Proprietary investment strategy
One of our more popular holdings, McDonald’s (MCD) has come under a bit of pressure lately – both in the media and on Wall Street. After reaching a high near $102 a share in May of this year the stock price has dropped to below $90 a share in October. The media has pounded their menu saying that the younger millennials are avoiding MCD for healthier alternatives. And yet I’ve doggedly held their stock in many client accounts.
While the jury is still out, we are starting to see the reasons for holding and our continued purchase of MCD. First, MCD is held in our Dividend and Growth strategy accounts. Their dividend has been above 3% even at its peak price. More importantly the dividend has been increased for 38 consecutive years and in this area MCD did not disappoint – they announced a 5% dividend increase payable to shareholders at the end of November. This brings their current yield to 3.59% as of market price on 11/6/2014 and annualizing the dividend.
Part II of my thesis is that McDonalds is still a cherry job for anyone in advertising. Their contract has to be one of the largest in the advertising world. Money buys the best and the brightest. MCD will find a way to come back into the good graces of the fast food consuming public. Survey’s are already showing some in roads from campaigns such as this social media campaign that coincides with the relaunch of the McRib sandwich.
MCD is a great example of an investing concept I will come back to in future posts: the difference between buying a company and buying a stock. Stock buyers look for price appreciation in the near term. The media is created for stock traders. Investors like the Warren Buffets of the world buy companies. Companies generate cash flow that is unaffected by stock price that allows them toraise dividends by 5% even when their stock price slides by 12%.
While I’m not happy with the stock, I am happy owning the company, mainly because they pay my clients a 3.59% dividend while we wait for their stock to turn around. And next year we will likely get another raise.
The stock market has had a five week “correction” followed by a one week recovery – that recouped 70% of the corrections losses. While sentiment has seemingly shifted from an extreme doom and gloom outlook over the past few weeks, statistically the stock market retests its lows about 67% of the time. Meaning we will likely give up this week’s gains.
aWhile I remain cautious, we did buy a couple of holdings for our portfolios this week. Notably P&G for our dividend strategies. P&G is THE dividend aristocrat based on its history of paying a dividend every year since the mid 1890’s (that’s not a typo!). P&G just hasn’t been cheap enough to meet my criteria. Yesterday I gave in and took a position across our dividend portfolios. P&G released earnings this morning and we were rewarded with a 3% gain in early morning trading.
Our growth portfolios are also seeing changes. We will focus more on individual stocks as we rotate into the “Buy in October” seasonal strategy.
I’ve also added an article on the bond market that was published yesterday at horsesmouth.com. The main takeaways are 1. While the stock market can’t decide if the economy is too strong (meaning the Fed will start raising interest rates) or too cool (economy drops to recessionary levels) the bond market seems pretty convinced that the economy will continue in the “just about right” pace. And 2. Even if the Fed raises short term rates, longer term rates aren’t likely to keep pace. While the economy is growing it is too soft to support a sharp rise in long term interest rates. While Fed action could spark a recession it is likey 4- 5 years out. My caveat to that is Europe. Major European bank failures will roil our market and economy. PDF: Horsesmouth _ Bonds
The take away is this. Many advisors are recommending clients move into short term bonds as a defensive move against rising rates. However, the bond market is telling us that intermediate bonds – in the 8 – 10 year maturity range may actually be affected less if the Fed starts to raise short term rates.
For sometime now we have remained fully invested, but very nervous. Starting in mid-September, I have been cutting back on our risk exposure. Our Seasonal Growth model has been in more conservative (lower beta) equities since May. In addition we are now about 25% in cash as well. For our Dividend portfolios I started moving out of some of our more cyclical stocks in September as well. While we may look fully invested, the Toews High Yield Fund is currently 100% in cash. Additionally I continually look at our holdings and am only looking to buy stocks that are particulary cheap.
For those that enjoyed this week’s red moon/lunar eclipse, you might (or might not) enjoy this bit of stock market history from thedailypfennig.com:
“As it happens, we find ourselves smack in the middle of an astronomical/market phenomenon known as a “Puetz window.” In the early 1990s, researcher Steve Puetz looked into eight epic market crashes — starting with Holland’s tulip mania of the 17th century, ending with Japan’s meltdown in 1990 and including the U.S. crashes of 1929 and 1987.
Turns out every one of them took place within a few days of a full moon/lunar eclipse. And each time, that lunar eclipse took place within six weeks of a solar eclipse. (We’ll spare you the suspense: A solar eclipse is
coming up on Oct. 23.)
Puetz ran the numbers and concluded the odds of these circumstances being sheer coincidence were 127,000-to-1.
We leave it to others to debate the validity of the “Puetz window” as a useful forecasting tool. We’ll note here the current one continues through the end of the week. We’ll note further that while epic crashes tend to occur during Puetz windows, not every Puetz window results in a crash.
The next Puetz window, you wonder? Early next April. About six months from now.”
(photo from nasa.gov)
While the markets have shown some recent volatility, the one thing we can count on is our dividends and dividend increases. One of our popular holdings, Microsoft (MSFT) announced a dividend increase yesterday. Their quarterly payment has been upped from $.28 to $.31 giving investors an 11% raise in their income. When is the last time you received an 11% raise?
For more information on how to have a life long stream of rising income schedule a free portfolio analysis today!
The short version is that the stock market seems to be continuing along in its uptrend. Despite a few recent bumps and a little volatility the trend is firmly in place. However, and this is becoming a more and more troublesome “however,” there is definitely some signs of worry appearing. You may have heard or read about a selloff in high yield bonds. Or you may have noticed that we sold a large position from your account (BKLN) if you are a client in our Dividend and Growth Strategy. High yield bonds have in the past acted as an early warning signs to trouble in the stock market. A sharp selloff is worth watching.
Specifically in this case, it is my opinion that such a selloff has occurred because there is way too much money in the high yield market that doesn’t really belong there. That is normally “safe” money that would be in bank CD’s or maybe higher quality corporate or even government bonds or mutual funds. But since yields and interest rates are so low, the money has migrated up the risk sladder to grab the 5%+ yields in the high yield market. Money that is stretching for yield is typically skittish – it heads for the exits quickly with a hint of trouble. And that is what we saw at the end of July into early August.
The point of my article is that the same conditions – safe money stretching for return, exists in the stock market. CD money is eschewing sub 1% interest rates for 3%+ dividend yields. Investors have taken out record amount of margin debt (borrowing money using stocks as collateral to buy more stocks). Record high margin levels as we have now were associated with both the Tech Wreck of 2000 and the Financial Crisis collapse in 2007. Although I don’t see a particular reason for a stock market collapse, should a selloff get started it could very easily begin to snow ball, and a “normal” 10% correction could become twice that or more very quickly.
Bottom line. Now is not the time to take on added risk to your portfolios – unless you have a very defined plan to act and act quickly should a market selloff start. We have refocused our portfolios on high quality dividend payers, and have sold our high yield investments. I’m currently targeting a 25% cash position.
The stock market is reaching new highs while the economy seems to be sputtering along. This has created an environment that has led Brian Nelson, CFA of Valuentum Securities appropriately using a baseball analogy during the baseball All Star Game and Home Run Derby to say, ” If there is an environment more difficult to hit a pitch out of the ball park, I don’t think I’ve seen one.”
My take is similar. The economy is improving and I don’t fear a rise in short term interest rates from the Fed. I’m in the camp that we need modestly higher interest rates to encourage banks to lend. On the other hand, while I don’t see any reason for a market correction, we are definitely due a routine 10% – 20% correction. What I am afraid of is that conditions exist such that an innocuous 10% correction could quickly become a full blown sell off – and very quickly.
And thus we have decided to start building our “arc.” My intent is to stay fully invested within the parameters of our investment models. However, we are definitely rotating our stock holdings into quality holdings. We’ve sold some of our higher yielding but lower quality investments and have sought out low cost, dividend growing cash flow kings that have proven they can weather a storm. We have backtested our holdings against several market scenarios and feel very comfortable should we get a surprise on the down side. At the same time, if the market continues its trek up, I think we will be well rewarded for holding low priced quality stocks.
This is when being “small” works to our advantage. With slim pickings in the markets for stocks that meet our stringent criteria, I am happy to hold 15 – 25 non-correlated stocks in a portfolio and not be forced to own hundreds of issues like a mutual fund.
I recently described my portfolio building process in an article for horsesmouth.com, a subscription site for financial advisors. A copy of the full article has been posted in the Library section of this web site.
Last week market sentiment was decidedly negative. While the news has focused on turmoil in emerging markets (not a factor), the real question is economic growth in the U. S. As I have said many times, corporate earnings have to be strong in 2014 to justify current market values. Last week’s sell off centered around a PMI report that came in much weaker than expected. My feeling was that the market did not fully consider December’s bad weather, and the affect of mid-week Christmas and New Year’s holidays. This week we have seen some stabilizing technical indicators that imply the market is holding at these levels and is due a rebound.
In response, for our Dividend and Growth Strategies we have sold off a fixed income position and purchased Ford (F), Altria Group (MO), and GE (GE). I have avoided owning tobacco stocks for 27 years, but at current valuation and a 5.65% yield I had to jump on MO. GE is one of my favorite stocks, and looks better now after an 11% decline and a 3.59% dividend yield. While Ford is more cyclical than I like, it has suffered an 18% decline and is cheap with a 2.72% yield. I am very bullish on the outlook for the aluminum bodied Ford F-150 pickup truck.
While these purchases over allocate us to equities, I expect to re-balance in a couple of months if not weeks. I’m comfortable that we can ride through a correction due to our relatively high dividend yields and low valuations across the portfolios. If we see the short term rally I expect, we’ll take profits and reallocate back into our 20% fixed income position.
DuPont beats by $0.04, misses on revenues. DuPont’s (DD) Q3 EPS came in at $0.45 and beat consensus by $0.04, while revenue climbed 5% to $7.73B but missed expectations by $50M. “Third-quarter sales volumes and operating earnings were stronger across most businesses compared to a soft quarter last year,” said DuPont Chairperson and CEO Ellen Kullman. “Fourth-quarter operating earnings will be up substantially from last year. For the full year, we are on track to deliver modest earnings growth.”
Comment: Earnings news is good for maintaining DuPont’s current 3.03% yield. With a modest 13.8 P/E ratio there should be positive momentum behind the stock price moving into the fourth quarter based on guidance for earnings to be up substantially in the fourth quarter.
I recently posted an column at: MarketWatch.com titled: “Why Individual Bonds Remain Very Attractive” While investors are bailing from bond mutual funds – a wise move, individual bonds do offer protections against rising interest rates not found in bond mutual funds.
My overall prediction is that rates cannot go up dramatically. With every 1% increase in interest rates, the added amount the government must pay to just pay the added interest cost on the Federal debt, increases by about $180 billion. For perspective, the “sequestration”, the mandated cuts put into place that get the blame for everything bad in the economy, only cut spending by $42 billion (and prevented another $43 billion of spending increases). Simply put, the government and the Federal Reserve have a lot at stake to keep interest rates relatively low for a very long time. That said, a ½% increase across the board seems likely – but only if the economy continues in a positive direction. I think this is a big “if”.
The short version of the MarketWatch article is that many investors think that a bond’s value is fixed, and that they are stuck holding a bond to maturity. The reality is that a bond’s value will naturally increase in value through the first half of its life. This allows a bond investor to sell their bonds at a profit after a short holding period. If rates don’t increase. But even if rates rise, a bond will likely return to its par value several years before its actual maturity date.
For example I was recently quoted an Ohio municipal 10 year bond, Aa2 rated and insured, a ten year maturity, and a 3.655% yield to maturity. That is a federal and state tax free interest rate. If interest rates do go up ½%, the face value of the bond will drop below purchase price for the first 3 ½ years or so. But by year 5 the bond should be back to what an investor would pay for it today. So in effect, your 10 year bond has come a 5 year bond – paying 3.655% tax free. That is a pretty good deal.
If you own bonds and want to know when an optimum time would be to sell them, contact my office and we will run the analysis for you. If you need more income, or just want to diversify but don’t know where to go, give us a call and we can explain what bonds can do for you, even at a time when everyone is cashing in on their bond funds.