy the considerable amount of cash I raised this week. But that does not mean I will sit idle. I will continue to study and to test. When the time is right, like The Bangles, I will
Slide my feet up the street
Bend my back
Shift my arm and pull it back.
Then, I will walk like an Egyptian
back into the fray.
Saturday, July 26, 2014
July 26, 2014 A Moment Like This
Risk/Reward Vol. 229
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“I say we can dance/We can dance
Everything’s out of control
Oh, it’s a safety dance
Ah yes, it’s a safety dance.”---lyrics from “The Safety Dance” sung by Men Without Hats
“I wanna be high, so high
I wanna be free to know
The things I do are right”---lyrics from “Easy” sung by The Commodores
“I can’t believe it’s happening to me
Some people wait a lifetime
For a moment like this.”---lyrics from “A Moment Like This” sung by Kelly Clarkson
By the time our flight from Seattle landed last Friday afternoon, I had completed the first draft of what was to be last week’s Risk/Reward. It was one day after the downing of the Malaysian Airliner, an event that predictably had caused the markets to do a “Safety Dance.” The Dow Jones Industrial Average had fallen 162 points on Thursday (the day the airliner was shot down), and the yield on the 10 Year Treasury had fallen from 2.54 to 2.47. My theme was how investors react when they perceive that “Everything’s out of control”; to wit, they sell equities and buy Treasuries. You can imagine my surprise when I checked my iPhone as we taxied to the gate and learned that the markets had recovered most of the previous day’s losses and that the 10 Year yield had stabilized---this despite no resolution of the Ukraine situation and a worsening of matters in Israel. How could this be? What happened to the ‘safety dance/yes, the safety dance?” I deleted the draft and began to ponder.
And ponder I continue to do. Another week has passed and if anything, the situations are worse in both hot spots. Yet, apparently on the strength of so-so domestic economic news and less than sterling earnings reports, the US stock markets just “wanna be high, so high.” They reach for new records virtually every day except yesterday of course. Meanwhile, the yield on the 10Year holds steady around 2.5%. Each financial news story that I read or report that I hear features someone warning of a coming stock market correction and/or a collapse of the bond market. But, Mr. Market seemingly just doesn’t care. And lest we forget, Mr. Market is the only one who matters. He is “free to know/The things he does are right”---each time and all of the time.
So what does a rational investor do? No economic or financial data justifies the stock market’s unceasing march upward or the year to date performance of the securities priced in relation to bonds (the kind I favor). That said, I am up nearly 10% year to date. Literally, “I can’t believe it’s happening to me.” Until yesterday, it’s been another day, another gain; a situation for which “Some people wait a lifetime.” And yet I am exceedingly uncomfortable. Was Friday's triple digit loss on the Dow an ephemeral reaction to disappointing news from Amazon and VISA or is it a harbinger of things to come? My rational self tells me to sell and to head to the sidelines with my outsized profits in tact (remember I only seek an annual return of 6%). But my competitive self is caught in the euphoria of the day and urges me to stay. Why liquidate at “A Moment Like This”?
In sum, I am living a Kelly Clarkson greatest hits album. One side tells me to “Just Walk Away.” Another side asks “Don’t You Wanna Stay Here a Little While?” A moderate drop wouldn’t kill me and I know “What Doesn’t Kill You Makes You Stronger.” But if I were unable to recover from such a drop by year’s end, “My Life Would Suck.” I solicit input from you, my Loyal Readers. That way, whatever course I choose, I can say it was “Because of You.” In the meantime, I ponder on.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“I say we can dance/We can dance
Everything’s out of control
Oh, it’s a safety dance
Ah yes, it’s a safety dance.”---lyrics from “The Safety Dance” sung by Men Without Hats
“I wanna be high, so high
I wanna be free to know
The things I do are right”---lyrics from “Easy” sung by The Commodores
“I can’t believe it’s happening to me
Some people wait a lifetime
For a moment like this.”---lyrics from “A Moment Like This” sung by Kelly Clarkson
By the time our flight from Seattle landed last Friday afternoon, I had completed the first draft of what was to be last week’s Risk/Reward. It was one day after the downing of the Malaysian Airliner, an event that predictably had caused the markets to do a “Safety Dance.” The Dow Jones Industrial Average had fallen 162 points on Thursday (the day the airliner was shot down), and the yield on the 10 Year Treasury had fallen from 2.54 to 2.47. My theme was how investors react when they perceive that “Everything’s out of control”; to wit, they sell equities and buy Treasuries. You can imagine my surprise when I checked my iPhone as we taxied to the gate and learned that the markets had recovered most of the previous day’s losses and that the 10 Year yield had stabilized---this despite no resolution of the Ukraine situation and a worsening of matters in Israel. How could this be? What happened to the ‘safety dance/yes, the safety dance?” I deleted the draft and began to ponder.
And ponder I continue to do. Another week has passed and if anything, the situations are worse in both hot spots. Yet, apparently on the strength of so-so domestic economic news and less than sterling earnings reports, the US stock markets just “wanna be high, so high.” They reach for new records virtually every day except yesterday of course. Meanwhile, the yield on the 10Year holds steady around 2.5%. Each financial news story that I read or report that I hear features someone warning of a coming stock market correction and/or a collapse of the bond market. But, Mr. Market seemingly just doesn’t care. And lest we forget, Mr. Market is the only one who matters. He is “free to know/The things he does are right”---each time and all of the time.
So what does a rational investor do? No economic or financial data justifies the stock market’s unceasing march upward or the year to date performance of the securities priced in relation to bonds (the kind I favor). That said, I am up nearly 10% year to date. Literally, “I can’t believe it’s happening to me.” Until yesterday, it’s been another day, another gain; a situation for which “Some people wait a lifetime.” And yet I am exceedingly uncomfortable. Was Friday's triple digit loss on the Dow an ephemeral reaction to disappointing news from Amazon and VISA or is it a harbinger of things to come? My rational self tells me to sell and to head to the sidelines with my outsized profits in tact (remember I only seek an annual return of 6%). But my competitive self is caught in the euphoria of the day and urges me to stay. Why liquidate at “A Moment Like This”?
In sum, I am living a Kelly Clarkson greatest hits album. One side tells me to “Just Walk Away.” Another side asks “Don’t You Wanna Stay Here a Little While?” A moderate drop wouldn’t kill me and I know “What Doesn’t Kill You Makes You Stronger.” But if I were unable to recover from such a drop by year’s end, “My Life Would Suck.” I solicit input from you, my Loyal Readers. That way, whatever course I choose, I can say it was “Because of You.” In the meantime, I ponder on.
Saturday, July 12, 2014
July 12, 2014 Woman To Blame
Risk/Reward Vol. 228
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Come Monday
It'll be alright
Come Monday
I'll be holding you tight”---lyrics from “Come Monday” sung by Jimmy Buffett
“Portuguese love
Won’t you say it to me
Say it to me
You love me baby.”---lyrics from “Portuguese Love” sung by Teena Marie
“No need to be complacent
There’s chaos across the border
And one day it could happen to us.”---lyrics from “Blood on the World’s Hands” sung by
Iron Maiden
When last I wrote, I was giving consideration to paring my holdings this week in interest rate sensitive securities due to a spike in the yield on (and concomitantly a drop in the price of) the US 10 Year Treasury Bond (10Year). In Vol. 221 www.riskrewardblog.blogspot.com , I explained the correlation between these securities and the 10Year. But one thing that I have learned over the past few years is the value of patience. Before making a significant purchase or sale, I re-read previous editions of Risk/Reward that discuss similar moves in the past. I do so as a double check against what could be an emotional as opposed to a studied decision. This time I found Vols. 80, 99 and 174 www.riskrewardblog.blogspot.com instructive. Another thing I have learned is to avoid large moves “Come Monday.” Monday markets reflect an entire weekend’s worth of euphoria and/or anxiety and in my experience overshoot, to the positive and to the negative, actual market sentiment. “Come this past Monday”, I decided to “hold tight”---and I am glad that I did.
In addition to my reticence to act on Monday’s in general, my review this past Monday of the world bond market influenced me to stand pat. As also discussed in Vol. 221 www.riskrewardblog.blogspot.com, bond markets are global and interconnected. As such, the prevailing rates last Monday for the 10Year bonds of France (1.585%), Germany (1.264%), Italy (2.698%) and Spain (2.673%) led me to conclude that the rate on the US10Year would not move much higher than the previous Friday’s close of 2.65%. Why would a rational investor buy Italian bonds with their inherent risk of default at a yield of 2.698% when one can purchase the safest bonds in the world at a yield of 2.65%? I was proven right as the US10Year yield moderated to 2.62% on Monday and fell steadily through Wednesday’s close of 2.55%. Due to the correlation between my portfolio and the 10Year, that movement translated into some excellent gains for me. And as Thursday dawned, I received even more positive vibes; this time in the form of “Portuguese love.” News of possible financial trouble from that small nation sent tremors throughout the Eurozone. The resulting flight to safety by bond buyers caused the price of the US 10Year (and those securities priced in relation thereto) to rise as its yield dropped to 2.53% by that day’s close and to 2.52% at week's end.. It was like Europe was ‘saying to me/love me baby.”
For those who pay attention to financial news, investor “complacency” and its cohort, the lack of volatility, continue to be hot topics. Commentators warn that the steady upward momentum in asset prices, nurtured by highly accommodative monetary policies, has created asset bubbles in every financial market. The ”q and a” session last week between Fed Chair Janet Yellen and IMF President Christine Lagarde has heightened this concern. In that session, Chair Yellen stated that tightening monetary policy was NOT the first line of defense against “financial excesses” (bubbles); macroprudential policy was; in the form of capital and lending requirements imposed on regulated institutions as coordinated by and between central banks. Good luck with that one, Janet. Very recent history has shown that there can be “chaos across the border.” Just look at the Eurozone sovereign debt crisis of 2011 which at the time was chronicled each week in this publication. (See May through December, 2011 editions). And as interconnected as the financial world has become, that chaos “one day could happen to us.” In the meantime, the ECB contemplates more accommodation in the form of its own quantitative easing; our zero bound policies keep our rates at historic lows; and investors the world round continue to venture further out the risk curve in search of yield. Someday the resultant bubbles will burst, and there will be no doubt this time as to who has “blood on their hands.”
Unlike Jimmy Buffett, I “know the reason” I stayed invested this week. I am not sure I will remain so “all season.” Any type of “pop top” could cause me to “blow out my flip flop” and sell, most notably a rise in interest rates. One thing is for sure. If I fail to preserve my year to date profits, “some people could claim that there’s a woman (Janet Yellen) to blame”, but “I know it will be my own damned fault.”
Sunday, July 6, 2014
July 5, 2014 Measure of a Man
Risk/Reward Vol. 227
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Back on the beat/Back to the start
Trust in your heart
That’s the measure of a man.”---lyrics from “The Measure of a Man” sung by Elton John
“Cause the fire don’t fear the water
And the night don’t fear a thief
Here we are/We are/We found euphoria”---lyrics from “Euphoria” sung by Usher
"There's no way out of this dark place
No hope/No future
Tell me where did I go wrong?"---"No Way Out" sung by Phil Collins
The second quarter came to an end last Monday so it is time to take "The Measure of the Man." Through the first six months of 2014, the two portfolios that I manage earned a total return (appreciation plus dividends, pre-tax but net of all expenses) of 9.6% and 8.4% respectively. It is satisfying to know that by "trusting in my heart", I have surpassed my annual goal of 6-7% in just two quarters. Come next Monday the choice I face is whether to be "back on the beat" or to liquidate and lay "back until the start" of 2015. With the yield on the 10 Year Treasury Bond (10Year) spiking to 2.65% following the excellent jobs reports of Thursday and Friday, the latter may be the wiser choice for an income investor like me, even as the Dow Jones Industrial Average (YTD total return of 4%) and the S&P 500 (YTD total return of 8%) hit record highs.
Will the seemingly endless string of new highs continue or are there difficult times ahead? A report recently issued by the Bank for International Settlements (BIS), the central bank for central banks, warns that current asset prices are not sustainable. The BIS characterizes the current market as "Euphoric", buoyed by central bank monetary policies which foster a belief that interest rates forever will be zero bound. According to the BIS, one consequence of such a belief is market complacency; a condition in which "the fire don't fear the water/And the night don't fear a thief." In support of its thesis, the BIS cites the fact that junk bonds now yield, on average, 4.8% (an all time low) and the fact that investment grade corporate bonds trade at a spread of less than 1% to Treasuries. According to the BIS, neither rate reflects an appropriate risk premium.
Whether or not the BIS's concerns are justified, one thing is for certain: as a result of new banking regulations, if interest rates do rise quickly, those seeking to exit bonds or bond funds may find "there's no way out/No hope/No future." Allow me to "tell you where the regulators went wrong." In the wake of the 2008-9 banking crisis, Congress and the Federal Reserve mandated that institutions covered by FDIC insurance (virtually every bank) curtail many non-core functions, one of which was making a market for bonds. Until this change, most large financial institutions maintained active bond trading departments that literally served as the bond buyer of last resort. Banks were deemed to have sufficient capital to inventory the bonds they purchased until prices rose to a profitable level. With today's more restrictive capital requirements, those departments have been disbanded, and no effective replacement has been devised. Thus, should the price of bonds fall (because interest rates increase), the sharpness of the decline will be magnified by the absence of ready buyers a/k/a market makers. This is an additional reason to pare at least the bond fund portion of my income producing portfolio.
With new records being set each week, I find myself praying for just "One More Night" of gains. But with recent spike in the interest rate on the 10Year, "I can feel it (a drop in the value of income producing securities, that is) coming in the air tonight, oh Lord." And if that drop becomes too pronounced, like Phil Collins, "I can (and will) just walk away/Just leave without a trace."
Saturday, June 28, 2014
June 28, 2014 Superman's CAPE
Risk/Reward Vol. 226
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You don’t pull on Superman’s cape
You don’t spit in the wind”---lyrics from “You Don’t Mess With Jim” sung by Jim Croce
“Feel like jumpin’ baby/Won’t ya join me please
I don’t feel like beggin’/But I’m on my knees
So be my guest/You got nothin’ to lose
Won’t ya let me take you on a sea cruise.”---lyrics “Sea Cruise” sung by Frankie Ford
“This old man/He played nine
He played knick-knack on my spine
With a knick-knack paddy whack
Give a dog a bone
This old man came rolling home.”---lyrics from “This Old Man” sung by Everyone
Although the major stock indices continue to flirt with record highs, financial commentators characterize investor sentiment as jittery. One factor contributing to this sentiment is the following: much of the gain in stock prices over the past year has resulted from an increase in stock multiples as opposed to an increase in corporate earnings. Recall that a primary determiner of a stock’s value is its price to earnings or p/e ratio which is otherwise termed its multiple. For example, Google, which trades at $575 per share, had earnings over the past twelve months of 19.09 per share, and thus has a p/e ratio or multiple of 30.12 ($575/$19.09= 30.12). Nobel prize winner, Robert Shiller, who is viewed as a “Superman” when it comes to economic trends (e.g. the Case-Shiller Home Price Index) measures the health of stock markets by calculating an average “Cyclically Adjusted Price to Earnings Ratio” or CAPE for all of the stocks comprising the S&P 500 Index (S&P) or predecessor indices. Since 1881, Superman's CAPE has averaged a multiple of 17. Today, the CAPE multiple of the S&P is 26, a number that has been exceeded only three times: in 1929, 2000 and 2007, just before significant market downturns. CAPE has been criticized because it does not take into consideration interest rates which are currently at historic lows. Nevertheless, his observations are more than just “spittin’ in the wind.”
Domestic oil producers and oil services companies “felt like jumpin’” this week. After years of “beggin’” from “on their knees”, the Commerce Department approved the applications of Pioneer Natural Resources (PXD) and Enterprise Products (EPD) to export condensate. Condensate is a petroleum product that is lighter than crude oil, but is capable of being refined into diesel and jet fuel. Condensate is found in large quantities in the oil fields of West Texas and North Dakota. It is better suited to foreign refineries than to US refineries which are engineered to crack heavier oil imported from the mid-East, Nigeria and Venezuela. This fact supported sending condensate “on a sea cruise” since many of our domestic refiners can not refine condensate and thus “got nothin’ to lose”. As noted previously (see Vol.193 www.riskrewardblog.blogspot.com ), US producers have been precluded from exporting unrefined petroleum products since 1973 so the potential associated with exporting condensate is significant. On news of the approval, stocks in the oil patch rose generally, and the stock of oil services companies such as HCLP and TRN skyrocketed.
As loyal readers know, I have had a love/hate relationship with ARCP, the triple-net-lease real estate investment trust (REIT) founded by the not so “Old Man”, Nick Schorsch. “(K)Nick” has a “knack”of upsetting stockholders by overpaying himself and by making massive acquisitions funded by disruptive secondary stock offerings . The former problem was eliminated Friday last when Nick took a “paddy whack”, stepped down as CEO and went “rolling home”. The latter problem likely has been resolved by an announcement accompanying the resignation that ARCP will eschew acquisitions for the remainder of the year and instead will rely upon organic growth to improve its already handsome monthly dividend. Due in part to “Nick’s knack”, ARCP has lagged the REIT sector this year, but I believe these recent developments and its 8+% dividend will give this “dog a bone” and will propel ARCP’s stock higher. I added to my position.
If you read financial news reports, you know that the markets have shown little, if any volatility. Indeed, the market indices have closed above their 200 day moving averages for more than 400 consecutive days. That said, investors are nervous because they know (like Jim Croce) that one cannot “Put Time in a Bottle”. Someday a bear market will come roaring back, “badder than old King Kong/Meaner than a junk yard dog.” Thus, I, for one, remain vigilant; ever ready to exit should I see a clear bearish signal. For my income weighted portfolio, that signal will be in the form of a spike in the interest rate on the 10Year Treasury Bond. Currently, that rate remains in a range between 2.5 and 2.65%. Should it suddenly spike and head toward 3%, I will sell. I may be a market timer, but I am not a gambler (although like Bad, Bad Leroy Brown “I like my fancy clothes!”).
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“You don’t pull on Superman’s cape
You don’t spit in the wind”---lyrics from “You Don’t Mess With Jim” sung by Jim Croce
“Feel like jumpin’ baby/Won’t ya join me please
I don’t feel like beggin’/But I’m on my knees
So be my guest/You got nothin’ to lose
Won’t ya let me take you on a sea cruise.”---lyrics “Sea Cruise” sung by Frankie Ford
“This old man/He played nine
He played knick-knack on my spine
With a knick-knack paddy whack
Give a dog a bone
This old man came rolling home.”---lyrics from “This Old Man” sung by Everyone
Although the major stock indices continue to flirt with record highs, financial commentators characterize investor sentiment as jittery. One factor contributing to this sentiment is the following: much of the gain in stock prices over the past year has resulted from an increase in stock multiples as opposed to an increase in corporate earnings. Recall that a primary determiner of a stock’s value is its price to earnings or p/e ratio which is otherwise termed its multiple. For example, Google, which trades at $575 per share, had earnings over the past twelve months of 19.09 per share, and thus has a p/e ratio or multiple of 30.12 ($575/$19.09= 30.12). Nobel prize winner, Robert Shiller, who is viewed as a “Superman” when it comes to economic trends (e.g. the Case-Shiller Home Price Index) measures the health of stock markets by calculating an average “Cyclically Adjusted Price to Earnings Ratio” or CAPE for all of the stocks comprising the S&P 500 Index (S&P) or predecessor indices. Since 1881, Superman's CAPE has averaged a multiple of 17. Today, the CAPE multiple of the S&P is 26, a number that has been exceeded only three times: in 1929, 2000 and 2007, just before significant market downturns. CAPE has been criticized because it does not take into consideration interest rates which are currently at historic lows. Nevertheless, his observations are more than just “spittin’ in the wind.”
Domestic oil producers and oil services companies “felt like jumpin’” this week. After years of “beggin’” from “on their knees”, the Commerce Department approved the applications of Pioneer Natural Resources (PXD) and Enterprise Products (EPD) to export condensate. Condensate is a petroleum product that is lighter than crude oil, but is capable of being refined into diesel and jet fuel. Condensate is found in large quantities in the oil fields of West Texas and North Dakota. It is better suited to foreign refineries than to US refineries which are engineered to crack heavier oil imported from the mid-East, Nigeria and Venezuela. This fact supported sending condensate “on a sea cruise” since many of our domestic refiners can not refine condensate and thus “got nothin’ to lose”. As noted previously (see Vol.193 www.riskrewardblog.blogspot.com ), US producers have been precluded from exporting unrefined petroleum products since 1973 so the potential associated with exporting condensate is significant. On news of the approval, stocks in the oil patch rose generally, and the stock of oil services companies such as HCLP and TRN skyrocketed.
As loyal readers know, I have had a love/hate relationship with ARCP, the triple-net-lease real estate investment trust (REIT) founded by the not so “Old Man”, Nick Schorsch. “(K)Nick” has a “knack”of upsetting stockholders by overpaying himself and by making massive acquisitions funded by disruptive secondary stock offerings . The former problem was eliminated Friday last when Nick took a “paddy whack”, stepped down as CEO and went “rolling home”. The latter problem likely has been resolved by an announcement accompanying the resignation that ARCP will eschew acquisitions for the remainder of the year and instead will rely upon organic growth to improve its already handsome monthly dividend. Due in part to “Nick’s knack”, ARCP has lagged the REIT sector this year, but I believe these recent developments and its 8+% dividend will give this “dog a bone” and will propel ARCP’s stock higher. I added to my position.
If you read financial news reports, you know that the markets have shown little, if any volatility. Indeed, the market indices have closed above their 200 day moving averages for more than 400 consecutive days. That said, investors are nervous because they know (like Jim Croce) that one cannot “Put Time in a Bottle”. Someday a bear market will come roaring back, “badder than old King Kong/Meaner than a junk yard dog.” Thus, I, for one, remain vigilant; ever ready to exit should I see a clear bearish signal. For my income weighted portfolio, that signal will be in the form of a spike in the interest rate on the 10Year Treasury Bond. Currently, that rate remains in a range between 2.5 and 2.65%. Should it suddenly spike and head toward 3%, I will sell. I may be a market timer, but I am not a gambler (although like Bad, Bad Leroy Brown “I like my fancy clothes!”).
Saturday, June 21, 2014
June 21, 2014 Wings of a Dove
Risk/Reward Vol. 225
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“On the wings of a pure, white dove
He sends His pure sweet love
A sign from above
On the wings of a dove”---lyrics from “Wings of a Dove” sung by Ferlin Husky
"Take me in tender woman
Take me in, for heaven's sake
Take me in, tender woman"/ Sighed the snake”---lyrics from “The Snake” sung by Johnny Rivers
“Don’t have the inclination to look back on any mistake
In the fury of the moment/I can see the master’s plan
In every leaf that trembles/In every grain of sand.”---lyrics from “Every Grain of Sand” sung by Bob Dylan
Two weeks ago, I reported that I had sold most of my interest rate-sensitive securities and stated:
“Likely, I will stay that way (1/3rd in cash) until after the Federal Reserve meets later this month. Signals from that meeting could have a big impact on interest rates and by extension the value of interest rate sensitive securities.” (Vol. 224 www.riskrewardblog.blogspot.com )
The Federal Reserve met on Tuesday and Wednesday, and I can report that currently I am re-purchasing many of the securities that I had sold. I re-enter “On the wings of a pure, white (haired) monetary dove” named Janet Yellen. Characterizing the fear of inflation expressed by others as nothing more than "noise", Fed Chair Yellen confirmed at her Wednesday news conference that the Federal Reserve intends to keep interest rates low for the foreseeable future. That was the “sign from above” that I needed. And I was not the only one to take notice of “Her pure sweet love” as the Dow Jones Industrial Average rose more than 100 points during her press conference. Also that day, the rate on the benchmark 10 Year Treasury Bond (10Year) fell from 2.65% to 2.61% (which of course meant that its price rose). In addition, Yellen's words propelled the S&P 500 to another record high which it sustained through Friday's close.
Although I forewent some capital appreciation and some dividend payments during my two week hiatus, I derived great comfort from having the interest rate-sensitive portion of my portfolio on the sidelines as the yield on the 10Year moved up (and its price correspondingly moved down) in anticipation of a more hawkish Federal Reserve meeting (which did not materialize). The makeup of my portfolio and more particularly its sensitivity to interest rate fluctuations prompted some at last weekend’s Subscriber Roundtable to liken my investment strategy to snake handling. Am I not like the “tender woman” who is “taken in by the interest rate snake” only to be bitten and left for dead? I think not. Rather, I liken myself to a herpetologist. As loyal readers know, I not only watch interest rates, I study them everyday "for heaven's sake". Admittedly, in today’s world, interest rate-sensitive securities are not for the casual investor or for the part time student. That said, I believe that, fully understood and closely monitored, these securities (e.g. preferred stocks, leveraged closed end bond funds, etc.) can be a source of steady and secure income, and that is what I seek as I approach retirement. Speaking of studying, thanks to the subscriber who sent me a link to a short, but informative discussion on why Northern Trust believes that the interest rate on the all important 10Year Treasury Bond will remain low well into the future. View it here: https://www.northerntrust.com/insights-research/market-economic-commentary/marketscape .
Much uncertainty surrounds the situation in Iraq which currently produces 3.4 million barrels of oil per day (4-5% of world's daily consumption). “The fury of the moment”, however, has redounded to the benefit of those invested in domestic oil and gas. The meteoric rise in domestic production is directly tied to fracking, and fracking is wholly dependent on a steady supply of high grade frack sand, the type mined by HiCrush LP (HCLP). HCLP operates two large frack sand mines in Wisconsin. HCLP's stock is up 70% since my October, 2013 purchase and up 48% since my follow-on purchase in early January, 2014. All the while it has paid a handsome dividend. “I don’t have the inclination to look back on any mistake”, but if I did I would regret not buying more. I see profits "In every grain of sand" that HCLP mines.
Assurance this week from the Federal Reserve that it intends to keep interest rates low was a “Taste of Honey” for me. It means that we likely will avoid the precipitous drop in interest rate sensitive securities that we experienced last summer. Avoiding such a drop is "Goode (for) Johnny B." (sorry Mr. Rivers!) and keeps me from “The Poor Side of Town.”
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“On the wings of a pure, white dove
He sends His pure sweet love
A sign from above
On the wings of a dove”---lyrics from “Wings of a Dove” sung by Ferlin Husky
"Take me in tender woman
Take me in, for heaven's sake
Take me in, tender woman"/ Sighed the snake”---lyrics from “The Snake” sung by Johnny Rivers
“Don’t have the inclination to look back on any mistake
In the fury of the moment/I can see the master’s plan
In every leaf that trembles/In every grain of sand.”---lyrics from “Every Grain of Sand” sung by Bob Dylan
Two weeks ago, I reported that I had sold most of my interest rate-sensitive securities and stated:
“Likely, I will stay that way (1/3rd in cash) until after the Federal Reserve meets later this month. Signals from that meeting could have a big impact on interest rates and by extension the value of interest rate sensitive securities.” (Vol. 224 www.riskrewardblog.blogspot.com )
The Federal Reserve met on Tuesday and Wednesday, and I can report that currently I am re-purchasing many of the securities that I had sold. I re-enter “On the wings of a pure, white (haired) monetary dove” named Janet Yellen. Characterizing the fear of inflation expressed by others as nothing more than "noise", Fed Chair Yellen confirmed at her Wednesday news conference that the Federal Reserve intends to keep interest rates low for the foreseeable future. That was the “sign from above” that I needed. And I was not the only one to take notice of “Her pure sweet love” as the Dow Jones Industrial Average rose more than 100 points during her press conference. Also that day, the rate on the benchmark 10 Year Treasury Bond (10Year) fell from 2.65% to 2.61% (which of course meant that its price rose). In addition, Yellen's words propelled the S&P 500 to another record high which it sustained through Friday's close.
Although I forewent some capital appreciation and some dividend payments during my two week hiatus, I derived great comfort from having the interest rate-sensitive portion of my portfolio on the sidelines as the yield on the 10Year moved up (and its price correspondingly moved down) in anticipation of a more hawkish Federal Reserve meeting (which did not materialize). The makeup of my portfolio and more particularly its sensitivity to interest rate fluctuations prompted some at last weekend’s Subscriber Roundtable to liken my investment strategy to snake handling. Am I not like the “tender woman” who is “taken in by the interest rate snake” only to be bitten and left for dead? I think not. Rather, I liken myself to a herpetologist. As loyal readers know, I not only watch interest rates, I study them everyday "for heaven's sake". Admittedly, in today’s world, interest rate-sensitive securities are not for the casual investor or for the part time student. That said, I believe that, fully understood and closely monitored, these securities (e.g. preferred stocks, leveraged closed end bond funds, etc.) can be a source of steady and secure income, and that is what I seek as I approach retirement. Speaking of studying, thanks to the subscriber who sent me a link to a short, but informative discussion on why Northern Trust believes that the interest rate on the all important 10Year Treasury Bond will remain low well into the future. View it here: https://www.northerntrust.com/insights-research/market-economic-commentary/marketscape .
Much uncertainty surrounds the situation in Iraq which currently produces 3.4 million barrels of oil per day (4-5% of world's daily consumption). “The fury of the moment”, however, has redounded to the benefit of those invested in domestic oil and gas. The meteoric rise in domestic production is directly tied to fracking, and fracking is wholly dependent on a steady supply of high grade frack sand, the type mined by HiCrush LP (HCLP). HCLP operates two large frack sand mines in Wisconsin. HCLP's stock is up 70% since my October, 2013 purchase and up 48% since my follow-on purchase in early January, 2014. All the while it has paid a handsome dividend. “I don’t have the inclination to look back on any mistake”, but if I did I would regret not buying more. I see profits "In every grain of sand" that HCLP mines.
Assurance this week from the Federal Reserve that it intends to keep interest rates low was a “Taste of Honey” for me. It means that we likely will avoid the precipitous drop in interest rate sensitive securities that we experienced last summer. Avoiding such a drop is "Goode (for) Johnny B." (sorry Mr. Rivers!) and keeps me from “The Poor Side of Town.”
Saturday, June 7, 2014
June 7, 2014 The Happening
Risk/Reward Vol. 224
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Hey, life look at me/I can see reality
Cause when you shook me/Took me out of my world
I woke up/Suddenly I just woke up
To the happening.”---lyrics from “The Happening” sung by The Supremes
“Why can’t you tell this boat is sinking?
Tell me…Why
Tell me…Why”---lyrics from “Why” sung by Annie Lennox
“I’m out on a limb
I’m giving in
I’m selling out.”---lyrics from “The Sellout” sung by Macy Gray
Two weeks ago, I wrote (Vol. 222 www.riskrewardblog.blogspot.com):
“It was a good week for growth and income investors alike. I see a day soon, however, when the interests of these two investment approaches diverge. I am betting that growth stalls, interest rates stay low and income securities benefit. If I am wrong, I will exit before my holdings (in the words of that marvelous lyricist, Lil Jon) “Skeet, skeet/Get low/Get low.”
I cannot speak to future growth, but “Hey, life look at me/I can see reality”—at least when it comes to interest rates. And the movement in the yield on the all-important US 10 Year Treasury Bond during the first three days of this week “shook me/Took me out of my world.” On Wednesday, “I woke up/Suddenly I just woke up/To the happening.”
What happened? The interest rate on the 10Year rose from 2.46% last Friday to 2.53% on Monday to 2.59% on Tuesday. On Wednesday morning, disappointing trade deficit numbers were reported which commentators thought would send the 10Year rate down. Instead the 10Year rate jumped to 2.61% which of course sent the price down . “Tell me…Why/Tell me…Why/this boat is sinking?” Perhaps rates below 2.5% simply are not sustainable. Perhaps the market fears a mid-summer rate tantrum like last year. Perhaps the bond market has become a bubble as suggested by Federal Reserve officials quoted in Jon Hilsenrath's Wall Street Journal article Wednesday morning. To me, the “Why” is less important than the fact that rates appear to be rising. And that fact was confirmed on Thursday when the unprecedented, rate-suppressing action by the European Central Bank in 1) lowering interbank borrowing rates to 0.15% and 2) charging a negative deposit rate had little impact on the US10Year rate which ended the day at 2.58%. Friday's jobs report was better than expected and not surprisingly the 10Year rate rose to 2.60%.
Having achieved my goal for the year (over 6%), there is no reason for me to be “out on a limb” while the now volatile 10Year settles into a new, normal interest rate. So, with respect to those securities that are most directly correlated to the interest rate on the 10Year (e.g. preferred stocks, preferred stock closed end funds and mortgage real estate investment trusts or mREIT’s), “I gave in” and “sold out”--- taking a handsome profit in the process. I held those in 401(k) and IRA accounts so there were no tax consequences associated with the sales, and the transaction costs in total were less than $200 ($9 per trade). After my “sell out”, I am 1/3rd in cash. Likely, I will stay that way until after the Federal Reserve meets later this month. Signals from that meeting could have a big impact on interest rates and by extension the value of interest rate sensitive securities. They did last year. If and when I perceive that the interest rate on the 10Year has stabilized, I will repurchase the securities that I sold--- thus preserving my profits while foregoing, at most, only a handful of monthly dividend checks. I view this time-out as cheap insurance against volatility. As for my other holdings (e.g. triple net lease REIT’s, oil and natural gas, pipeline master limited partnerships and leveraged closed end index funds), I remain invested. The stock market in general continues to move upward, and I want to participate.
As another record week for the S&P 500 and the Dow Jones Industrial Average comes to a close, I take comfort in where I sit. I have captured a “Supreme” return on my interest rate sensitive securities and still have exposure to growth stocks. Selling all or part of one's portfolio may be “Nothing But Heartache” for some, but I would rather take a profit than “Keep Me Hangin’ On” during a volatile period, especially one with a downward bias. “My World Is (Not) Empty Without Them” in part because I know that in time, these interest-rate sensitive securities will be “Back in My Arms Again.”
Saturday, May 31, 2014
May 31, 2014 Treasure
Risk/Reward Vol. 223
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Honey, you’re my golden star
You know you can make my wish come true
If you let me treasure you.”---lyrics from “Treasure” sung by Bruno Mars
“If you believe in magic/Come along with me
We’ll dance until the morning/Just you and me.”---lyrics from “Do You Believe in Magic” sung by The Lovin’ Spoonful
“Category 6 as I storm in
Take this as a, take this as a warning
Welcome to, welcome to global warming.”---lyrics from “Global Warming” sung by Pitbull
If, at the start of the year, you gambled that the bond market would rally, your “golden star wish has come true.” And how! Combine the following: 1) a sluggish domestic economy (revised numbers this week indicate that the US economy actually shrank in the first quarter of 2014); 2) a rise in unemployment in Europe’s crown jewel, Germany; 3) a regulatory environment that has banks clamoring for Treasury securities and eschewing loans ; 4) the recent parliamentary gains made by anti-EU parties throughout Europe; and 5) the likelihood that next week the European Central Bank will lower interest rates--- and you have the recipe for a robust bond market. In fact, according to Friday's Wall Street Journal, high grade US corporate bonds have returned 5.8% year to date compared to a 4.7% return from the S&P500 and a 1.5% return from the Dow Jones Industrial Average (DJIA) (each number inclusive of principle appreciation plus interest/dividend payments). And as for the bellwether US 10 Year “Treasury” Bond (10Year), it hit an eleven month high on Wednesday as its yield fell to 2.44% (remember the lower the yield the higher the price.)
If you “believe the magic” of low interest rates will continue, then you should consider “coming along with me” and increasing your bond sensitive investments. As noted two weeks ago (Vol. 221 www.riskrewardblog.blogspot.com ), one investment closely correlated to the yield on the 10Year Bond is preferred stock which I like to own through leveraged, closed end funds (CEF’s). Interestingly, although directionally aligned, the angle of decline in the 10Year yield has yet to be mirrored in the yields paid by preferred CEF’s, a situation which I believe presents an excellent buying opportunity. If and when these angles align (and they typically do), a significant price increase will result. I like preferred stock CEF’s that trade below net asset value, pay dividends on a monthly basis and carry at least a Bronze rating by Morningstar. HPS fits this bill, and I bought some this week. If the 10Year stays at or below 2.5% over the next several days, I see HPS rising in value even as it continues to pay me a 8+% dividend. If so, “We’ll dance until the morning/Just you and me (and anyone else who owns HPS).”
Next week, the EPA will release draft “global warming” carbon dioxide emission standards specifically aimed at coal fired electric power plants. It is anticipated that these regulations will cause a “Category 6 storm” in the coal and utility world. Don’t forget, in the US, coal still generates 40% of all electricity. “Take this as a, take this as a warning" if you own coal stocks and keep a watchful eye on electric utilities. That said, one energy source’s hurdle is another’s slide. Effectively, the only alternative to coal is natural gas. As a consequence, I bought more Kinder Morgan (KMR, KMP or KMI) which owns the largest natural gas pipeline system in the US and thus stands to gain as more natural gas is produced and consumed. I like Kinder Morgan because it pays a healthy dividend and because its stock remains depressed after a Barron’s article published in February which questioned some of Kinder’s accounting practices. On any pullback, I intend to add to my holdings in HCLP which mines franking sand used in natural gas and oil drilling. HCLP is up 54% since I repurchased it in October, 2013 and 34% since I added shares in February, 2014.
Another week, another record close for the S&P 500 and the DJIA---and another stellar performance by the bond market. The yield on the bellwether 10Year continues to fall; now hovering below 2.5% (which of course means the price of the bond continues upward). As I wrote last week, some day soon this movement in tandem by the stock and bond markets likely will end. But with the German 10Year at 1.35%, that of Spain at 2.86%, that of France at 1.74%, that of Italy at 2.95% and that of Japan at 0.57%, the US 10Year still looks like a bargain. No one---I mean no one--- predicted this. Indeed, most market savants opined that the 10Year yield would be above 3.25% by now. I took the counter bet, but not even I saw 2.44% coming. Events next week (e.g. the jobs report) may cause a reversal of fortune for me, but I really like my interest rate sensitive portfolio at this juncture. Absent some massive market upheaval I intend to stay pat. Like the great Bruno Mars
“Today I don’t feel like doing anything
I’m going to kick up my feet and stare at the fan
Cause today I swear I’m not doing anything
Nothing at all.”
Monday, May 26, 2014
May 24, 2014 Turn Down For What
Risk/Reward Vol. 222
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Turn down for what?/Turn down for what?”---lyrics from “Turn Down For What” by DJ Snake
featuring Lil Jon
“Don’t go chasing waterfalls
Please stick to the rivers and the lakes
That you’re used to”---lyrics from “Waterfalls” sung by TLC
“Don’t look back/But if you don’t look back
We’re only learning then
How to make the same mistakes.”---lyrics from “Same Mistakes” sung by One Direction
News on Friday that the housing market improved in April sent the S&P 500 over the 1900 mark for the first time and propelled the Dow Jones Industrial Average over 16,600. Typically, such a growth-oriented stock stimulus would cause bond prices to fall. But on Friday, the price of the bellwether US Treasury 10Year Bond rose and its yield “Turn(ed) Down”. (Remember when bond prices rise, bond yields fall.) This led many to wonder “Turn(ed) down for what/Turn(ed) down for what?” Perhaps the answer lies in a closer examination of the housing numbers. True, existing house sales did improve over March, but they remain 7% lower than in April, 2013. Equally discouraging was a report earlier in the week that despite low mortgage rates, 40% of all homes are either 1) worth less than their outstanding mortgage or 2) have insufficient equity to cover the cost of the mortgage plus a broker’s commission should the owner desire to sell. Obviously, the bond market read the data to suggest that the Federal Reserve will continue its efforts to keep interest rates (which directly impact mortgage rates) low for the foreseeable future.
With interest rates so low, income investors continue to search for yield in progressively risky pools, in other words, in “rivers and lakes/That they’re (not) used to.” Indeed the spread between the 10Year Treasury and the lowest rated junk bond (CCC) is at an all time low. One alternative to junk bonds are collateralized loan obligations (CLO’s). CLO’s are a subset of collateralized debt obligations (CDO’s). You may recall that all CDO’s were tarnished by the collapse of the subprime mortgage market which dominated CDO’s prior to 2008. In contrast, CLO’s (comprised of senior loans to reputable mid-sized companies whose balance sheets are too small to warrant investment grade status), for the most part, remained solvent throughout the debt crisis. Moreover, CLO's underwritten after 2009 have performed as advertised. In a nutshell, CLO sponsors acquire senior loans from banks, and re-bundle the obligations into tranches. Tranche A is the most secure because current obligations are paid in full before any obligations to succeeding tranches are addressed. As more payments are received from the underlying senior loans, they are used to defray the obligations to Tranches B in total, then to C, then to D, etc. in what is called a payment “waterfall.” The lower the tranche, the riskier the investment is deemed, even though recently any default "chasing waterfalls" has been rare. Oxford Lane Capital is a closed end fund that invests in Tranches F and lower. I own the preferred shares of it (OXLCO) which currently pay a 7.8% annual dividend on a monthly basis.
For years now (see Vol. 102 www.riskrewardblog.blogspot.com ), I have advised you, Dear Readers, that the optimum time to purchase shares in pass through entities such as business development companies, master limited partnerships and especially real estate investment trusts is at the time any secondary stock offering is priced. The larger the secondary offering, the more dilutive its immediate effect, the greater the stock discount. This axiom is part of my DNA. I “don’t (have to ) look back.” Or do I? With the announcement by ARCP that it was doing a very large secondary offering, I “didn’t look back.” I bought before the pricing. Why you ask? Because the stock’s decline in anticipation of the pricing was precipitous, and I thought that the market had overshot the dilutive impact. WRONG! So I overpaid. The lessons that I have learned these past four years must be observed! “If we don’t look back/We’re only learning/How to make the same mistakes.”
It was a good week for growth and income investors alike. I see a day soon, however, when the interests of these two investment approaches diverge. I am betting that growth stalls, interest rates stay low and income securities benefit. If I am wrong, I will exit before my holdings (in the words of that marvelous lyricist, Lil Jon) “Skeet, skeet/Get low/Get low.”
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Turn down for what?/Turn down for what?”---lyrics from “Turn Down For What” by DJ Snake
featuring Lil Jon
“Don’t go chasing waterfalls
Please stick to the rivers and the lakes
That you’re used to”---lyrics from “Waterfalls” sung by TLC
“Don’t look back/But if you don’t look back
We’re only learning then
How to make the same mistakes.”---lyrics from “Same Mistakes” sung by One Direction
News on Friday that the housing market improved in April sent the S&P 500 over the 1900 mark for the first time and propelled the Dow Jones Industrial Average over 16,600. Typically, such a growth-oriented stock stimulus would cause bond prices to fall. But on Friday, the price of the bellwether US Treasury 10Year Bond rose and its yield “Turn(ed) Down”. (Remember when bond prices rise, bond yields fall.) This led many to wonder “Turn(ed) down for what/Turn(ed) down for what?” Perhaps the answer lies in a closer examination of the housing numbers. True, existing house sales did improve over March, but they remain 7% lower than in April, 2013. Equally discouraging was a report earlier in the week that despite low mortgage rates, 40% of all homes are either 1) worth less than their outstanding mortgage or 2) have insufficient equity to cover the cost of the mortgage plus a broker’s commission should the owner desire to sell. Obviously, the bond market read the data to suggest that the Federal Reserve will continue its efforts to keep interest rates (which directly impact mortgage rates) low for the foreseeable future.
With interest rates so low, income investors continue to search for yield in progressively risky pools, in other words, in “rivers and lakes/That they’re (not) used to.” Indeed the spread between the 10Year Treasury and the lowest rated junk bond (CCC) is at an all time low. One alternative to junk bonds are collateralized loan obligations (CLO’s). CLO’s are a subset of collateralized debt obligations (CDO’s). You may recall that all CDO’s were tarnished by the collapse of the subprime mortgage market which dominated CDO’s prior to 2008. In contrast, CLO’s (comprised of senior loans to reputable mid-sized companies whose balance sheets are too small to warrant investment grade status), for the most part, remained solvent throughout the debt crisis. Moreover, CLO's underwritten after 2009 have performed as advertised. In a nutshell, CLO sponsors acquire senior loans from banks, and re-bundle the obligations into tranches. Tranche A is the most secure because current obligations are paid in full before any obligations to succeeding tranches are addressed. As more payments are received from the underlying senior loans, they are used to defray the obligations to Tranches B in total, then to C, then to D, etc. in what is called a payment “waterfall.” The lower the tranche, the riskier the investment is deemed, even though recently any default "chasing waterfalls" has been rare. Oxford Lane Capital is a closed end fund that invests in Tranches F and lower. I own the preferred shares of it (OXLCO) which currently pay a 7.8% annual dividend on a monthly basis.
For years now (see Vol. 102 www.riskrewardblog.blogspot.com ), I have advised you, Dear Readers, that the optimum time to purchase shares in pass through entities such as business development companies, master limited partnerships and especially real estate investment trusts is at the time any secondary stock offering is priced. The larger the secondary offering, the more dilutive its immediate effect, the greater the stock discount. This axiom is part of my DNA. I “don’t (have to ) look back.” Or do I? With the announcement by ARCP that it was doing a very large secondary offering, I “didn’t look back.” I bought before the pricing. Why you ask? Because the stock’s decline in anticipation of the pricing was precipitous, and I thought that the market had overshot the dilutive impact. WRONG! So I overpaid. The lessons that I have learned these past four years must be observed! “If we don’t look back/We’re only learning/How to make the same mistakes.”
It was a good week for growth and income investors alike. I see a day soon, however, when the interests of these two investment approaches diverge. I am betting that growth stalls, interest rates stay low and income securities benefit. If I am wrong, I will exit before my holdings (in the words of that marvelous lyricist, Lil Jon) “Skeet, skeet/Get low/Get low.”
Saturday, May 17, 2014
May 17, 2014 Rainbow Connection
Risk/Reward Vol. 221
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Some day we'll find it
The rainbow connection
The lovers, the dreamers, and me”---lyrics from “Rainbow Connection” sung by The Muppets
“Hands on your knees/Hands on your hips
Hands on your shoulders/Hands on your head
Up, down, turn around.”---lyrics from “Up, Down, Turn Around” sung by The Wiggles
“And don’t speak too soon for the wheel’s still spinnin’
And there’s no tellin’who that it’s namin’
For the loser now will be later to win
For the times they are a changin’”---lyrics from “Times They Are A Changin’” sung by Bob Dylan
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 )
Some observations on the week:
1)Speaking of winds shifting (and metaphor mixing), the “times they are a changin’” in the oil patch. This week Energy Secretary Ernest Moniz and White House Senior Counselor John Podesta each confirmed that the President is considering lifting the 40 year ban on exporting crude oil. I’m not “speakin’ too soon for the wheel’s still spinnin’/And there’s no tellin’ who that it’s namin’.” But, it appears that “losers now” (namely the producers of light sweet crude not universally suited for refining in the US) “will be later to win” if they are allowed to export. Indeed, the news caused oil and oil related shares (e.g. pipelines, oil services and especially frac sand miner, HCLP) to soar on Wednesday even as most of the market fell.
2)Thursday's Wall Street Journal reported that "central bankers and investors" are "confounded by the persistently sluggish economy" and the drop in yield on the US 10Year. Really? An economy needs demand before it can grow, and consumers drive demand. Where are the consumers? This week, respected bond fund manager Jeff Grundlach and last week, Bond King Bill Gross each restated the obvious. Consumer demand declines as populations age and shrink. Look at Japan and Europe. We are not far behind. As for the yield on the US 10Year, please understand the following: 1)the bond market is global and 2)demand for bonds drives prices up and yields down. One third of all bonds issued by the United States are owned by US agencies which are required by law to keep their reserves in Treasury securities (e.g. Social Security, Federal Reserve, Military Pension Fund, etc.), 1/3rd are owned by US citizens and institutions (the guidelines of which also require a large percentage of assets be held in bonds) and 1/3rd are owned by foreign nationals and governments. If you are required (or of a mind) to own bonds, would you rather own the US 10Year paying 2.5% or Italy's 10Year paying 3.06% or Spain's paying 2.95% or France's paying 1.78% or Germany's paying 1.33% or Japan's paying 0.57%?
3)I was in the car most of Thursday listening to CNBC and Bloomberg Radio. One would have thought the financial world was collapsing---two days after record highs on both the Dow Jones Industrial Average and the S&P 500. Financial news stations are convenient, but like all 24 hour news outlets, they are given to hyperbole.
4)Although the headline news on Friday was that new housing permits jumped in April, the gain came exclusively in multifamily construction. Single family home construction remains in the dumps. Long term, this does not bode well for the economy.
Year to date, including dividends, the Dow Jones Industrial Average is even and the S&P 500 is up only 2%. The stock market is range bound. In contrast, my non diverse portfolio of income securities correlated to the 10Year (plus some oil/gas stocks) has exceeded my annual goal of 6%. That said, like Dylan,
“I ain't lookin' to compete with you
Beat or cheat or mistreat you
Simplify you, classify you
Deny, defy or crucify you
All I really want to do
Is, baby, be friends with you.”
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
“Some day we'll find it
The rainbow connection
The lovers, the dreamers, and me”---lyrics from “Rainbow Connection” sung by The Muppets
“Hands on your knees/Hands on your hips
Hands on your shoulders/Hands on your head
Up, down, turn around.”---lyrics from “Up, Down, Turn Around” sung by The Wiggles
“And don’t speak too soon for the wheel’s still spinnin’
And there’s no tellin’who that it’s namin’
For the loser now will be later to win
For the times they are a changin’”---lyrics from “Times They Are A Changin’” sung by Bob Dylan
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 )
Some observations on the week:
1)Speaking of winds shifting (and metaphor mixing), the “times they are a changin’” in the oil patch. This week Energy Secretary Ernest Moniz and White House Senior Counselor John Podesta each confirmed that the President is considering lifting the 40 year ban on exporting crude oil. I’m not “speakin’ too soon for the wheel’s still spinnin’/And there’s no tellin’ who that it’s namin’.” But, it appears that “losers now” (namely the producers of light sweet crude not universally suited for refining in the US) “will be later to win” if they are allowed to export. Indeed, the news caused oil and oil related shares (e.g. pipelines, oil services and especially frac sand miner, HCLP) to soar on Wednesday even as most of the market fell.
2)Thursday's Wall Street Journal reported that "central bankers and investors" are "confounded by the persistently sluggish economy" and the drop in yield on the US 10Year. Really? An economy needs demand before it can grow, and consumers drive demand. Where are the consumers? This week, respected bond fund manager Jeff Grundlach and last week, Bond King Bill Gross each restated the obvious. Consumer demand declines as populations age and shrink. Look at Japan and Europe. We are not far behind. As for the yield on the US 10Year, please understand the following: 1)the bond market is global and 2)demand for bonds drives prices up and yields down. One third of all bonds issued by the United States are owned by US agencies which are required by law to keep their reserves in Treasury securities (e.g. Social Security, Federal Reserve, Military Pension Fund, etc.), 1/3rd are owned by US citizens and institutions (the guidelines of which also require a large percentage of assets be held in bonds) and 1/3rd are owned by foreign nationals and governments. If you are required (or of a mind) to own bonds, would you rather own the US 10Year paying 2.5% or Italy's 10Year paying 3.06% or Spain's paying 2.95% or France's paying 1.78% or Germany's paying 1.33% or Japan's paying 0.57%?
3)I was in the car most of Thursday listening to CNBC and Bloomberg Radio. One would have thought the financial world was collapsing---two days after record highs on both the Dow Jones Industrial Average and the S&P 500. Financial news stations are convenient, but like all 24 hour news outlets, they are given to hyperbole.
4)Although the headline news on Friday was that new housing permits jumped in April, the gain came exclusively in multifamily construction. Single family home construction remains in the dumps. Long term, this does not bode well for the economy.
Year to date, including dividends, the Dow Jones Industrial Average is even and the S&P 500 is up only 2%. The stock market is range bound. In contrast, my non diverse portfolio of income securities correlated to the 10Year (plus some oil/gas stocks) has exceeded my annual goal of 6%. That said, like Dylan,
“I ain't lookin' to compete with you
Beat or cheat or mistreat you
Simplify you, classify you
Deny, defy or crucify you
All I really want to do
Is, baby, be friends with you.”
Saturday, May 10, 2014
May 10, 2014 Never Can Tell
Risk/Reward Vol. 220
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"If I listened long enough to you
I'd find a way/To believe that it's all true."---lyrics from "Reason to Believe" sung by Rod Stewart
"It was a teenage wedding/ And the old folks wished them well
You could see that Pierre/Did truly love the mademoiselle
C'est la vie say the old folks
It goes to show you never can tell"---lyrics from "Never Can Tell" sung by Chuck Berry
"Pardon the way that I stare
There's nothing else to compare."---lyrics from "Can't Take My Eyes Off of You"---sung by The Four Seasons
According to Federal Reserve economists, after previous recessions, pent up demand for residential housing has led economic recovery. Not so this time. That is why housing and, in particular new home construction, dominated the news this week. It started on Monday with Warren Buffett's expression of surprise at how sluggish that sector has been. That comment was followed by an article in the New York Times reporting that housing has been a net drag on the economy. Later, noted investor Jeff Gundlach stated in his speech at the Sohn Conference that any hope that housing would lead the recovery this time around was "overbelieved." But what really focused concern was Janet Yellen's testimony to Congress on Wednesday and Thursday that the "flattening in housing activity could be protracted." This is troubling considering that the Federal Reserve has bid upon and purchased over $1.6TRILLION in conventional home mortgages since January, 2009. Indeed, it now owns 17% of ALL currently outstanding home mortgages. Like bonds, the interest rates on mortgages fall if the prices paid therefor increase. Thus, the Fed's upbidding has kept mortgage rates artificially low in an attempt to jump start this traditional recovery bellwether. It hasn't worked. We’ve been “listening long enough” for a "Reason To Believe" that it will rebound. The fact remains that housing is in the dumps---even if Warren finds it hard to “believe that it’s all true.”
I predict that housing will not only fail to lead the recovery, it will not recover at all. The reason has nothing to do with the economy, and everything to do with demographics. According to the US Census Bureau, between 1997 and 2006, on average 1,350,000 net new households (independent living units with one or more persons) were formed each year. Since 2007, annual net household formation has averaged 550,000 and is declining. Meanwhile, the total number of family households (e.g. husband+wife with or without children) has fallen. In other words, today when "Pierre truly loves the mademoiselle" there is no wedding even if the "old folks wish them well." With home ownership proving to be a poor investment, why would any single person or any couple, for that matter, buy a house unless they have children? Note the following two points. First, as reported on Thursday, 43% of all existing home sales in Q1 2014 were cash sales. Believe me these are not first time buyers which is the group the Fed wants to attract with low interest rates. Second, as noted in Vol. 218 (www.riskrewardblog.blogspot.com ), as a nation we are reproducing at less than a population replacement rate. Do you think I'm off target regarding the impact of demographics? Take a look around. When Barb and I were 33 we had four children, had bought and sold one house and had purchased, remodeled and furnished a second one. We lived in a neighborhood of similarly situated couples. How many 33 year olds do you know with four children, how about three, how about two, how about one? How many are even married? I make no societal judgments here, but you have to be blind (or the Federal Reserve Chair) not to see that housing, particularly single family home construction, is not going to rebound. “C’est la vie says this old folk/It goes to show you never can tell.”
So what does this mean for investors? The answer was supplied by Fed insider Jon Hilsenrath in an article published in Thursday’s Wall Street Journal headlined “Housing Doldrums Worry Fed Officials.” Therein, Hilsenrath wrote: “If housing fails to revive as expected and holds back the broader recovery, Fed officials could decide to take even more time on an already slow path to eventual interest rate increases.” Believe me that is not speculation on Hilsenrath’s part. That tidbit came straight from Yellen’s lips to Hilsenrath’s ear to WSJ’s front page. As a consequence my overweight position in income securities priced in relation (or spread) to the interest rate on the all important 10 Year Treasury Bond continues to look good (remember lower interest rates mean higher prices). So, “Pardon the way that I stare” at the interest rate on that all important security as it continues to trend downward. It now hovers around 2.6% ; this despite the consensus prediction last fall, last winter and this spring (except by yours truly—see Vol. 186 www.riskrewardblog.blogspot.com ) that at this juncture, it would be well over 3%. And continue to stare at the yield on the 10 Year I will, because there is “nothing else to compare” when it comes to predicting how income stocks will fare. I "Can't Take My Eyes Off Of It."
Even if historically it has led the way out of recessions, the sale of new and existing houses only represents 4-5% of annual GDP. So why is the Fed so obsessed with it? I suspect there is another reason why Ms. Yellen has “Got It Under Her Skin”, one about which she has spoken in the past. (Google: "Yellen speech Feb.11, 2013). A house has been the average American’s largest investment for generations, and no generation sunk more of their net worth into housing than the Baby Boomers. We were weaned on the belief that houses never depreciate. Mortgage interest was our only tax break, and we used home equity as our piggy bank. So, if housing prices fall (which is more likely if mortgage interest rates go up), a huge percentage of Baby Boomer wealth will evaporate just as they enter retirement. This prospect carries significant deflationary implications. I suggest this is her greater concern and one more reason why she will keep interest rates low indefinitely
“In spite of a warning voice that comes in the night
And repeats, repeats in her ear
Don’t you know you fool/You never can win
Use your mentality/Wake up to reality.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"If I listened long enough to you
I'd find a way/To believe that it's all true."---lyrics from "Reason to Believe" sung by Rod Stewart
"It was a teenage wedding/ And the old folks wished them well
You could see that Pierre/Did truly love the mademoiselle
C'est la vie say the old folks
It goes to show you never can tell"---lyrics from "Never Can Tell" sung by Chuck Berry
"Pardon the way that I stare
There's nothing else to compare."---lyrics from "Can't Take My Eyes Off of You"---sung by The Four Seasons
According to Federal Reserve economists, after previous recessions, pent up demand for residential housing has led economic recovery. Not so this time. That is why housing and, in particular new home construction, dominated the news this week. It started on Monday with Warren Buffett's expression of surprise at how sluggish that sector has been. That comment was followed by an article in the New York Times reporting that housing has been a net drag on the economy. Later, noted investor Jeff Gundlach stated in his speech at the Sohn Conference that any hope that housing would lead the recovery this time around was "overbelieved." But what really focused concern was Janet Yellen's testimony to Congress on Wednesday and Thursday that the "flattening in housing activity could be protracted." This is troubling considering that the Federal Reserve has bid upon and purchased over $1.6TRILLION in conventional home mortgages since January, 2009. Indeed, it now owns 17% of ALL currently outstanding home mortgages. Like bonds, the interest rates on mortgages fall if the prices paid therefor increase. Thus, the Fed's upbidding has kept mortgage rates artificially low in an attempt to jump start this traditional recovery bellwether. It hasn't worked. We’ve been “listening long enough” for a "Reason To Believe" that it will rebound. The fact remains that housing is in the dumps---even if Warren finds it hard to “believe that it’s all true.”
I predict that housing will not only fail to lead the recovery, it will not recover at all. The reason has nothing to do with the economy, and everything to do with demographics. According to the US Census Bureau, between 1997 and 2006, on average 1,350,000 net new households (independent living units with one or more persons) were formed each year. Since 2007, annual net household formation has averaged 550,000 and is declining. Meanwhile, the total number of family households (e.g. husband+wife with or without children) has fallen. In other words, today when "Pierre truly loves the mademoiselle" there is no wedding even if the "old folks wish them well." With home ownership proving to be a poor investment, why would any single person or any couple, for that matter, buy a house unless they have children? Note the following two points. First, as reported on Thursday, 43% of all existing home sales in Q1 2014 were cash sales. Believe me these are not first time buyers which is the group the Fed wants to attract with low interest rates. Second, as noted in Vol. 218 (www.riskrewardblog.blogspot.com ), as a nation we are reproducing at less than a population replacement rate. Do you think I'm off target regarding the impact of demographics? Take a look around. When Barb and I were 33 we had four children, had bought and sold one house and had purchased, remodeled and furnished a second one. We lived in a neighborhood of similarly situated couples. How many 33 year olds do you know with four children, how about three, how about two, how about one? How many are even married? I make no societal judgments here, but you have to be blind (or the Federal Reserve Chair) not to see that housing, particularly single family home construction, is not going to rebound. “C’est la vie says this old folk/It goes to show you never can tell.”
So what does this mean for investors? The answer was supplied by Fed insider Jon Hilsenrath in an article published in Thursday’s Wall Street Journal headlined “Housing Doldrums Worry Fed Officials.” Therein, Hilsenrath wrote: “If housing fails to revive as expected and holds back the broader recovery, Fed officials could decide to take even more time on an already slow path to eventual interest rate increases.” Believe me that is not speculation on Hilsenrath’s part. That tidbit came straight from Yellen’s lips to Hilsenrath’s ear to WSJ’s front page. As a consequence my overweight position in income securities priced in relation (or spread) to the interest rate on the all important 10 Year Treasury Bond continues to look good (remember lower interest rates mean higher prices). So, “Pardon the way that I stare” at the interest rate on that all important security as it continues to trend downward. It now hovers around 2.6% ; this despite the consensus prediction last fall, last winter and this spring (except by yours truly—see Vol. 186 www.riskrewardblog.blogspot.com ) that at this juncture, it would be well over 3%. And continue to stare at the yield on the 10 Year I will, because there is “nothing else to compare” when it comes to predicting how income stocks will fare. I "Can't Take My Eyes Off Of It."
Even if historically it has led the way out of recessions, the sale of new and existing houses only represents 4-5% of annual GDP. So why is the Fed so obsessed with it? I suspect there is another reason why Ms. Yellen has “Got It Under Her Skin”, one about which she has spoken in the past. (Google: "Yellen speech Feb.11, 2013). A house has been the average American’s largest investment for generations, and no generation sunk more of their net worth into housing than the Baby Boomers. We were weaned on the belief that houses never depreciate. Mortgage interest was our only tax break, and we used home equity as our piggy bank. So, if housing prices fall (which is more likely if mortgage interest rates go up), a huge percentage of Baby Boomer wealth will evaporate just as they enter retirement. This prospect carries significant deflationary implications. I suggest this is her greater concern and one more reason why she will keep interest rates low indefinitely
“In spite of a warning voice that comes in the night
And repeats, repeats in her ear
Don’t you know you fool/You never can win
Use your mentality/Wake up to reality.
Saturday, May 3, 2014
May 3, 2014 Blame It On The Rain
Risk/Reward Vol. 219
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"And you feel like such a fool
Gotta blame it on something
Blame it on the rain."---lyrics from "Blame It On the Rain" lip-sync'd by Milli Vanilli
"So look at me now/I'm just makin' my play
Cause I'm back/Yes I'm back
Well, I'm back in black."---lyrics from "Back in Black" sung by AC/DC
"We just want to dance here/Someone stole the stage
They call us irresponsible/Write us off the page
We built this city/We built this city on rock and roll."---lyrics from "Built This City" sung by Starship
On Wednesday, the Commerce Department released a report on first quarter (Q1) 2014 gross domestic product (GDP), the broadest measure of how the US economy has performed. For the first three months of 2014, GDP grew at a woeful 0.1% annualized rate, far short of the 2.6% annualized rate reported for Q4 2013 and well below 1.1%, the consensus estimate from economists before the report's issuance. The GDP report preceded a press release of the Federal Reserve which also was issued on Wednesday. In that press release, the Fed referenced the sharply lower Q1GDP number but attributed it to weather and cited its expectation of much better numbers in Q2 as a justification for further tapering its asset purchase program (QE3). Really? Really? Instead of owning up to the fact that its accommodative monetary policies have failed to jump start the Main Street economy (see last week's edition Riskrewardblog
So if the GDP report was a disappointment, why did the Dow Jones Industrial Average (DJIA) record a new high on Wednesday--- and drop after Fridays' seemingly positive jobs report? (Note: the DJIA dropped before any details came from Ukraine, news which admittedly contributed to Friday's negative close.) Here is my take. The employment report is a mixed bag. The headline gain in jobs (288,000) and drop in the unemployment rate (6.3%) is encouraging, but a deeper dive into the report reveals that the labor force (job participation rate) is shrinking. Only 62.8% of working age persons are employed or unemployed and looking for a job. This is the lowest labor participation rate in 35 years---a time when women did not participate in the work force in the numbers that they do now. As discussed last week, an aging and shrinking labor force (800,000 people dropped out of the pool in April alone!) carries long term and lasting negative implications for economic growth. Fewer workers means less demand, and less demand means less growth. Moreover, minimal wage gains were reported which signals that the new jobs that were added are lower paying ones. I submit that any positive movement in the market this week had less to do with lower unemployment OR the expectation of future growth and more to do with another statement in the Fed's press release; to wit, that the Fed will keep the Fed Funds rate low as long as inflation remains below its 2% target. This could be a very long time since 1) inflation is currently below 1%, and 2) the greatest driver of inflation, wages, remains stagnant. The bond market obviously agreed as the yield on the 10Year US Treasury Bond did not rise above 2.68% during the entire week and fell to 2.59%% at Friday's close. So what does this have to do with stock prices? Low interest rates make borrowing inexpensive for credit worthy companies such as those comprising the DJIA. This cheap and plentiful credit promotes mergers, acquisitons and stock buy backs. Thus, it is not surprising that currently Pfizer is in the hunt for AstraZeneca , AT&T is pursuing DirecTV and Exelon is buying Pepco, all at huge premiums to their market price. In addition, Apple sold $12billion in bonds this week and intends to use the proceeds to fund in part its announced $90billion share buy back program. The entire purpose of buybacks is to keep stock prices elevated. Like AC/DC, "look at Apple now/Just makin' its play" It's "buyin' stock back/ Yes, it's buyin' stock back/Well it's buyin' stock back/Puttin' its shareholders more into the black." Accordingly, in my humble opinion, it was the prospect of more mergers, acquisitions and buybacks fueled by continued cheap credit that drove the stock market higher for the week.
Last summer's spike in the 10Year Treasury rate, a concomitant drop in the price of all securities that trade in relation thereto and the ripple effect of Detroit's bankruptcy made 2013 a terrible year for municipal bonds. Many investors wrote this sector completely "off the page." But the prospect that Detroit, the "irresponsible" "city built on rock and roll (and automobiles)" may actually forge a workable solution to its problems, combined with improved tax receipts in cities nationwide, investor desire for tax advantaged investments and most importantly low and stable interest rates has made muni's a big winner so far this year. Having "stolen the stage", they are beginning to be spotlighted. I own some muni bonds outright but prefer the returns available through leveraged closed end muni bond funds. I own EIM, MNP, MQT, MUS, MVF, MYD, OIA, PMO and VGM.
I know that I sound like a broken AC/DC record, but "Hells Bell" if you remember nothing else from these epistles, remember that the most accurate stock market barometer is the interest rate on the10Year Treasury Bond. The 10Year drives the credit markets, reflects market sentiment and is the closest instrument we have to the hypothetical risk free security against which all risk adjusted returns are measured. Those that thought that the stock market would explode like "TNT' in the wake of Friday's jobs headlines simply failed to appreciate this fact. Those that watched what happened to the 10Year were not fooled. Markets can move on the "Flick of a Switch", but miscalculating which signals to follow is the surest path to the "Highway to Hell." Contrary to what Michael Lewis asserts, I believe we CAN make money in the stock market without resorting to "Dirty Deeds Done Dirt Cheap" But we must keep studying, observing, recording and learning. "It's A Long Way to the Top (If You Wanna Rock and Roll).
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"And you feel like such a fool
Gotta blame it on something
Blame it on the rain."---lyrics from "Blame It On the Rain" lip-sync'd by Milli Vanilli
"So look at me now/I'm just makin' my play
Cause I'm back/Yes I'm back
Well, I'm back in black."---lyrics from "Back in Black" sung by AC/DC
"We just want to dance here/Someone stole the stage
They call us irresponsible/Write us off the page
We built this city/We built this city on rock and roll."---lyrics from "Built This City" sung by Starship
On Wednesday, the Commerce Department released a report on first quarter (Q1) 2014 gross domestic product (GDP), the broadest measure of how the US economy has performed. For the first three months of 2014, GDP grew at a woeful 0.1% annualized rate, far short of the 2.6% annualized rate reported for Q4 2013 and well below 1.1%, the consensus estimate from economists before the report's issuance. The GDP report preceded a press release of the Federal Reserve which also was issued on Wednesday. In that press release, the Fed referenced the sharply lower Q1GDP number but attributed it to weather and cited its expectation of much better numbers in Q2 as a justification for further tapering its asset purchase program (QE3). Really? Really? Instead of owning up to the fact that its accommodative monetary policies have failed to jump start the Main Street economy (see last week's edition Riskrewardblog
So if the GDP report was a disappointment, why did the Dow Jones Industrial Average (DJIA) record a new high on Wednesday--- and drop after Fridays' seemingly positive jobs report? (Note: the DJIA dropped before any details came from Ukraine, news which admittedly contributed to Friday's negative close.) Here is my take. The employment report is a mixed bag. The headline gain in jobs (288,000) and drop in the unemployment rate (6.3%) is encouraging, but a deeper dive into the report reveals that the labor force (job participation rate) is shrinking. Only 62.8% of working age persons are employed or unemployed and looking for a job. This is the lowest labor participation rate in 35 years---a time when women did not participate in the work force in the numbers that they do now. As discussed last week, an aging and shrinking labor force (800,000 people dropped out of the pool in April alone!) carries long term and lasting negative implications for economic growth. Fewer workers means less demand, and less demand means less growth. Moreover, minimal wage gains were reported which signals that the new jobs that were added are lower paying ones. I submit that any positive movement in the market this week had less to do with lower unemployment OR the expectation of future growth and more to do with another statement in the Fed's press release; to wit, that the Fed will keep the Fed Funds rate low as long as inflation remains below its 2% target. This could be a very long time since 1) inflation is currently below 1%, and 2) the greatest driver of inflation, wages, remains stagnant. The bond market obviously agreed as the yield on the 10Year US Treasury Bond did not rise above 2.68% during the entire week and fell to 2.59%% at Friday's close. So what does this have to do with stock prices? Low interest rates make borrowing inexpensive for credit worthy companies such as those comprising the DJIA. This cheap and plentiful credit promotes mergers, acquisitons and stock buy backs. Thus, it is not surprising that currently Pfizer is in the hunt for AstraZeneca , AT&T is pursuing DirecTV and Exelon is buying Pepco, all at huge premiums to their market price. In addition, Apple sold $12billion in bonds this week and intends to use the proceeds to fund in part its announced $90billion share buy back program. The entire purpose of buybacks is to keep stock prices elevated. Like AC/DC, "look at Apple now/Just makin' its play" It's "buyin' stock back/ Yes, it's buyin' stock back/Well it's buyin' stock back/Puttin' its shareholders more into the black." Accordingly, in my humble opinion, it was the prospect of more mergers, acquisitions and buybacks fueled by continued cheap credit that drove the stock market higher for the week.
Last summer's spike in the 10Year Treasury rate, a concomitant drop in the price of all securities that trade in relation thereto and the ripple effect of Detroit's bankruptcy made 2013 a terrible year for municipal bonds. Many investors wrote this sector completely "off the page." But the prospect that Detroit, the "irresponsible" "city built on rock and roll (and automobiles)" may actually forge a workable solution to its problems, combined with improved tax receipts in cities nationwide, investor desire for tax advantaged investments and most importantly low and stable interest rates has made muni's a big winner so far this year. Having "stolen the stage", they are beginning to be spotlighted. I own some muni bonds outright but prefer the returns available through leveraged closed end muni bond funds. I own EIM, MNP, MQT, MUS, MVF, MYD, OIA, PMO and VGM.
I know that I sound like a broken AC/DC record, but "Hells Bell" if you remember nothing else from these epistles, remember that the most accurate stock market barometer is the interest rate on the10Year Treasury Bond. The 10Year drives the credit markets, reflects market sentiment and is the closest instrument we have to the hypothetical risk free security against which all risk adjusted returns are measured. Those that thought that the stock market would explode like "TNT' in the wake of Friday's jobs headlines simply failed to appreciate this fact. Those that watched what happened to the 10Year were not fooled. Markets can move on the "Flick of a Switch", but miscalculating which signals to follow is the surest path to the "Highway to Hell." Contrary to what Michael Lewis asserts, I believe we CAN make money in the stock market without resorting to "Dirty Deeds Done Dirt Cheap" But we must keep studying, observing, recording and learning. "It's A Long Way to the Top (If You Wanna Rock and Roll).
Saturday, April 26, 2014
April 26, 2014 Wild About Harry (Dent)
Risk/Reward Vol. 218
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"You may be right/I may be crazy
But it just may be a lunatic/You're looking for."---lyrics from "You May Be Right" sung by Billy Joel
"People who need people
Are the luckiest people in the world
Children needing other children"---lyrics from "People" sung by Barbra Streisand
"A room is still a room
Even when there's nothing there but gloom
But a room is not a house
And a house is not a home."---lyrics from "A House Is Not a Home" sung by Dionne Warwick
Busch's Postulate: Interest rates will not increase in the foreseeable future.
In so postulating, I posit two premises: 1) economies in countries with aging and shrinking populations do not grow; and 2) the above notwithstanding, central bankers and the economists that they employ believe they can spur economic growth by maintaining low interest rates. I lit on these two premises while reading Harry Dent Jr.'s new book "The Demographic Cliff". If you google Mr. Dent, you may conclude that he is a crackpot. "You may be right/He may be crazy/But it just may be a lunatic (as opposed to an economist) that we are looking for." And before dismissing premise number one, take a gander at Japan's experience over the past 15 years and keep an eye on present day Europe. One has long suffered from economic stagnation, even deflation and the other is on the verge. (Indeed , my concern is such that I am currently spending several days on the French Riviera helping its economy.) The US is not far behind. All three have aging/shrinking populations. Dent is not alone in his thinking. Read the musings of Stephen Conwill who as president of Milliman of Japan has witnessed deflation first hand and who has issued the following challenge: "Find in history an example of an economy that has combined solid growth with a declining population."
It is Mr. Dent's further contention that a person's peak age of consumption is 46--- a larger abode, college tuition, a second home, a nicer car, etc. With the post World War II Baby Boom ending in 1961, simple math led Dent to conclude that Baby Boomer consumption crested in 2007. The offspring of the Boomers have heretofore reproduced at less than the population replacement rate (1.84 births per woman vs. 2.1 needed to simply replace a population) and even that rate is trending down. Apparently, they do not believe that "People who need people/Are the luckiest people in the world." Or that "children need other children." As Harry puts it, in the US the dyers are outnumbering the buyers. (N.B. In 2012 deaths outnumbered births in the US non-Hispanic white population for the first time in history.) The birth rate in Europe and Japan is even lower, and if you think that China will help spur demand, think of the impact of the "one child rule". Hence, Dent sees years of lessening demand world wide and slow to no growth.
So how does this impact my investing? As noted in premise two above, central bankers have unlimited hubris, but limited tools to combat slow growth. They can keep short term interest rates low by fiat (e.g. via the Fed fund rate) and longer term ones low by quantitative easing (e.g. buying bonds and mortgages). Both may have a short term positive impact on the stock market but neither has proven to spur economic growth. As reported this week, despite spending hundreds of billions of dollars to suppress mortgage rates (QE3), new home sales for March were at an annualized rate of 384,000 down from February and downright puny when compared to the 1,400,000 new homes sold in 2005. Last week, the number of existing home sales was reported at an annualized rate of 4.6million compared to 7.25million in 2005. Talk about "nothing there but gloom." I guess Dionne is right, "a room is not a house/And a house is not a home"--- if no one buys it, that is. Yet, despite demonstrated ineffectiveness, we can expect the Fed to keep interest rates low. And as long as interest rates stay low (especially on the 10Year US Treasury Bond) my high yielding, income securities remain a good investment. Holding pat with preferred stocks, utilities, real estate investment trusts and leveraged close end funds seems the right thing to do.
The mediocre performance of the stock market year to date (as of Friday the Dow Jones Industrial Average is down 1% and the S&P is up less than 1%) reflects mounting concern over the prospects for solid economic growth despite low interest rates. Some, like Dent, believe that slow growth could become no growth or even deflation. I'm not saying that any day soon you, like Ms. Warwick, will be able to "put $100 down and buy a car", but the deflationary impact of an aging/shrinking population is disconcerting. And as for Janet Yellen, like all central bankers,
"The moment she wakes up
Before she puts on her make up
She says a little prayer"
that low interest rates will spur growth. Bonne chance, Janet!
Au revoir from Nice.
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
"You may be right/I may be crazy
But it just may be a lunatic/You're looking for."---lyrics from "You May Be Right" sung by Billy Joel
"People who need people
Are the luckiest people in the world
Children needing other children"---lyrics from "People" sung by Barbra Streisand
"A room is still a room
Even when there's nothing there but gloom
But a room is not a house
And a house is not a home."---lyrics from "A House Is Not a Home" sung by Dionne Warwick
Busch's Postulate: Interest rates will not increase in the foreseeable future.
In so postulating, I posit two premises: 1) economies in countries with aging and shrinking populations do not grow; and 2) the above notwithstanding, central bankers and the economists that they employ believe they can spur economic growth by maintaining low interest rates. I lit on these two premises while reading Harry Dent Jr.'s new book "The Demographic Cliff". If you google Mr. Dent, you may conclude that he is a crackpot. "You may be right/He may be crazy/But it just may be a lunatic (as opposed to an economist) that we are looking for." And before dismissing premise number one, take a gander at Japan's experience over the past 15 years and keep an eye on present day Europe. One has long suffered from economic stagnation, even deflation and the other is on the verge. (Indeed , my concern is such that I am currently spending several days on the French Riviera helping its economy.) The US is not far behind. All three have aging/shrinking populations. Dent is not alone in his thinking. Read the musings of Stephen Conwill who as president of Milliman of Japan has witnessed deflation first hand and who has issued the following challenge: "Find in history an example of an economy that has combined solid growth with a declining population."
It is Mr. Dent's further contention that a person's peak age of consumption is 46--- a larger abode, college tuition, a second home, a nicer car, etc. With the post World War II Baby Boom ending in 1961, simple math led Dent to conclude that Baby Boomer consumption crested in 2007. The offspring of the Boomers have heretofore reproduced at less than the population replacement rate (1.84 births per woman vs. 2.1 needed to simply replace a population) and even that rate is trending down. Apparently, they do not believe that "People who need people/Are the luckiest people in the world." Or that "children need other children." As Harry puts it, in the US the dyers are outnumbering the buyers. (N.B. In 2012 deaths outnumbered births in the US non-Hispanic white population for the first time in history.) The birth rate in Europe and Japan is even lower, and if you think that China will help spur demand, think of the impact of the "one child rule". Hence, Dent sees years of lessening demand world wide and slow to no growth.
So how does this impact my investing? As noted in premise two above, central bankers have unlimited hubris, but limited tools to combat slow growth. They can keep short term interest rates low by fiat (e.g. via the Fed fund rate) and longer term ones low by quantitative easing (e.g. buying bonds and mortgages). Both may have a short term positive impact on the stock market but neither has proven to spur economic growth. As reported this week, despite spending hundreds of billions of dollars to suppress mortgage rates (QE3), new home sales for March were at an annualized rate of 384,000 down from February and downright puny when compared to the 1,400,000 new homes sold in 2005. Last week, the number of existing home sales was reported at an annualized rate of 4.6million compared to 7.25million in 2005. Talk about "nothing there but gloom." I guess Dionne is right, "a room is not a house/And a house is not a home"--- if no one buys it, that is. Yet, despite demonstrated ineffectiveness, we can expect the Fed to keep interest rates low. And as long as interest rates stay low (especially on the 10Year US Treasury Bond) my high yielding, income securities remain a good investment. Holding pat with preferred stocks, utilities, real estate investment trusts and leveraged close end funds seems the right thing to do.
The mediocre performance of the stock market year to date (as of Friday the Dow Jones Industrial Average is down 1% and the S&P is up less than 1%) reflects mounting concern over the prospects for solid economic growth despite low interest rates. Some, like Dent, believe that slow growth could become no growth or even deflation. I'm not saying that any day soon you, like Ms. Warwick, will be able to "put $100 down and buy a car", but the deflationary impact of an aging/shrinking population is disconcerting. And as for Janet Yellen, like all central bankers,
"The moment she wakes up
Before she puts on her make up
She says a little prayer"
that low interest rates will spur growth. Bonne chance, Janet!
Au revoir from Nice.
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