Thursday, December 13, 2012

The Fed announcement yesterday should not come as a big surprise.  What is interesting to me is that they are trying to be very transparent about what they are looking at when making rate decisions.  They gave us a specific target of 6.5% unemployment before they let off the gas pedal.  Some are concerned that once we start seeing growth, that it will be difficult to slow it down and that will lead to rampant inflation.

While I am concerned about inflation from the monetary side, there is still so much structural over capacity and efficiency gains from technology and global income differentials that I think inflation will be tame - not zero, but tame.

Given that framework and combining with the talk of austerity in some form in the US.  I still believe bonds should be a reasonable percentage of the portfolio.  I am speaking mostly of government bonds, because I am thinking that stocks are a better buy than corporate bonds.  On a spread basis, corporates look attractive, but on an absolute basis not so much.  If you want to dabble in JNK or HYG, that's ok, but recognize it will have a high correlation with stocks (they will go down if stocks do) without the same upside.

Here is a reasonable counter argument to mine:

http://seekingalpha.com/article/1063391-the-fed-the-evans-rule-and-the-validation-of-a-paradox?source=intbrokers_regular

The problem I have with this counter argument is that the only argument for higher rates seems to be that we are so low (and so we must have to go up).  I am not so sure.

I see 2 probable risks to my view:
1) growth returns before we expect (unemployment down surprisingly fast) in which case I think stocks will go up substantially (hence my weight on stocks being up substantially from 9% to 24%)

2) US becomes less credit worthy.  Big problem if this happens and I just don't know where to hide if this happens.  I don't put a high probability on this because there would have to be a credible foreign alternative to put your money into and I just don't see it.

MHN, despite a recent cut in dividends is now attractive as most of the premium has gone away.  I am re-buying the amounts I sold up at $17.

BBY and JCP have been a trading bonanza.  I unfortunately missed out buying on the last drop as I was distracted.  I think there will be more to come.

S had a drop to 5.52 where I think it is an excellent buy given the deal.  It has since rallied, but keep an eye on it and look to accumulate.





Thursday, December 6, 2012

I think with AAPL, we will see if the emperor has any clothes.  We should retest the recent low of $505 and see if any buyers appear.  Very dicey right now.  The market seems definitely in the "shoot first (sell) and ask questions later" mode.

I found a nice article regarding portfolio construction.  It runs through using correlations to construct a low volatility portfolio which can have a high yield.  In it he uses several instruments I have spoken about.  JNK, BKLN and SPY.  He also uses high grade credits and commodity ETF's as well.





The comments are also instructive as they highlight some of the limitations of this analysis as well as alternatives.  The biggest limitation is that correlations are not stable over time.  In times of crisis, correlations tend to polarize.  For example, all stocks/high yield bonds go toward +1 (with respect to other stocks) while Treasury bonds go to -1 (with respect to stocks) so you lose the correlation benefit.  In such times, it is important to recognize when you have had the "insurable event" i.e. a big down move, then you need to sell the stuff that has gained (treasuries, put options) and buy more of the stuff that has gotten hurt.  Scary, but ultimately the only way to win from volatility.  The trickiest part if to figure what constitutes a big move down.  No easy prescription here for that.  One can look at history as a guide and combine that with instinct.  For me, I start looking when we have a pullback of about 5% in SPY over a short period (a few days).  In addition, I rarely do anything major.  A few percent of adjustment either way rather than taking a big bet.







Wednesday, December 5, 2012

Why do I get the feeling in this market that I'm in the Andrea Gail, out by the Flemish Cap.  We just made the turn and everyone's celebrating and the clouds part showing sunshine...for a brief moment..then, "She's not going to let us out..."

I feel that way in particular about AAPL.  Multiples are low.  The stock is cheap on most metrics and yet it has stopped going up, perhaps because people are a bit skeptical that they will keep pulling the rabbit out of the hat with regards to products that everyone wants.

In general, stocks are following that script.  They are cheap relative to other alternatives and yet it's always a wall or worry that we have to climb.  Perhaps that is the way it should be.   Making money should be a struggle just like everything else in life.

So with that in mind, let's stick to our guns and analyze at face value.  Global growth will be slow.  US growth will be slower still, more so with the effects of austerity that will come about inevitably - higher taxes, lower government spending.  Stocks are cheap because they continue to benefit from increases in productivity.  These improvements come at the expense of employment which further clouds the picture for individuals.  There is nothing fun about being made obsolete, but such is the path.  We have to continually re-invent ourselves to stay ahead of the curve.

The $64,000 question is whether there is a time bomb which will slam stocks at some point.  I do not have a crystal ball I can use to avoid this.  We WILL have volatility, but we can use those drops to buy into the ideas we like.  Keep enough powder dry to be flexible.  Stay with some government bonds to sell if we get an event.  This will be better than all cash.  Maybe, if we get lucky, we will get over that wave.


Monday, December 3, 2012

November performance is updated on the performance tab (+1.13% for the month).  I was quite pleased with overall performance.  Driven mostly by outperformance by the dividend payers relative to the S&P and bonds.

PFF is a preferred equity fund with a heavy concentration in financials.  Currently it yields about 6.3% which I find very attractive.  It is down almost 1% today and I think it is a good buy.  I see banks and other financials continuing to get stronger and the government serving as a backstop.  This is a core holding of mine.  It is trading at around 0% premium so not a big risk from that perspective, unlike MHN, another core holding of mine.  MHN is still at a 5% premium, and in perfectly liquid world, I would sell more than half of it  (especially with capital gains taxes probably going up) and wait to buy it back.  But, it is not particularly liquid and it is easy to impact the price.  The upside to this is when someone does want to get out or get in, we, as astute investors can take advantage of the opportunity and buy or sell into the volume.  Right now, if a big buyer comes in, I will be selling.

TLT.  Yes, rates are low, but I don't see them going higher yet.  Inflation, while present certainly in food, is not impacting enough to show up in the headline numbers.  Growth is still low and the risk is it goes even lower as some form of the fiscal cliff comes to be.  In addition, the fiscal cliff will be seen as good for bonds as it would be a form of discipline which has been lacking in the U.S.  I feel it is important to have some in a balanced portfolio.

I am not so sure though about the credit bet.  High yield/junk bonds and loans will still be ok (I have all of these) but I don't think we get the extra kick from spread compression (junk bond yields coming down relative to treasuries).  So this story would be for the yield which is quite attractive and not for capital gains.

RIMM, just a thought here as I am not a huge fan, but there has been a LOT of bad news here and the stock has stopped going down and actually has rallied a bit.  This type of situation is really difficult for me personally.  I find it hard to buy at this point because I have seen it getting squashed.  And yet, there is some upside here.  VERY speculative.   FB is in the same boat, although it naturally has more upside because it hasn't really screwed up yet.

Energies is an interesting sector.  Other, than dividends, I have not made money on this sector, despite my feeling that this could be a key factor limiting global growth.  Perhaps it is precisely because there will be pressure on energy prices from the search for alternatives.

Healthcare may suffer a similar fate as energy, but the human search for ever longer life quality/lifespan will keep these stocks a good bet.





Thursday, November 29, 2012

I have fallen into a classic short trap.  I shorted AMZN.  I don't really recommend this as it's the stock that never goes down.  It trades at ridiculous multiples to earnings, but it does have it's tentacles everywhere.

Probably a loser trade, but that is usually the case with anything that smells like a hedge.  This year I have lost about 3+% to hedging.  All in the name of keeping returns more stable.  I have the internal debate about whether this is a good idea or not all the time.  No answer yet, both sides are hard-headed   :)


Also, volatility is still cheap in absolute terms, so if you are at all nervous options are not a bad way to either gain exposure (calls) or hedge (puts).  I bought a few of the December 135Puts for $0.42.  Also probably a loser trade, but I rationalize by paying for it with my dividend yield.







I think these are the moments that make investing the challenge it is.  It seems that there is no right move.  It is EXTREMELY difficult to try to time the market on a short term basis.  Companies are in business to make money and continually grow their ability to do so.  But, this ability only exists in the context of economic growth as a whole, intra-national for most companies and international for many others.

The fiscal cliff discussions are a smoke screen in my view.  Bottom line is that we cannot afford the growth in government spending.  Taxes cannot hope to cover it as it is growing far in excess of economic growth.  We will have some sort of "cliff" in the current nomenclature whether it be in the size currently set up or smaller, or eventually, even larger!

And so it falls to us to try to figure out what stocks are discounting.  There will be volatility is the only sure thing.  As in the past, I think an investor needs to try to not listen to much to the chatter and try to understand what the goal is.  When you buy a stock it is economically the same as going into the business personally- with far more flexibility in getting out!  So right now, what business do you want to be in?

Retail, with consumers trying to climb out from their hole of personal debt?  I like this at least in terms of basic stuff which we all need or are inexpensive luxuries, MCD, PG, KO, CLX and KMB are in this group as are many other good companies.

Energy?  I think this has a huge role in future economic development and owning good companies that take leadership positions is critical XOM for instance

Telecom?  VZ and T own the majority of the bandwidth in a world where everything is going wireless.

Pharma?  MRK and JNJ, great companies and we as a species seem to be intent on trying to live forever and our parts break down ;)

Tech?  I am not a big tech guy as I continually get disappointed when tech doesn't work rather than marvelling at the things that do work.  So I am not much help in this arena.  I worry about AAPL (the only one I own) as I find it personally to be resting on its laurels and not delivering quite as high a quality as it used to.

These are all developed companies.  There are many great startups with new ideas, as well.  Remember, we are not far from sharks when it comes to economic activity.  We need to keep swimming (I know some stop for the evenings, but everything needs R&R).  

I do think that eventually we will realize we can't afford the growth in government spending.  That will be a great development and it should happen over time.

In the mean time, stocks will be ok, especially when they pay their shareholders with dividends.  Buy them on dips. Bonds will be ok too as growth will be muted by the inevitable contraction from the fiscal side.  Make sure they have a place in your portfolio.  In a few years we may have to start thinking about inflation, but not yet.









Wednesday, November 28, 2012

Well, that was quick.  I don't know what the news for JCP was, but it popped about 5% and when I can't understand, I don't look a gift horse in the mouth.  I'll take my 5+ in JCP and BBY and say thank you.  I'll play again, soon.

Tuesday, November 27, 2012

For you ETF muni holders out there, be careful of premiums to NAV.  MHN which is one of my core holdings is trading at over 5% premium and that has historically been untenable.  Perhaops the market is focused on taxes going up and believing that muni income will remain shielded.  I believe that in the end it will be protected because it is an important mechanism to help states fund projects.  However, that does not mean there will be no "scares" and if that happens the premiums will disappear.  That will be a buying opportunity, but for now given the high level, I am trimming my position by 10-20%.  I would do more, but the fund is not super-liquid.

As for the fiscal cliff and it's repercussions, I think it is a complex problem and overall the market does a good job of finding value.  Volatility is not very elevated which indicates there is no tremendous concern with surprises.  For my own part, I still believe stocks, in particular dividend paying stocks, are a good value and if it is any indication, my allocation is around 25% which is as high as it has been in a long while.  If we see drops, I will add more, perhaps getting as high as 35%.

The holiday season is giving us an opportunity to buy into what are essentially options.  BBY, JCP are two that I have bought in the last few days with the idea that they are beaten down and could pop 10-20%.  BBY is already there.   CHK is another name I like but this one is a longer term spec.

I continue to buy S on any weakness.

My base case is a slow growth scenario where bonds of all types will be a good hold.  Dividend paying stocks will be good and growth stocks will be hit or miss.  Companies will continue to become more efficient and unemployment will doggedly stay high.  Not a particularly sunny outlook, but it seems to me most likely.

Last note, I just read that stock outflows from funds was 9 billion last week which is the largest in a while.  That combined with the market staying solid indicates that the buying pressure is quite strong.  Politicians can screw this up, but I think we will be ok over time.  Remember that even if we "go over the cliff" it could turn out to be a good, if painful, discipline.




Monday, November 19, 2012

Hi all,

There has started to be some discussion about the effect the possible change in tax rate is having in the stock market.  I have mentioned previously that I believe this to be the case and I worked up a spreadsheet to calculate the effect of changing tax rates on positions subject to long term capital gains.

RELATIVE GAIN (for a $100 position) IN PORTFOLIO IF ONE SELLS AND
LONG TERM CAP GAINS GOES FROM 15% to 40%




return in time gap while one is out of the stock

-5% -3% 0% 3% 5% 8%
current gain -20%  $(2.43)  $(3.62)  $(4.82)  $(6.02)  $(7.21)  $(8.41)

-10.00%  $0.29  $(1.06)  $(2.41)  $(3.76)  $(5.11)  $(6.45)
0.00%  $3.00  $1.50  $-    $(1.50)  $(3.00)  $(4.50)
10.00%  $5.71  $4.06  $2.41  $0.76  $(0.89)  $(2.55)
20.00%  $8.43  $6.62  $4.82  $3.02  $1.21  $(0.59)
30.00%  $11.14  $9.19  $7.23  $5.27  $3.32  $1.36
40.00%  $13.86  $11.75  $9.64  $7.53  $5.42  $3.31
50.00%  $16.57  $14.31  $12.05  $9.79  $7.53  $5.27
60.00%  $19.29  $16.87  $14.46  $12.05  $9.63  $7.22
70.00%  $22.00  $19.44  $16.87  $14.30  $11.74  $9.17
80.00%  $24.72  $22.00  $19.28  $16.56  $13.84  $11.13
90.00%  $27.43  $24.56  $21.69  $18.82  $15.95  $13.08

This spreadsheet is calculated for a change in rates from 15% to 40%.  The rows represents your current gain (in %) on a given stock.  The columns represent the change in stock price in the 1 month period (this might be 1 month + one day check with your accountant) that one has to be out of the stock to establish a new position in the same stock.

The basic idea is that if you sell in order to take advantage of current tax law, then, if the stock subsequently goes down, happy days.  But if the stock goes up, then you have a little cushion where you are still ahead of the game.  Example, if you are up 30% on a stock and you sell and the stock goes up 8% during the time you have to be out to satisfy the tax law, then you still benefit by $1.36 (1.36%) and that benefit goes up the more gain you have in the stock.

If the tax rate difference turns out to be less, then the effect is smaller.

Just an FYI to make sure and check that the path you take makes economic sense.  Run your own scenarios.

Wednesday, November 7, 2012

An anecdote about my relationship with this investing activity.

A few days ago I wrote about buying some treasury bonds (TLT) as a form of protection.  Yesterday I found myself with a gain (small) in the position but for whatever reason (reading the tea leaves, my old boss used to say) I felt like a sell off was coming, and though it is not my usual action, I sold.  (I didn't write about this because I feel it is small, way too speculative and not based on anything quantitative)  The stock promptly fell about 1%.  Good, right? Well, that's only part of the story because my "tea leaves" told me I should buy the shares back and get long again.  Sadly, this time I did not heed my gut and today I wake up with the TLT up 2% from where I sold.  Now I feel like I messed up, and yet I made money!  There is no winning.

Ugh, now where's the phone number of my therapist?

Anyway, the way I like to think about the market, it is constantly assessing and adjusting to probabilities.  Before today, there was a (u pick, but there is also a traded market on this) 70% chance that Obama would be re-elected.  At any given point in time, the market price is the weighted average of probability times outcome.  We are reassessing winners and losers.  Now we have certainty about the outcome so "A" path is embarked upon.  We, as a market, are trying to read the foreseeable future and make our bets.  Stocks are down I think, because  and stocks today are losers because taxes on dividends are going up.  I do not think there is a reflection that earnings are going to be bad.  On the contrary, the economic signs have been positive and ultimately that is what matters.

We are not out of the woods yet.  The over-riding concern is global growth and then US growth.  Deleveraging is still going on.  All of these factors point to continued low interest rates and bonds being not as risky as they appear.  I continue to believe , however that you are better off in a high quality dividend paying stock.  Muni bonds are probably ok, but we need to read the environment for "simplifying the tax code" and they may lose some of their tax benefits.  Their yields are attractive nonetheless.

I bailed on NLY and AGNC.  Rates are going to continue their march down and the margins for these business are going to come under continued pressure.  They are very leveraged companies so they are very sensitive to rates.

My stock exposure is up to around 27% and I would like to make it a bit higher as I think by the end of the year stocks will be higher than today.


Wednesday, October 31, 2012

I hope everyone came out ok with Sandy.  We were very fortunate in Eastern Long Island, I think.   I grow increasingly worried, considering the general lack of preparedness, that if we do ever get hit by a real hurricane, it will be a doozy in terms of life and economic damage.

As for investing, I have been quiet the last few weeks.  My equity exposure has remained about 15% and so I have lost sa bit of money this month, but kept it fairly small.  I will publish the numbers after month end.

Speaking of month end, there are some gains from the dividend payers, for example ETN and more consistently MRK and the energy stocks.

I continue to believe these are the best way to build a solid equity portfolio.  I am a bit concerned that AAPL is going to be taken out to the woodshed after having been the darling for quite a while.  I continue to hold it, but we are now down to only slightly above where I bought it a while a go.  I am kicking myself for not selling when the stock was higher as even though the stock appears cheap based on earnings metrics, it's earnings are still susceptible to any disturbances in it's upward trajectory of growth.  Most of the market has serious gains in AAPL and combining that with the rising tax rates, it may be subject to a serious sell off in the near future.

After pondering some more I really like the Sprint (S) deal.  Like any merger arb deal it is a delicate dance and can be thrown off track, but I believe that the deal will pass muster with the FCC and DOJ and receive regulatory permission.  Assuming that, there is over a 20% return to a potential closing date in the middle of the year.    Downside risk is probably in the 10% range, but I place a low probability on that.  A key component is to make sure and elect to tender all of your shares for the $7.30 purchase by Softbank.  You may end up selling more than your expected 55% at that price (and therefore earn a higher return).  I have bought some and will continue to buy regularly with a goal of building a good size position in the 3% range.

I jumped in a bit late to the mortgage bond game with my purchase of NLY and recently AGNC.  I think these are both solid companies but they are leveraged in the mortgage market.  They have suffered recently with the idea that more people are going to refinance and that will put pressure on their margins.  Their yield is outstanding and I still think they are worth a position in an income portfolio.

GE is well off it's high and I think this as solid a company as there is and it pays a 3+% dividend yield to boot.  It along with CAT have been brought down by renewed concerns with global growth.   That of course is a concern but I think the rewards outweigh the risks for GE.

To balance the growth concern I have taken advantage of the sell off in treasury securities (TLT) and bought a bit.  While I don't think they are the best long term investment, I cannot see explosive growth (real or nominal) coming out of nowhere in the near future, so I think the bonds at this price point offer some protection from nasty surprises.







Wednesday, October 17, 2012

There has been much discussion in the press about earnings dissapointments coming.

In my experience, when the pessimism gets that high and stockks refuse to sell off, then we have a rally coming.  Call options are still cheap.  Dividend payers are still a good buy and will keep growing.  I have brought up my equity exposure to15% from a low of about 7% recently.  The options I bought would increase my exposure to the 35% level if we continue to rally.

Banks continue to show some improvements despite rate pressuring their bottom line.  This is a direct result of the balance sheet repair imported from the QE.  This effect is also helping homeowners with refinancing and companies for the same reason.

Bonds have come off a bit (TLT) and I think at these levels provide a reasonable hedge against the market selling off due to a surprise.  In addition, with the low growth environment and QE, I do not think there is currently a risk of bonds having a big selloff.  That will come in time, but not now.


http://online.barrons.com/article/SB50001424053111904757804578032721106626626.html


A good article on ETF's and yield investing.  Please make sure you consider the premium to NAV when looking at funds.  MHN is one that I invest in and fluctuates considerably around NAV.  The issue with some of these is that it is hard to take advantage of fluctuations.  MHN for example, I wrote a few days ago that I was selling a bit when it was trading at a 5% premium.  I was correct, as it dropped to about a 1% premium, however, I only sold a small portion of what I wanted to sell because I impacted the price too much.  Even a few thousand shares of a stock that doesn't trade too much can have an impact.  So consider that as well when making your trading decisions.  Impact is why for me, this stock is a buy and hold and I only trade a small amount at the margin.

I am going to be taking a good look at the Sprint deal.  My first quick analysis makes it look pretty attractive.  The basic idea is that Softbank is going to be paying 7.3 for 55% and there will be some more support at 5.25.  With the stock trading at 5.75, the value for the remaining 45% seems to low to me.  It should be worthwhile looking through the prospectus.   Here is an article I found doing some of this analysis:

http://seekingalpha.com/article/926991-sprint-s-unreasonable-post-deal-valuation?source=intbrokers_regular







Tuesday, October 2, 2012

I updated September performance which I was quite happy with.  Outperformance attributed to stock selection versus the S&P as the dividend payers did well, except for LO, which is turning into a bit of a dog.  GE and VZ and KMB have continued to be stars.

Let's keep an eye on MHN.  I am starting to sell a little bit - 10% because the premium has reached over 5%.  A level that has proven difficult to maintain.  I think this is attributable to the market worrying about tax rates for next year.  The yield is still quite attractive - almost 6% tax free which is nothing to sneeze at!  But, I am trying to get a little cute and trade around - sell when the premium gets too large and buy some extra when it get cheap.

JCP is getting interesting again below 24.  If you recall, I liked it below 22.  After dipping to around 20 it rallied to around 29.  I missed the last dollar as I thought above 28 it was worth selling.  Well, as usual, as long as you can stay in the game, the market gives you new chances to make money.  This stock is turning into a bit of a canary in the coal mine.  Much like CAT with global growth.  Anything the threatens the macro environment will hit these stocks and vice versa.

I thought Mr. Bernanke's speech was quite good yesterday.  I think he is trying to do what he is charged to do with the tools he has at his disposal.  He has admitted previously that monetary policy is a blunt tool.   The consumer is still licking his wounds and pulling in overextended credit and the banks are still rebuilding balance sheets.  The best we can hope for is that we continue to rebuild and at some point we will be in better shape to expand.  Growth will continue to be slow and bond yields will stay low.  Stocks will still be subject to external shocks that would hit values but overall, they are a reasonable bet as corporations continue to get more efficient and benefit from low bond yields.








Tuesday, September 25, 2012

I don't think Plosser's comments are anything we didn't know already.  I maintain that the Fed's actions are all about rebuilding corporate balance sheets - in particular, the banks.  Banks have yet to increase loans in any significant way because of a combination of individuals reducing debt and lending standards rising to more stringent levels.

If the market insists on selling stocks off on this, use this as an opportunity to add a bit to your core income producing stocks.

I may buy back the junk bonds I sold a week ago on a pullback, although I remain a bit skeptical that I am really compensated for the risks here - I would rather own the stocks at these compressed yield spread levels.

My treasury bond fund, TLT, that I purchased a few days back is doing nicely, but if that gets back to the high 120's then I would sell that and wait for another equity rally/bond decline when the price should fall back into the low 120 area.  Overall, while I think government bonds are overpriced, I do not want to fight the Fed.  In addition, this is the only hedge for global unrest.




Monday, September 24, 2012

I like the following article at an interesting website called seeking alpha.  Check it out.  Some self-promotional stuff, but in large part, I think contributors are trying to increase the knowledge base for investors - much like what I am attempting to do here.


seekingalpha.com/article/881541

My exposure to stocks stays low right now - trying to take advantage of the rally and lock in some gains.  My cash is ready to buy on a dip.  I am not so sure we are going to get much of one, however.  There is just too much money on the sidelines with their faces pressed to the glass wanting into the stock appreciation party.

Sharks.  Fascinating creatures to many including me, they are wonderful hunting machines.  I think of the market in much the same way.  There is no resting for the market.  If you look at it as an entity, it seeks out successful ideas and punishes poor ones.  If you combine that with human nature always pushing to progress, then the market, as a whole, has no choice but to succeed.  Investors have to be very careful being "short the market" for anything other than short periods of time.  There are those investors that hang their hat on a bold prediction for a drop in the market, but as a critical investor it is important to consider their predictions as a whole.  Because the market is volatile, there will always be drops, but often the "short predictor" will stay short even after a drop and never get in.  Or, they miss the 30% rally and claim victory if the stocks fall by 10% subsequently.

This is not to invalidate solid research that seeks to sift through the winners and losers.  There will always be a place for that.  I am just not so sure that trying to be too cute with timing is that productive.

I bring this up at the peril that some would say I am trying to do the same thing here.  Guilty as charged when one considers my performance relative to my long term benchmark of 45% stocks, 45% government bonds and 10% cash.  But, like the Fed, I feel I have a dual mandate.  I  also charge myself with making money in any environment.  Considering this admittedly difficult task, I am willing to tolerate periods of underperformance versus a benchmark - so long as I am still making money.

Currently, my biggest investing difficulty is dealing with the low levels of government interest rates and the impact on future stock prices.  The low level of rates makes stocks look very cheap, but when (if?) we get some growth and rates start going up, then stocks will come off as the market adjusts the required rates of returns upward.  It is not a straight relationship, though because if we do get some growth, then stocks should benefit from this.  Inflation would hurt input costs, but then it would come down to whether companies had pricing power.  The jury is out for me on this one.  I don't know if companies will ever have pricing power (on average) again.

Given the above, stocks look pretty good government bonds will have limited upside (but also not much downside as long as Mr. Bernanke is around).  So the waters look good to wade in to mid-stomach level, I think.  Have some money on the sideline if the opportunity arises, but don't get caught being too bearish.  Long term, the shark keeps swimming.




Tuesday, September 18, 2012

Reader Rick O has pointed out in his comments that it is worthwhile taking a good look at the banks.  In short, the fed actions can seem puzzling to consumers because banks aren't lending as much as we would like them to - especially when rates are so low!  But therein lies the rub.  Rates are so low that it is hard to justify the risks of lending!  However, one of the key benefits of such low borrowing rates for banks (the short term rate the Fed actually controls) is that banks are able to repair balance their balance sheets by borrowing from the fed and buying (or lending) to high quality institutions at longer terms.  Over time, they will earn the spread in the interest rates and be able to build up their equity.  Remember that they can leverage this trade up in an almost unlimited way, so a 1 or 2% spread can become very significant.

If this sounds like it is risky, well, it can be depending on what bonds they buy.  But the alternative is far worse.  We NEED our banks to have stronger balance sheets and be able to support their key function in moving money to areas of growth.

Given the current environment, I continue to like dividend paying stocks.  Government bond yields will continue to be low (Fed will make it so) which will make investors reach for yield.  I recently reduced my high yield bond position and that is probably a mistake given the recent Fed move.  It is a bit tough to get back in higher, but I will be looking for pull backs to do so.

The bank preferreds are good.  PFF is my vehicle of choice there as are bank loans VVR is better than BKLN but I have both.  Overall my portfolio yields about 3.5% which I think is pretty good given that 25% is in cash.  About 2/3 of my yield is from MHN, PFF, VVR, HYG and the rest is from my stocks.

Overall, my equity exposure is around 16% -  well below my target of 45% but I do have a fair amount of options which will gain exposure if we have a move up.  Barring a military action, I think that the balance of market participants being short of their benchmarks and the Fed keeping the foot on the accelerator, I think we will have a positive quarter regardless of the election results.  Taxes may have a disproportionate impact this year given the potential for significant changes.




Thursday, September 13, 2012

With the mini burst upward in stocks, the call options I purchased did their job and bumped up my stock exposure from 20 to around 30% as stocks have rallied.  Given that I am running a portfolio to maximize income while minimizing risk, I have cut down the equity exposure in order to capture gains in stocks.  Put another way, I am not looking for home runs, I am looking for singles, or even getting to base via a walk or hit batsman!

So far this month, the portfolio is up about 1% which is nice progress given that my goal is inflation plus 2%.  YTD is about 5%.

I think the fed is telling us very plainly that they will not let rates go up.  The long term bonds have come off about 8% in the last month (looking at TLT as a proxy).  I think it is worth buying some on the dip here.

Overall, I am bringing stocks down to about 15-20% on this rally.

LO down over 10% in less than a month (and more from the high).  I am leaning towards considering this a buying opportunity, but I am always concerned with drops without much news.  All too often, we learn after the fact about some big news item and the implication, to me, is that some people know ahead of time.  So we should beware.  Instead of buying the stock outright, I bought some October 125 calls.  This will give me some exposure if we get a bounce back.

Barring some geopolitical event (the events in Egypt are unnerving), I think there is good upside in the market right now.  I will look to add to my exposure perhaps with some more call options.

VZ is trading at a high multiple relative to history at around 19.  Their dividend yield is quite high over 4%.  I would agree with a CNBC commentator that it is trading in a more "bond like" manner.  It is always a bit dicey to treat stocks like bonds but I am still persuaded by the story in the growth of mobile data usage.  I still think T and VZ are the biggest games in town and will benefit as usage inevitably increases.  It is one of my core holdings and has done remarkably well but I think this is a case of sticking with the horse.


Tuesday, September 11, 2012

Results updated for August.

Unfortunately, some underperformance crept in for August.  I was not too surprised that my stock picks after having a blistering July, took a break.  September has started nicely so we will see how it unfolds.

JCP has continued it's run up and if you held on, and if you still have it, I would take some chips off the table.  We have had a good run.  At this point some good news is priced in with regard to the holiday season.  Of course, it is still cheaper than others, just not so obviously so.

I do not have too much in the speculative realm right now.  Of my core holdings I am keeping an eye on LO.  Lorillard has been on a downward path lately as tobacco continues to be under ever increasing scrutiny.  I do not believe their dividend is at risk, so I think the pullback is an opportunity to add if you are not filled up there.

Overall, my equity exposure is at about 17%.  This is up from about 9% last month.  This increase is due to my adding SPY calls to buy market exposure.  The chart below shows the value of the VIX over the last 5 years or so.



It is clear we are at low levels and so I believe that if you are low on exposure, then calls offer some value.  I have been sticking to shorter term (for me) October calls.

Finally, you can sign up to get an email when I update the site.  It's in the follow by email section on the lower right.

Thanks.


Friday, September 7, 2012

Hi all,

Sorry about not being more diligent with the frequency of posts.  I am wondering if there is a way for people to be notified when I do update.  Any blog geeks out there? :)


Anyway, I think we are witnessing the manifestation of the market being short stocks (relatie to where there long term position should be) and getting worried that they are going to miss out.  There is no doubt that stocks are cheap RELATIVE to bonds.  The problem is that the bonds are being propped up, so I think that is what has intelligent investors worried.

Now, you could say "Short the bonds!" and that is a reasonable strategy but not without risks if there is a geopolitical problem.  Perhaps shorting corporate bonds is safer and more direct.  I would look to the high yield sector which is looking a bit precarious with a lot of good news priced in.  HYG and JNK are the candidates there.  They are yielding in the low 6% range.  I am watching the spread between 10 year government bonds at 1.6% and high GRADE corporate (Aaa) @ 3.4% and then high YIELD  at 6.2% or so.  So the spread govt to HY is around 4.6% which is tight and gets back to my point that a lot of good news is priced in.  I don't have a historical chart handy, but I think high yield would look more attractive around 7% over the govt bonds and we have seen much higher numbers than that.  I do not believe we have been much tighter than 4.6.  Some of this is due to the fact that as rates get low, the spread come in on a proportionate level, but I believe there should be some absolute numbers in investing and we are getting very close.  Putting in a more mathematical way, the default rate does not have to be that high to wipe out the spread between high grade and high yield.  Making up some numbers here, but I don't think they are far off:

Amount lost on default 40%
% of portfolio defaulting 5%, that is a 2% loss on the portfolio.

Currently, I have about 9% of my portfolio in high yield and I will be taking that amount down, probably about half of that amount.  I probably should go all the way to ZERO, but zero seems so final...

So, I still come back to stocks looking cheap but I am more convinced of that on a relative basis rather than absolute.  I do think there is some upside as the market gets more invested but I think given the gorilla in the room that is the high degree of monetization, I prefer to invest with some protection.  Thankfully, call options are cheap IMHO and so I am buying some call options out to October (SPY Oct 150,155 currently).  These are speculative in nature (because the time value goes away) and so I will be trying to operate a bit quicker than is my usual style.


Friday, August 17, 2012

Some random thoughts:

My equity market exposure is down to about 9% because my the calls that I sold are capping my upside.  While this can be painful, I have to stick by my belief that earning in the 4-8% range is an excellent result.  I am around 4 for the year right now and think the market may be in for a small correction so I am in line with that view.

Government bonds have had a big sell off.  I am annoyed at myself for not having shorted them, but I will have to be satisfied that at least I sold them at good levels.  The 30 year TIPS that I sold at 40 some odd basis points of real yield are back up to low 60's.  I will be looking for 75 bp or more to buy some back.




I am not a particularly political person except as it impacts the markets.  There has been a lot of discussion about companies being on hold because of lack of clarity in the political scene.  I am not so sure this is the case as I don't think there will be any more clarity 3 months from now (or even 1 year for that matter).

Why does Romney's camp allow taxes to be an issue?  Am I wrong in thinking that the ONLY legitimate question is whether Romney cheated on his taxes, or not?  I have not heard anything that would suggest that.  So, if the American people have a problem with having a two tiered (long term/short term, or cap gains/income) tax system, then the discussion should be about that, not whether Romney's effective tax rate was 13% or whatever.  Romney didn't set the rates, so take it up with the Senate and Congress!  In my view there are legitimate reasons to tax long term capital gains at lower rates (lengthening investor horizons) so they should be incentivized.  Whether 15% is too low, or not, well that is just a number plucked out of the air and it could easily be 23% or 31%.  Let's not complicate the tax code even further by adding a layer of "minimum tax".  Let's just discuss the right topics and move forward.

Currently, tax receipts are low (% of GDP) mainly because economic activity is slow, raising rates won't really bring it back too much, but could help a bit, so let's do some of that. While we are at it, let's find out what the PEOPLE want to incentivize and have the code reflect that.  Energy independence?  If yes, add subsidies.  Home ownership?  If yes, keep the interest deduction, if not, then let's abolish it.  We want to keep more corporations here?  Simplify the code, reduce loopholes and lower the rate.

Government expenditures are too high (historically in % of GDP) mainly because of increased defense spending, so maybe we can't afford to be quite the police force for the world we once were.  But mainly the problem with spending is the future.  Spending is projected to get much worse because we are living longer and want good medical care.  Well, maybe we as a country can't really afford all of it, so let's decide where to reduce our future promises.

But this discussion of deficits and government debt brings up an interesting point:

Why do we care about the national debt?  The answer is similar to the question at the personal level.  We care, because if we keep increasing debt, then one day we may find we can't get any more loans and the carousel stops turning.  Most likely what happens is that our borrowing rates will keep going up to the point where we just can't afford it.  This is what has been happening to Greece and then Italy and Spain to different degrees.

But, what may be different with our situation is that the reason we can demand higher rates is that investors have alternatives!  USA principal among them.  In fact why isn't China an option? The 800 pound gorilla in the room is that it is still a communist country with very different views about what constitutes private and public.  The USA is still the ONLY place with the size, legal and social infrastructure to have any confidence in.  Germany?  Sure, but it's small and they don't really have a great social history.  England, close, but not large enough.  Japan, yes and they already have over 200% debt to GDP so they keep borrowing and yet their rates are the lowest in the world!

Bottom line, let's stop the handwringing and get on with it.  The US is still the only game in town and the world has voted with it's currency by continuing to buy our debt.  Let's simplify the tax code, increase taxes a bit, cut spending a little bit, curtail our future promises and get on with innovating and doing business.

Tuesday, July 31, 2012

RESULTS POSTED for July

I am very happy with performance this month.  Good outperformance vs the benchmark, this despite being significantly underweighted in equities toward the end of the month.  Check it out!  Month end weights are 27% equity, 22% credit and the rest in cash.



The well received news of Euro support is having a nice effect on US equities.  I am not so sanguine.

Today's comments by Bill Gross

http://www.pimco.com/EN/Insights/Pages/Cult-Figures.aspx

I think are spot on for the long term view on equity.  I would agree that it is not sustainable for stocks to grow at 3% real return over GDP.  However, I have never been in the camp to expect those kind of returns.  I think if your retirement can survive with a 2% real return in absolute value, you will be ok.  That is a bit of a trick though as most people's funds won't last at those return levels.

I would agree with Mr. Gross that bonds cannot help us at their current prices.  TIPS with negative or just barely positive real returns just won't get the job done.  I would say though that I believe equities will help.  Having a portfolio of dividend paying stocks that have some pricing power KO, KMB, PG, MRK will have a beneficial effect on your portfolio.  They are not as cheap as they were, but still worth owning.  Keep an eye out for drops in the market for opportunities to add to those types of stocks.

Right now, I have trimmed almost all speculative positions and am down to about 26% equity exposure.  Definitely on the low side and I believe there will be opportunities to buy stocks at better levels.  I am not a big level believer but watch when the "good news" stops having good effects and peters out.   Likewise, buy when the bad news is being discounted.




Thursday, July 26, 2012

Hello all,

LO has gotten blasted in the last few days and so long as you don't have a moral problem with owning a tobacco stock, I think this is a buying opportunity.

MHN, is back to a 3% premium.  There has been a rally along with other bond exposures as rates have come down.  I still think muni's offer excellent yield and good return for the risk.  That said, if you have a propensity to trade, this ETF doesn't usually get to a higher premium than that so it would be a relative sell.  I had increased my exposure a bit on the last dip and may just sell what I had purchased but this is just rearranging the chairs rather than a a change in view.

I bought some AAPL on the earnings dip.  While it can appear cheap and I believe it is a solid company, the hurdle for AAPL is to convince the market it can still grow even from these lofty levels of sales and income.  This is unprecedented territory so we shall see.

Overall my equity exposure is down to 33% which is low against my long term goal of 45%.  

We will continue to get news that moves the market one way or the other.  Have faith in your ideas and buy when we get dips and sell on large rallies.  Keep position sizes small enough to be nimble and large enough to matter.

What I do is have a certain dollar size position for core ideas and another for speculative ideas.  For me, core ideas have a weight around 1.5-2% each (I have 16 of them) while speculative is around .75% (I have 5 of them).

For core, I buy more on dips (LO for example) and for spec it's more about the price level.  For example JCP I think should not get much cheaper than $20, so that is a rough level where I would reconsider my position.  I don't really have a sell point because my thesis is that if we start a recovery, they will do well in the holiday season.


Friday, July 6, 2012

While the employment numbers should not have surprised anyone, we are seeing a bit of a sell off but I think this is largely a consolidation from the rallies of the past few days.  I am not rushing off to buy more of everything, but just holding the course.

CAT continues to torture me.  I know about a downgrade from an analyst but this stock is trading with way too much volatility for what it is - a solidly run capital good company.  Overall, world growth still exists and will most likely continue.  So I continue to believe the stock is cheap, but it has been punishing.  GE has been much better for me (and a higher yield!)...hmmm, I think I am going to be taking some losses on CAT and adding more to GE...



Performance UPDATE


I updated performance for June.  A good month vs the benchmark.  Largely because I got out of bonds at a good time and added to stocks that outperformed the S&P 500.

Still under the benchmark since 1/2011 but that is because I was running a very conservative equity allocation relative to where I ended up deciding I wanted to be long term.  I initially was looking at around 25% equity but I realize that is too conservative, so I switched to 45%.

Thursday, July 5, 2012

As of yesterday, I have started to grow a bit scared of the rally.  While I still like my stocks, I have decided to start selling some SPY DEC 140 CALLS for 4.5 ish on a portion of my equity portfolio (about 50% currently).  This is not for the squeamish, there is a lot of risk in doing this so I would not recommend this to everyone, but just in case someone is interested, here is my thought process:  

The idea is that my portfolio is designed to mimic the S&P 500 with a bit more income.  So, I believe my portfolio will at least keep pace with the S&P.  I am willing to give up some upside in this market in order to gather some more income.  The 140 call plus the premium of 4.5 will give me a bit less than 6% upside on the net equity portfolio through December 21.  I would be content with that outcome.

For those not predisposed to trade options, I think holding the course is ok here.  If you have a stock that has really done well for you and is a bit overweight, you would not be wrong to trim the position a little bit.  But, in the end, this is just trimming around the edges. Nothing new has happened.  The market will ebb and flow like waves on the ocean.  Over time, the amount of water will rise as economic growth adds to the total water available, if you will kindly extend the analogy, but there will still be tidal flow, wave action and yes, the occasional "rogue wave".

We want to be on firm enough footing to not be knocked out by the rogue wave and instead benefit from it if it comes by buying more on the pullback.

I still am staying away from government bonds and in high grade bonds in general as I would leave that to only the most conservative investors.  I strongly believe that over the next 5-10 years you will do substantially better in stocks than in government bonds.  If you do need to have bonds, keep maturities short.


Friday, June 29, 2012

A "risk on" day as they are fond of quoting in the newspapers now.   This type of mentality is typical of hedge funds where the general thought is "what have you done for me lately?"  Most hedge funds have at most a quarter's worth of time leeway where they can lag behind their peers before clients become uneasy.

I am fortunate not to put that kind of pressure on myself and most investors should not either.  "You can't be smart every day" an wise boss of mine used to say and I try to think of that.  The important thing is to have a plan.  The last few down days I was buying a few core stocks because I still thought they were good values.  It hurt for a while because prices kept going down.

Today is a bit of a pay back.  However, it is important to consider if anything has really changed.  Germany has shown some softening in their approach so that is a bit new, but as Jim Rogers recently said, "You can't solve a high debt problem by adding more debt!"

I usually don't agree too much with him, but I am with him on this in the long term.  You can however, try to buy the market time to work it's way out of the mess.  This should be by combining reasonable tightness in fiscal policy with pro growth monetary policy.  Germany would have us just rip the band aid off immediately whereas Greece Spain and Italy want the mummy treatment.

Something in between would probably work best but we do need to give it time.  Constant reminders of "risk on" "risk off" and short term views won't lead us anywhere good.

Given that I don't really believe things have changed, I have taken the opportunity to trim back my CAT (losing) and GE (winning) positions as they had become rather large relative to other stocks.  I was trying to keep positions in the 1-2.5% range and CAT had grown to 4% and GE to 3% so I'll take the up day to trim a bit.  Overall though stocks are still about 46% of my portfolio.

Tuesday, June 26, 2012

Today I bought some JCP.  The stock has gotten pretty beaten up and is down near the lows of the last few years, and almost half off the highs.  I know perhaps JCP is an outdated model, but they have a good team in place and I think we could get a pop in the stock if the economy starts moving at some point.  So I would call it a pro-cyclical value play.

I also bought some more of my Muni ETF, MHN.  This is a spiced up way to earn NY muni income.  It is a bit leveraged which is why it yields 6% tax free.  I do not think the leverage will hurt however, unless short rates spike up.  I do not see that happening anytime soon.  Currently it is at parity with it's net asset value.  In the past I have preferred buying it at a discount of about 10% but over the last year or so it has been behaving much better and at times trades at a premium.  In fact if it gets to a premium of 5% I look to sell a bit.

I bought a little GOOG because it is a relatively cheap internet stock.  In addition, I bought soome BRCM which a friend recommended.  It was hit badly yesterday and really for no good reason.  It is trading near a local low and could be in for a nice up move if the market rallies.

This last I would put squarely in the spec camp.  The JCP is halfway between, wheras the MHN is a core holding of mine.

Monday, June 25, 2012

As a value investor, there is a central tension.  On the one hand, we want there to be stocks that the market undervalues and therefore provide an opportunity for us to purchase undervalued assets.  On the other, the fact that the market doesn't prize them that much means that we don't get the big increase in value in any given period.  It is only through the gradual increase in earnings and dividend payments that we accrue our gains.

Periods like this one test the value investor as there seems to be no respite from bad news and stock prices reflect this with continual downward movement.  We must ask ourselves, has the world changed? (it always does in some ways)  Are we just trying to catch a falling knife? (happens all the time when we fall in love with an idea and we are missing some piece of information)

An example of the latter is CAT (one of my favorites) which is undervalued by any measure, but given that a big piece of it's growth is derived from emerging markets, and those economies are currently at risk of slowing down, there is seemingly no bottom to the stock price!

The answer is to make sure it is appropriately sized in your portfolio and not to treat this like a trade.  If it goes lower, then hopefully you have some powder to add to the position and improve your cost average.

No great ideas from me these days.  Just that I think government bonds are overpriced and your are better off in cash, some municipals and floating rate corporate loans, and stocks.  28%, 21% and 45% are my current approximate weights in those buckets.



Thursday, June 21, 2012

Nothing new and exciting as I see it.  The Fed continued TWIST butI do not see this as a game changer.  If anything it reinforces the idea that we need to go further out on the curve (longer maturity bonds)  to get some return and the Fed will be there to back you up.  I think this is probably safe for the next few years.  I am looking to buy back some long term TIPS if we ever get any pull back in bond prices, but I am not too hopeful.  The biggest event that could cause a drop in bond prices (government bonds) would be some sort of positive development in Europe.  I can see that happening, but perhaps not until the late fall or into next year (vacations, and all that (yes, there was some sarcasm there)).

Stocks will wallow along.  Emerging market slowdowns will impact our stocks to the extent it means a slow down in global growth.  Any companies that have a large business outside the US will be impacted.  A few are in my portfolio and are very painful - CAT, ETN, PG.  These all rely on foreign revenues and have been chopped by 25%.  I think this is a bit overdone and still like the names but though it is the correct thing to do,  it is painful to keep adding to them.

VZ has been a real star as have been most telecoms.  I think there is a good long term story there and still like the stocks at these prices.  There is a chance for a pullback, but it is too difficult to be too cute timing the market.  Better to hold on for the ride.

JCP is interesting at these prices.  They have been beaten up badly but they have a reasonable team and a good brand.  This could be a good cyclical play, meaning they will do well when the economy improves.  If you think that is close, then consider buying some JCP as a speculative position (not core since no dividends).

Overall, I am still banking on dividends and eventual economic growth leading to higher stock prices/lower bond prices.




Thursday, June 14, 2012

Hi all,

A few days away from the market and...nothing is resolved.  That is par for the course as there are always open questions.  For myself, I started bailing on some of my speculative names AVP, TEF, AMZN only one of which (AMZN) did well.  I am not certain that the speculative names will lead us out of the morass.

I will look to buy the safer dividend names GE, CL, LO, KO, JNJ as well as the telecom sector VZ or T, 2 stocks which have done particularly well in this environment.  I have been struck recently with how much wireless we will be consuming in the future and these two players have the existing infrastructure to provide it.  Other will challenge, but they are there and are paying nice dividends to boot.

The banks are still iffy and I would keep any positions in the speculative bucket and keep it small.  I imagine that JPM Chase is/will be a good buy as they have been hammered by the risk management fracas.

On the bond side, my TIPS sale is now looking ok, but in my view there is significant more downside in bonds so I am holding off on any re-buying.  If the 30 year TIP gets back to the 1% level, I may have a look there. (currently around 0.5).

Also, MHN, one of my favorites, is a ETF that holds mostly New York muni's.  Watch the premium on this one as it is now around +4%.  This is historically high for this stock and we could see some pullback.  If I were inclined to trade it more, I would sell a piece and look to rebuy when the premium is at 0% or lower.

Finally, as I look over my portfolio I can break it down into two segments - ETF's and stocks.  Dollar wise they are not too far from each other, but from a volatility and yield point of view they are worlds apart.  My ETF portfolio yields over 8% (pre tax) and does not move much wheras my stocks have about a 2+% yield and have moved a lot with the overall market.  I do still believe stocks are cheap and I will be rewarded over time for holding them, but I do wonder if I should hold a bit less there and put more into my ETF portfolio which is mostly bond like but with juiced yields.  The components of the ETF side are HYG,JNK,PFF,MHN,VVR,BKLN.




Friday, June 1, 2012

Oops!  Sold the bonds too early.  Jobs numbers were terrible and rates are heading lower immediately.  I am not sure that lower rates are going to fix anything as the issue is more structural.  Whether it is regulatory uncertainty coming from our leadership or global uncertainty from Europe, investors are increasingly risk averse and just looking to take their ball and go home.  Government bonds are just the default investment and will benefit.

My choice currently is to maintain a high level of cash rather than government bonds.  My mix is 45% equity, 21% credit and the balance in cash.  The equity feels like an overweight position because I wake up every day losing money :(   but it is right on my benchmark.

Staying focused on value can be very trying.

A friend shared a joke with me:

Q:   What is the definition of a long term investor?
A:    A trader who is undewater

As all good jokes have elements of reality, this can be painfully true.


UPDATE:
I updated the performance page.  I underperformed the benchmark because I am underweight government bonds in the 5-10 yr range (45% of the benchmark).   From an equity perspective, the portfolio has outperformed the S&P which is my equity benchmark.  So overall, disappointing because it is never fun to lose money, but investing is rarely a straight-line prospect.






Thursday, May 31, 2012

Today, I sold the remainder of my TIPS position.  Real yields for the 30 yr have dipped below 0.5% which I find to be expensive.  That said, clearly we are in an environment where return expectations have to be ratcheted DOWN.  While US 10yr rates have dipped below 1.6%, it is not the lowest in the world as Japan has been at 1% for a long time and Germany is at 1.2%.  I can certainly see a scenario where US rates go lower.  As I mentioned a few days ago I was going to touch on scenario analysis and what it looks like.  This is an example where it can be helpful.

In the investment world (well, in everything, really) events are probabilistic.  What I mean by that is that to any activity, there is a probability that it happens or not.  The method consists of coming up with all the POSSIBLE outcomes and weighting these outcomes by the probability they occur.  So in this case, I try to come up with possibilities for interest rates and the results.

Scenario                                                Probability             10yr Rate outcome
Global growth increases                             10%                           +1%
Global growth resumes at lower rate          60%                            -0.10%
Global growth declines                               30%                            -0.50%

Expected outcome                                     100%                           -0.11%

Admittedly, the probabilities and outcomes are subjective and flawed but they provide a framework of thinking about the markets.

I look at these results and think, where are the risks to my predictions?  Maybe rates don't go too much lower even in a decline growth market.  Maybe rates go up further if we start getting some growth at some point?  I think this is a possibility and 10year rates can go up 2% or more and that would impact the overall outcome.  Given that I feel this is the case, I am looking to bail on my long term bonds temporarily and see how the balance of risks plays out in the near future.

My big concern right now (and the flip side opportunity)  is about the exodus from equity.  Allocations to equity by large institutions is going down and the public is disenchanted by equities.  The problem is that the more bonds we put in our allocations, then the higher the savings rate must go up and therefore consumption goes down.

So there is a negative feedback loop that impacts equities.  As much as I like them here, it will be important not to fall so much in love that you lose flexibility.  Keep some powder dry for opportunities.

Friday, May 25, 2012


Asset allocation study

A while back I had alluded to some retirement calculations where I estimated what kind of return was necessary to provide a good chance of maintaining a certain lifestyle (as measured by current expenditure as a percent of total assets) and not bleed your assets to levels that would be uncomfortable as you get older.  The numbers I had come up with were 2% return over inflation coupled with an expense rate of 1.6% would yield an excellent profile for retirement.  There are many other parameters and the full details I will disclose over time once I figure out a good way to present them.

So, that's all well and good if you can get 2% over inflation.  But, today, the long term TIPS are yielding 0.5% over inflation!  That's a far cry from 2%.  Of course, taking risk should yield higher real returns over time, but the difference is large enough that I figured I would run the numbers again.  Using a 0.5% real return, our expense rate would have to drop to 1% to have a similar profile for retirement.

The conclusion, as I have mentioned is that it is critical that we keep our costs to reasonable levels when we are trying to finance our retirement with an investment portfolio.  Costs tend to be certain whereas returns have volatility.  In addition, the first few years are crucial to the results.  If you started investing a few years back, and had a big amount in equity, you may be in a big hole right now and the only sure way to dig out is to work longer and control costs.

An excellent article that sums up my thoughts of what has been happening in the last few years.

http://www.cnbc.com/id/47559783

The key points are that bonds have gained favor due to their lower risk parameters in addition to a systemic (regulatory) appetite for bonds and away from equity from large investors.   The feeling that the equity game is rigged against the small investor does not help either.

That said, I still feel that for long term investors, equities provide uncommon value these days.  So long as you can bring yourself to believe that our (basically) capitalist system will survive, then stocks will provide superior returns over the next decade.  There will be volatility, so we need to position ourselves be "nimble" i.e. buying on dips and also being willing to sell a little bit if things get a bit too positive.  But, predominantly it is buying on sell offs.  Use your time to examine stocks where you like the business, there are barriers to entry, good and stable management teams, dividend payment discipline or at the very least an active investment in their and other businesses.

Once you have your list, you can watch them and be ready to invest when the opportunity arises.










Wednesday, May 23, 2012

Big turn around today.  Again, I think back to the concept of reading the tape and trying to listen to what the market is telling you.  It is showing resilience and that should not be discounted.

The gyrations are not for the squeamish and at this point, we have had some nice pullbacks in core stocks.  I am not messing around too much with speculative plays.  Yes, they can have some good rallies from here, but given that I am trying to build a long term portfolio, I find the speculative plays which I would not allocate much money to anyway to be a distraction.

I reduced my position in BBY on the good earnings announcement yesterday and am looking at TEF and wondering why on earth I am in that stock.  It is a pure cyclical play on latin american growth and is probably a black hole.  That said, I think there will be a good opportunity to bet on Latin America or other developing areas, but it should be done in a diversified manner, for example an ETF for Brazil.

Germany 30yr bonds trading below 2% yields is an interesting development.  Ours are in the 2.8% area and in my view look like there is not much upside (lower yields) but looking at Germany gives me pause. If we go into a complete capitulation of taking risk (non zero probability) then we could see US rates even lower!

I try to think about markets in scenarios and then attach probabilities to each scenario.  In that way I can come up with my own expected value of outcomes in the near future.

More on this tomorrow.

Monday, May 21, 2012

A virtuous day, apparently.  All is well in the world as long as China supports growth.

We have been on a very negative track and as I posted on my last entry, it was starting to look a little less interesting for bond buyers which would ultimately prove to be good for stocks.  I do not know if today is the start of that turnaround, but at the minimum it is a breather from the relentless selling of the last few days.

I sold out of at least one of my specs -BAC- trying to make sure I heed my own advice of not holding on to bad ideas too long.  I fall prey to it like many people and it is a struggle.  It is one reason why many people trade with stops.  I am not the biggest fan of stops because in my career, stops gave too much information to my broker counterparties.  Of course, I should not have nearly the same misgivings when trading at the individual level, but I guess I am an old dog these days.

I still retain my speculative positions in AVP and BBY and TEF.  All out of favor positions which I should be out of for all purposes, but I am not.  I have them on the short leash as I had mentioned and can pull out in disgust any time.  Today would probably be a good day (up days are great to sell into) but hope springs eternal!

My core positions are doing ok except for CAT which has been blasted, but I trust that China speaking about growth would help the industrials.  I think it is a good long term buy.

My bond trading has been better than my stock picking.  Today I sold out of my 7 year TIPS bonds.  With real yields at -1% or so, I just don't see much upside.  Instead I will be looking to add to my 2040 TIPS on a pullback.  Currently they are trading at 0.5% real yield.  No great shakes, but still positive.

Muni's have done well.  MHN has been a good position that I have added to.  I think NY will be in good position overall in terms of municipal financing.  No place is perfect, but NY has a lot of support and this fund yields over 6% tax free.

I also like Bank loans and I recently added to VVR which is like a high yield bond bet, but with senior securities which have floating rates.  So if we get some growth surprise (hope springs eternal...) these notes should do well.

 

Friday, May 18, 2012

Aside from temporarily hating all stocks, I see is one small silver lining.  Stocks are down and yet, bonds (in particular the 10yr) are down!  This is potentially huge.  I blogged yesterday about watching when the market does not do the expected and this classifies in that heading.  Bonds and Stocks have less than a -70% correlation.  If we see that breaking down, that could signal that the "flight to safety" that it represents is breaking down a bit.  At some level of stock valuation, the market will not want to hold bonds.  Of course it could also mean the decline of the US led world - but, I do not think that is the case :)

Just a data point, but let's keep an eye on it.


Thursday, May 17, 2012

High yield bonds taking a bit of a beating as are high grade corporates.  I think this is part of the aftermath of JP Morgan attempting to get out of the trade.  This may continue for a while.  I had recently reduced my exposure to corporates arguing that the expected return was not high enough.  At least that was a good call (wiping my brow).  The stocks I have purchased have not been so kind.  But, I will hold to my thesis that stocks offer better value over the long term.  If we see a pull back to where high yield bonds are offering 7-8% over treasuries, probably about  a 15% price correction in HYG, then I would change my mind.


Full, but orderly retreat from stocks.  No real places to hide except for long term government bonds and commodities.  I am not a big buyer of the commodity story as Gold doesn't really do anything for me.  I missed that boat early on and, just like 10 year govt bonds, it does not feel like it holds much value up here.

Buffett was recently said to have been cheering the market lower so he could buy his stocks more cheaply - picture me with an expressionless face here.  It never feels good to lose money, but I guess the point is that as long as you are not forced to sell then you don't have to book a loss.  Enter here a random diatribe  against leverage.  Don't borrow to get long stocks and you would avoid the majority of problems that investors (including professional ones) get into.

CAT is one stock that is not only going down but is underperforming the market as well.  I believe this to be happening because there is a global slowdown thesis being played out in the market.  This will probably continue until we get some evidence to the contrary.

Probably one of the simplest and most underrated indicators of market performance is how the market absorbs news.  If you have been in the market for any amount of time, you have borne witness to the odd phenomena when good news is met with a bad stock price movement and vice versa.  These are important signals.  It has been my experience that turning points come when bad news no longer hits stocks and the converse is true when good news fails to give stocks a further boost.  I'd say right now we are in a neutral to negative environment as the messages are mixed and the stocks keep going down.  When we get a bad piece of news and stocks stop reacting, then it will be time to build up some more stock longs.  Right now, unless you are very underinvested, then stay on the sidelines.


Wednesday, May 16, 2012

A great piece of news with housing starts surprising on the upside.  For better or worse, the housing market is the 800 pound gorilla in the US market.  Any good news in that area will immediately lift spirits and help cyclical companies in particular.

I added a little bit to some of my weaker core equity names, KO, GE and even added a bit to my speculative position in BAC.  In addition, I am looking to add to my NY Muni fund- MHN.  I think this is a great long term holding for those in the NY area.  No state or federal taxes and it yielding over 6%.  It is NOT risk free, however.  Aside from the NY risk (heavily dependent on the financial industry) the fund borrows in the short term to buy long term securities to the tune of 40% of the portfolio.  This juices up the yield, but introduces the risk that if short term interest rates rise, then borrowing costs go up and the fund will not be able to provide extra yield and may lose money liquidating securities to repay the borrowing.

I still like the name because I do not think short term interest rates are going anywhere for years and in case I am wrong, I have bought options that will hedge this risk a bit (these are options on Eurodollar futures and if anyone is truly interested in this, send me a comment and I will elaborate).


Tuesday, May 15, 2012

AVP and other stuff

Well Cody is taking the high road insisting that the deadline was firm and pulled their bid for the company.  Lumps taken.  From here, I have the stock on a very tight leash.  My expected downside was lower than the 18.5 price right now, so I will probably sell if it breaks 18 but I will try to hold onto it as I do not believe the deal to be truly dead.  Time will tell.

More talk on the tape about the low growth scenario I have been mentioning in this blog.  We will be in a low rate environment for a long time and an investment portfolio should have stock exposure in companies that will pay some dividends.

For my own portfolio I now have about 46% in stocks of which 7% I would consider speculative (not dividend type stocks).  I am putting all those 7% on a short leash (AVP is one of them).

The risk of inflation down the road is present and T.I.P.S will help in planning for that eventuality.  But don't load the boat on them as 1) the real yields are quite low and 2) the feds decide what constitutes the CPI and can change their mind mid-stream.



Monday, May 14, 2012

AVP

Feeling a bit better about the prospects of a successful buyout of Avon Products.  The stock is up to 21.15 which is still a significant discount to the current bid of 24.75.  There is also a chance another bidder emerges.  Downside is limited here, I think, but it is still a speculative bet and should only occupy a small piece of the portfolio.

Stocks in general feel pretty ugly.  JP Morgan's disclosure should come as no surprise that big bets are still being taken.  What could be new information is that Dimon was an influential voice for deregulation which has now been impugned.  Further evidence that bank valuations are unclear and on a downward path.

Europe is not helping matters, but they are not alone.  There is an overall feeling that developed nations are on an unsustainable spending path and that debt loads are too high.  Restructuring is painful and necessary.  Companies have been dealing with efficiency far longer than the government has and are much better at it.  There will be volatility, but try to take advantage of it by buying companies you believe in when prices dip.

Where the rubber meets the pavement is interest rates.  Companies need a liquid fixed income market to operate smoothly.  That can only happen when the government financing operations are smooth as well.  This is the big risk (the "black swan" in current parlance) to my scenario.  If governments become unstable and in turn their fixed income markets untradeable, then companies will have issues.

I must say I am nervous.  However, I still place a low enough probability on that type of event that it makes sense to buy on dips.  As always we are susceptible to some larger negative event - which by definition is unforseeable and therefore unavoidable except by being out of the markets completely.

For what it's worth, options markets are not going crazy over these moves and do not indicate an over-elevated level of risk.




Thursday, May 10, 2012

Speculative Bet

Just as an FYI, I think AVP is a reasonable bet here.  There is a hostile bid at 24.75 with reasonable backing.  AVP is going through a restructuring to increase shareholder value.  Cody really wants Avon and with the proper backing can still go up in price.  My guess is they could go up to the 27 range.  Given that AVP was trading at below 17 a few weeks ago, this is a spec for sure, but I think there are some tailwinds in your favor.

With hostile bids in merger arb, it makes sense to put a little money out there (key word small) and see how things develop. We will see some action in the next few days.
Simplify, simplify.

Portfolios evolve over time.  You buy a little of this and sell a little of that and if you are not careful, you end up with a portfolio that perhaps does not look like what you set out to create.

In my case, I have fallen too much in love with the idea of shorting the 10yr treasuries.  I stand firm with my idea that government bond yields are too low to be interesting investments, BUT, that is different from saying they are going to go up any time soon.  I am a firm believer that we are in a slow growth environment for a long time to come.  The Fed has told us they will be keeping rates low for the foreseeable future (2014 is well beyond my foresight, anyway).  We have high unemployment and overcapacity in the manufacturing sector.  It will take time for our workforce to "retrain" into the high tech sector that the U.S. will thrive in later on down the road.  I have no doubt the U.S. will get there.  Other countries are making outstanding improvements, but ultimately, this is still the country that provides the safest and best opportunity for bright people.

In the meantime, there is no evidence to suggest that rates are going to go up anytime soon.  QEx is NOT dead.  The Fed will continue to prime the pump on weak news.  In addition,  the turmoil in Europe will cause shocks that will push our bonds higher.

So, I maintain that while in the long run I see bond yields going up, I do not see them going up in the next 6-12 months, so I am reducing my short position in the 10 year area.

That said, I do believe that rates are too low to compensate for risk.  Government bonds will have a place in a portfolio as a method to reduce portfolio risk and for that purpose I have long term T.I.P.S.  (All the pump priming will eventually lead to some inflation so everyone needs some protection. Stocks will provide some protection as well).  But, aside from T.I.P.S, I can't see owning 10year bonds at 1.9% being a great investment.  Nor do I see corporate bonds at 4% as a great buy when you can build a high quality dividend paying stock portfolio yielding over 3%.  I think high yield bonds can be another story and do provide some protection if rates go higher, so I will keep my (smallish) position in them.

Selling the high grade corporate bonds(LQD and CSJ) will raise cash that I can use to purchase stocks on dips.






Tuesday, May 8, 2012

There are always persuasive stories for any viewpoint in the market.  Hence why the networks can always trot out a talking head for both a pro and con for any given situation.  While I think it is important not to be a polly ana and believe everything is ok, it is equally important not to try to invest for the end of the world.  The reality is if there is financial armageddon, there will be no safe place to hide as it would likely even be difficult to withdraw from the financial system.

Given that, it is key to not get too carried away with negative views and consider that most likely, the sun will rise tomorrow and if it doesn't then what difference did it make that you were all in cash!

With this perspective in mind, let's review the current situation:

Global growth is slow so that will impact future earnings, ok, but we are still growing overall.

There is too much debt, perhaps, but the market tends to adjust for this by demanding a higher return when the risk of non-repayment is higher.

I'd say the most interesting risk is the relationship between stocks and bonds.  It is certainly true that if rates go up, then stocks will be less valuable because the discounted value of future cash flows (i.e. the theoretical stock price) will be lower.  However, rates will only go up for three reasons:

Higher growth  - win for stocks
Higher inflation - generally a win for stocks over time as they ultimately have some pricing power
Higher assessment of required risk premium (i.e. higher real return) - no real winner here as bonds and stocks both go down.

As always, I would recommend not making any rash moves - always be incremental with your core portfolio.  If you want to make speculative bets, that is fine.  Just make sure speculation is kept to lower dollar amounts and try to decide ahead of time what your risk tolerance is.

I know a weakness of mine is to let losers run on too long.  It is easy to fall into this trap since if you loved a stock at 20, you REALLY love it at 15, right?  Well, perhaps, but remember that the market can stay irrational longer that you can stay solvent. So try to keep that activity to a minimum.  But if you find a company you can believe in and treats its investors well, then try to stick with it and build a position over time on weakness.




Monday, May 7, 2012

Hi all,

I posted results for my portfolio for  April.  The month started out on a downward path and recovered at the end to finish in positive territory.  My negative view on government bonds (specifically in the 10 year maturity) has been a bad mark on my portfolio.  Over the course of the month, I increased my stock bets taking advantage of some pullbacks to add to quality dividend payers.

My stock exposure is 40.5% which is a lot closer to my benchmark of 45%.  I will be looking to get a bit above the benchmark on pullbacks.  My credit exposure is about 31.7% but my overall bond bet is only 4% because I have sold government bonds in the 10 year maturity.

This weekend's election results in Greece and France while worrisome for fiscal conservatives will ultimately be good for equities and, someday, bad for government bonds.  US bonds will benefit short term from investors seeking a safe haven.  There is a higher chance now that the euro fails in the future, than there was last week.

I have believed that we are in a slow growth period and will be for some time.  While, I still believe US government bonds are not a good investment, I am moderating a bit on whether I should have such a large negative bet against them.  I may look to moderate that in the coming month.

In addition, I think we will get opportunities to buy equities cheaply.  Keep your eye on the prize.  The prize here is building a portfolio of good companies to be held for the long term.  You can always allocate a small part of your portfolio to speculation to keep you interested, but keep your core portfolio in mind.

I am no stock picker, but some of my favorites are:

CAT
CLX
KO
PG
LO
XOM
MRK
GE
ETN

On the speculative side, I like AMZN because they are so disruptive of the retail model.




Wednesday, April 11, 2012

What stocks do I recommend?

Following are the components of my portfolio:

Bond ETF's in order of maturity

BKLN/VVR  floating rate corporate debt
CSJ       Short maturity investment grade corporate bond
LQD     Long maturity investment grade corporate bond
HYG/JNK  mid to long maturity high yield (meaning "junk") bond
MHN    Long maturity NY muni bond

Stock ETF
PFF       Preferred stock portfolio (heavily weighted to financial companies)
SPY      S&P 500 Index fund

ETF's are exchange traded funds.  In their best usage, they can be cost efficient ways to get exposure to a diversified portfolio of assets.  For example, MHN is a mainly NY based muni bond fund that buys longer maturity bonds and boosts it's yield buy borrowing money in the short (1 week) duration and buying even more longer term bonds.  The net effect is it yields over 6% tax free in NY State, which to my thinking is an excellent return.  Aside from municipal default, the risk is that short term rates go up dramatically and the fund can no longer borrow at attractive rates.  Given that I think we are in a protracted neutral market environment, I believe this risk to be low.  The ETF structure is very helpful here because I can buy any odd amount of municipal exposure and it will be a diversified portfolio.  I'm willing to pay a fee for the convenience and diversification.  The alternative of finding individual bonds  and expense of buying "odd-lots" or small pieces of bonds would be higher than the fee I am paying to manage the portfolio.

FEES ARE THE ENEMY 
Some ETF's can be costly in terms of the management fee - one should do their homework in determining what the fee is.  It can be found in the "prospectus" or in any of the financial websites like Yahoo or my favorite www.Bloomberg.com  As a rule of thumb, I look for fees less than 0.5%.  If I pay more than that, I would be looking for particular savings elsewhere.  The MHN ETF is in that camp.  Remember that we are looking for somewhere around 2% over inflation.  If I pay 1% in fees that makes the hurdle even higher!

The SPY is an attractive way to buy market exposure because they charge less than 0.1% to manage the portfolio.

BEWARE LEVERAGE
All of the above securities pass my test for value in providing exposure.   But there are many ETF's which are very risky.  Highly leveraged ETF's are really short term trading vehicles because the cost of maintaining the leverage will erode value over time.  Don't fall for these instruments as a long term investor.  Some others charge high fees but don't really actively manage the portfolio.  If you are paying 1% management fee, there should be some reasonable activity and outperformance versus their stated benchmark (rare).

BEWARE HIGH YIELDS
Yields can be high for a variety of reasons.  Usually if something seems too good to be true, it is.  There is risk involved.  Leverage (borrowing) is one obvious one, less obvious is the risk that the dividend it about to be cut because the underlying portfolio does not support the payout.  It pays to investigate.

BEWARE TRADING COSTS
Always review the daily trading volume (not jus the average) to see how much is trading.  Ideally you want to see volume every day and a good amount each day.  Another reflection of poor trading volume is what is called the bid/ask spread.  This is the difference between the "bid" price- the price you can sell a given amount of shares immediately and the "offer or ask" price which is the price at which you can buy shares immediately.  Check out in percentage terms what the spread is an make sure you are comfortable. A high spread menas that it will be costly to get out of your position if you change your mind or you need liquidity.