Wednesday, October 3, 2012

A Long Term Bleak Outlook from Bill Gross/PCS/Bought 50 TDIV at $19.94-ROTH IRA/Sold 200 FOFI at $7.73

In a report released on 10/1/12, the Tax Policy Center estimates that taxes will rise an estimated $500 billion in 2013 by jumping off the fiscal cliff. Middle class households would see an average tax increase of $2,000.  A lot of that increase would be due to the expiration of the temporary cut in social security taxes. The well off would be hit particularly hard with the increase in marginal tax rates and higher tax rates on both dividends and long term capital gains; plus new taxes that were included in Obamacare (page 7 of report). For households in the top 1%, the average tax increase would be more than $120,000.

A recent report from the Congressional Research Service found that 2,400 American households, with annual incomes exceeding 1 million dollars, received unemployment insurance in 2009.

NBC reported that a woman who won $1 million in a state lottery continued to collect welfare benefits.

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In his latest investment outlook, Bill Gross opined that stocks and bonds would be big losers unless the U.S. government addresses its massive debt and deficits. PIMCO (bonds "burned to a crisp" and stocks "singed" ) He is not arguing that financial Armageddon is around the corner or imminent. When and if the fiscal train wreck happens, Gross believes that gold and hard assets will be the only investments that would thrive. While he calls the government's addiction to debt and deficits as "budgetary crystal meth", the ultimate culprits are the American people, who demand huge expenditures on a variety of programs, support expensive and prolonged wars (Iraq and Vietnam), and who refuse to come anywhere close to taxing themselves to pay for those expenditures.

In my opinion, the fiscal train wreck is inevitable, particularly given the level of political dysfunction. It is only a question of when. The "when" question can be answered with more specificity when the interest costs for refinancing the government's debt start to rise precipitously and that will happen.  In the current abnormally low interest rate environment, the government paid over $454 billion in interest during the fiscal year ending in September 2011. Government - Interest Expense on the Debt Outstanding In a few years, it would not be unreasonable to predict a number exceeding one trillion dollars per year, particularly when the Fed ends its bond buying binges and allows interest rates to find their market levels.

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MetroPCS Communications (PCS) surged over 17% last Tuesday based on a statement by Deutsche Telekom AG that it was in talks to acquire PCS. SEC Filed Press Release from PCS While there is not assurance that an agreement could be reached, the idea is to combine the wireless businesses of T-Mobile USA (DT's US operation) and PCS to create a more potent competitor in the US. I own one PCS senior unsecured bond, maturing in 2018. That bond is currently rated B2 by Moody's and B by S & P. I would anticipate a ratings upgrade in the event T-Mobile acquires PCS. Deutsche Telecom bonds are rated investment grade, Deutsche Telekom: Ratings I have not looked into whether or not T-Mobile has a separate bond rating. DT's ADR's are traded on the pink sheet exchange: DTEGY Deutsche Telekom AG

If I could sell my one PCS at 110 or higher, I would do so, but I have not seen any bidders willing to accept a single bond. Bought 1 MetroPCS 7.875% Senior Bond Maturing 9/1/2018 at 98 (August 2011 Post).

1. Bought 50 TDIV at $19.94 Last Monday-ROTH IRA (See Disclaimer): The OG is likely to do something, frequently without a great deal of thought, after seeing the monthly dividend paid by a money market fund. The LB, who has been relegated to a research assistant after the formation of the Stable Vix Pattern, has identified large cap technology stocks as an undervalued sector on a relative basis.

TDIV is the symbol for the new stock ETF First Trust NASDAQ Technology Dividend Index Fund. This fund will weight its holdings 80% in technology and 20% in telecommunications. While there are several criteria for inclusion in the index, the more important ones are a minimum market capitalization of $500M, the payment of a dividend within the past 12 months and a dividend yield of at least .5%. First Trust NASDAQ Technology Dividend Index Fund (TDIV). Apple will be included in the index next year since Apple paid its first dividend in August 2012. Apple - Press Info - Apple Announces Plans to Initiate Dividend and Share Repurchase ProgramApple - Press Info - Apple Reports Third Quarter Results

The expense ratio is .5%.

The first quarterly distribution was made in September. The dividend was just .$.0366 Dividend History However, the fund was not in operation for the entire three months. As of 8/31/12, the fund reported that the index yield was 3.11%. If TDIV tracked the index exactly, its annual yield would be approximately 3.11% minus the expense ratio of .5% or 2.61%. The yield will vary based on a number of other inputs including the price paid for the shares, changes in the index and dividend increases/decreases by the companies included in the index. Several large cap technology companies have started to increase their dividends in significant percentage amounts, including the recent 75% hike by Cisco.  

Holdings

The sponsor's website states that the average P/E ratio for the fund's holdings was 12.68 as of 8/31/12.  If an investor adjusts the price down by the net cash per share on the balance sheet, the P/E ratio would decline significantly for many of these companies due to the high net cash levels.

Yesterday's Close: TDIV: 19.73 -0.04 (-0.20%)

2. Sold 200 FOFI at $7.73 Last Monday (see Disclaimer): This ends my second round trip in FOFI during 2012. I bought the 200 shares, sold last Monday, at $7.02. Item # 8 Bought Back 200 FOFI at $7.02 (7/31/12 Post). The other trade was also after a brief holding period and also involved a 200 share lot:

2012 FOFI Two 200 Share Lots +$218.12
The discount to net asset value was -22.1 as of 9/28/12. This fund provides NAV information only on a weekly basis. This fund has been selling at a large discount, with the average three year discount computed by Morningstar at 21.2%. The persistence of such a high discount may be due to a number of  factors. I suspect that the main reasons are as follows.

First, the fund has not paid a dividend since 2008. Many individual investors will gravitate only to income producing CEFs and will even pay a hefty premium for monthly dividends even when those dividends are supported by a destructive return of capital. It is not surprising, for example, to see GUT continue to sell at a substantial and unjustifiable premium to its net asset value (currently over 41%), while FOFI sells at a substantial discount to its net asset value per share with no dividend support. GUT has significantly supported its dividend with a destructive return of capital. {The 2011 return of capital information for GUT can be found at GUT.pdf. In 2011, that fund paid out 60 cents in dividends, of which $.4152 was a return of capital. In 2010, that fund paid out 72 cents and $.64212 of that amount was classified as a return of capital}  I do not view GUT's share price as remotely rational. But GUT's pricing does say a great deal about individual investors in the CEF space, including their unwillingness to buy a fund with no or negligible dividends even when selling at a substantial discount to net asset value per share.

Second, FOFI has significant positions in hedge funds. FOFI's decision to invest in hedge funds led to its delisting and subsequent trading on the pink sheets. The use of hedge funds also adds an important layer of expenses on top of the FOFI fees.

Nonetheless, I will look for a re-entry point when the discount to net asset value exceeds 25%.

Yesterday's Close: FOFI: 7.73 +0.03 (+0.39%) 

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