Big Picture Synopsis:
Stocks:
Stable Vix Pattern (Bullish)
Bonds:
Short to Long Term: Slightly Bearish (Based on Interest Rate Normalization)
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The Long and Difficult Road to Adequate Retirement Savings:
I started writing this blog back in October 2008 to help investors with less experience become better investors and to at least highlight ways to cut down on investment errors.************
The Long and Difficult Road to Adequate Retirement Savings:
For most people, that is the only hope for independent and comfortable living during their Golden Years.
Most folks are not going to inherit a few billion or so from Daddy, like Charles and David Koch, and will not earn and/or save enough for a variety of reasons, including expenditures on children, to make a continuous series of bad investment decisions. Charles Koch is running an ad claiming that a family earning over $34,000 are part of the wealthiest 1%, YouTube. He views laws like the minimum wage as creating a culture of dependency. Wichita Eagle
And, no matter how hard one tries, there will always be error creep causing a variety of mistakes. Stocks, Bonds & Politics: ERROR CREEP and the INVESTING PROCESS
The optimal result is just to cut down on their number by following the investment process that requires research and judgment as well as a focus on the Big Picture (the forest rather than just each individuals blade of grass, tree and shrub). Stocks, Bonds & Politics: The Big Picture Questions (and posts cited therein including The Roller Coaster Ride of the Long Term Secular Bear Market)
Regarding college tuition for a child now, I would note the tuition at Tulane, where I received a B.A. in 1973, was $46,230 last year, plus another $15,000 or so in incidentals according to that university. Tulane Admission: Tuition & Fees Is the tuition going up or down for the next year I wonder?
When I started in 1969 (OG's Qualifications and Lack of Qualifications), the Tulane tuition was $2,200, roughly worth $13,964 in today's dollars adjusted for inflation only since 1969. Inflation Calculator: Bureau of Labor Statistics
Tuition has gone up almost 4 times the rate of inflation!
Why is that relevant to retirement? Kids cost money. I know of numerous examples of parents having to dip into their retirement savings to pay for college. At a minimum, all of the costs associated with children will slow down the savings rate for retirement, and that is one of those situational risks that I frequently discuss in this blog that can disrupt the best laid investment plans.
If a couple retired in 2012, both at 65, how much would they incur in medical costs, assuming an average life expectancy and a continuation of traditional medicare which is far from guaranteed?
The good news is that the 2012 estimate made by Fidelity was $240,000. The Increasing Cost of Healthcare Upon Retirement
The bad news is that medical costs, like college tuition, are rising far more rapidly than inflation. A couple who are 45 or 50 now will need a lot more.
The rise in Fidelity's 2012 estimate was really good at only 4% compared to the prior years. That was also good news comparatively speaking. I know that it does not sound like good news when inflation was up slightly more than 2.1% in 2012. Consumer Price Index, 1913- | The Federal Reserve Bank of Minneapolis
And what happens under the GOP voucher's program, better or worse? (see figure 1 at page 3 of the Kaiser Foundation study: kaiserfamilyfoundation.files.wordpress.com/2013/01/8179.pdf)
As noted in another Kaiser publication, increases in medical costs and insurance premiums have steadily outpaced inflation and the growth of wages. (see graph and text at page 18 kaiserfamilyfoundation..pdf; "whereas premium increases have been between 3 and 13% per year since 2000, inflation and changes in worker's earnings are typically in the 2 to 4%") I had one year recently when my health insurance premium went up over 20% and I have not spent a second in a hospital as a patient and have no medical problems.
So are you ready? Is the FDIC insured savings account risky, not in terms of receiving your money back, but in generating the necessary capital to deal with the information in the chart below and those expenses rising much faster than CPI, such as health insurance and medical cost?
It is not like those expenses can not be rationally avoided unless an elderly person, possibly suffering from dementia, believes that it is prudent to roll the dice on staying healthy at a time when the body is breaking down in innumerable ways.
Consumer Price Index for All Urban Consumers: All Items- St. Louis Fed
Each investor needs to find their own way.
For me, my basic approach is to focus on income generation and to use that cash flow to buy more income generating securities, creating a compounding effect over time. A corollary is that I can not spend the money being used to build that nest egg.
I also realize that successful asset allocation is a key component to wealth generation, more important than individual security selection most of the time. Sure, I could have made a few correct decisions over the years and solved all conceivable financial issues. I could have bought 100 shares of Berkshire Hathaway at $16 back in 1974, which RB wanted to do, but LB was worried about losing money. And, as LB correctly noted at the time, $1,600 in cash was close to be the entire stash at the time. Yes, I ended up losing money by failing to buy that 100 shares, over $17M and counting in foregone appreciation.
Part of my dynamic and tactical asset allocation method involves identifying whether a major asset class is in a long term secular bull or bear market. Nothing is gained by a buy and hold stock strategy when stocks are in a long term secular bear market that could last anywhere from 10 to 20 years. A bond bear market can last far longer, with the last one starting around 1950 and ending in 1982. (note the movement up in yield between 1950 and 1982: CHART: The 10-Year US Treasury Note Yield Since 1790)
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Recent Economic Reports:
The Federal Housing Finance Agency reported that Freddie and Fannie completed 463,000 refinancings in April. Of that amount, 107,000 loans were refinanced under the HARP program. hfa.gov/Apr13RefiReport.pdf With the rise in mortgage rates starting in May, it would not be surprising to see a slowdown in refinancing activity. I would not be surprised to see more mortgage applications for new homes as buyers, who have been sitting on the sidelines, realize that they have waited too long.
The May Mortgage Monitor report from Lender Processing Service, summarized in the Calculated Risk blog, noted the largest Y-O-Y decline in the national mortgage delinquency rate since 2002. Further, and more important, the number of underwater loans shrank to 7.3 million, a nearly 50% Y-O-Y decline. (see report at lpsvcs.com/ MortgageMonitor/ May2013.pdf).
As noted in a Bloomberg article published late last year, the rise in home prices has allowed millions of formerly underwater homeowners to refinance. The rise in home prices needs to be evaluated in that context.
When the current refinancing wave winds down, with several million homeowners still regrettably under water due primarily to buying near the housing bubble's top, there will be tens of millions who have refinanced their largest debt obligation for 15, 20 and 30 years at abnormally low interest rates. That fact will decrease significantly their debt service obligations and consequently increase the amount of disposable income which can be spent without incurring additional debt.
I frequently refer to the debt service savings per month as similar to those $300/$600 government stimulus checks handed out once, except the monthly interest savings is stimulus reoccurring every month and actually benefits the government with reduced deductions for mortgage interest.
The concrete manifestation of this ongoing increase in disposable income, caused by decreases in debt service obligations, is captured in this chart from the ST. Louis Fed:
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| DSR Ratio |
The DSR and FOR ratios are calculated by the Federal Reserve: Household Debt Service and Financial Obligations Ratios
It is best not to over think these obvious long term secular forces.
The IMF cuts its 2013 and 2014 global growth outlook by .2%. The new forecast estimates 3.1% growth in 2013 and 3.8% in 2014. MF Survey : Emerging Market Slowdown Adds to Global Economy PainsWSJ.com
China reported that exports declined 3.1% in June Y-O-Y, compared to a consensus forecast of 4% growth. Imports fell .7% Y-O-Y vs. the forecast of +8%. As noted in an WSJ article, China's export competitiveness is being hurt by rising wage growth and appreciation in the Yuan. Wages have increased 71% since 2008 and the Yuan has appreciated 25.9% in trade weighted terms. Weakness in Europe is also a contributing factor. Reuters
I have read reports that China has been allegedly attempting to crack down on false invoicing that had been contributing to erroneous data. Another issue is how much of the GDP growth over the past few years has been connected with the massive building of ghost cities. I would certainly adjust the GDP numbers down by the contributions made from that kind of construction. Irrespective of the accuracy of the current numbers, China is slowing down and may be in for a hard landing unless growth in the developed world, including Europe, picks up soon.
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Fed Minutes and BB's Comments Afterwards:
The FED released on Tuesday the minutes for its June18-19, 2013 meeting: FRB: FOMC Minutes, June 18-19, 2013 It was after that meeting that BB gave his news conference.
Some news reports referred to the Fed minutes as "dovish", I did not see it that way as explained below.
However, BB certainly sounded dovish, more dovish than the statements made in the minutes, during the question and answer session after a speech given last Wednesday, a couple of hours after the minutes were released to the public. Randall Forsyth believes that BB made it clear that no tapering was likely to happen soon. Barrons.com That may be a misinterpretation of BB's statement. BB stated that the economy will need "highly accommodative" monetary policy "for the foreseeable future". Bernanke: "Highly accommodative monetary policy for the foreseeable future" This could easily mean that BB is again just drawing a distinction between the continuation of ZIRP far longer than the asset purchases. The market apparently agreed with the Forsyth interpretation as demonstrated by the bond market rally last Thursday but possibly there was some backtracking in that liberal interpretation last Friday as some bond categories suffered minor losses.
Last Friday's Closes:
TLT: $107.72 -0.09 (-0.08%) : iShares 20+ Year Treasury Bond ETF
LQD: $113.87 -0.32 (-0.28%) : iShares Investment Grade Bond ETF
IEF: $101.85 -0.08 (-0.08%) : iShares 7-10 Year Treasury Bond ETF
LWC: $37.49 -0.03 (-0.08%) : SPDR Barclays Long Term Corporate Bond ETF
One analyst, an economist from BAC, argued that the Fed minutes overstated the "real" level of support for ending QE, based on the belief that some votes were more important than others. WSJ And, there is some mushy justification for that opinion, at least at the present time.
The minutes will refer to those casting votes as "members". There is a phrase in the minutes that "many members indicated that further improvement in the outlook for the labor market would be required before it would be appropriate to slow the pace of asset purchases . . ."
There are 12 committee members. So "many" may refer to a majority of current voting members or possibly something short of a majority. Does "many" mean more than 6 or 5, or maybe 4. That is what I mean by mushy and deliberately so.
There are also 5 "alternate members" currently. Then there are 3 Federal Reserve governors who are neither voting members or alternated members. Altogether, there are 19 "participants" who are senior FED officials. The minutes identifies those participants.
We now know that almost half of the 19 participants believe that conditions will likely warrant the end of QE this year!
The minutes actually reveal that "several members judged that a reduction in asset purchases would likely be soon warranted". Bernanke did not give any hint in his news conference after this meeting that there was such a large block favoring tapering "soon". And, there was certainly no prior indication that "about half" of the 19 person policy making group indicated that it would likely be "appropriate to end asset purchases late this year".
The use of words like "several" and "many", or the phrase "about half", creates uncertainty. Does "many" mean something more or less, or about the same as "several". It is only clear to me that a significant number of FED officials want to end QE sooner than the Bernanke, Dudley and Yellen faction who are trying to keep the asset purchases going until they are very confident about the recovery's footing.
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Regional Bank Basket:
As a result of the significant run up in regional bank stocks, I have started to pare the basket, selling several positions. I simply believe that prices have move too far, too fast, and better opportunities for re-postioning will be afforded later in the year. I will discuss several trades made this past week in the next post, and will only discuss the BHLB disposition here.
I sold four more positions in addition to BHLB discussed below.
I would add this caveat about my trading abilities or lack thereof.
I am generally better on entry rather than on exit points. Unfortunately, the statement made about exit points includes both selling stocks that continued to go up in price and failing to take profits before a stock declined well below my purchase price.
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AT & T Acquiring Leap Wireless:
After the bell on Friday, AT & T announced that it will acquire Leap Wireless (LEAP). AT & T will retain the Cricket brand name.
I own 1 Leap Wireless junk bond. Bought 1 Cricket Communications 7.75% Senior Note Maturing on 10/15/2020 at $96.5 That bond is currently rated Caa1 by Moody's and CCC+ by S & P according to FINRA. That bond closed at 101 last Friday, but had been trading at 94-97 before the announcement.
AT & T senior bonds have an investment grade rating of A3 by Moody's and A- by S & P. FINRA
This event will cause my 2020 bond to rise in price. If the merger is consummated, I would expect AT & T to redeem the bond soon after 10/15/2015 at 103.975 plus accrued interest. A redemption is possible before that time under a modified make whole provision that requires the payment of the "applicable premium" as defined in the prospectus:
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| Optional Redemption |
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| "Applicable Premium" Definition |
Prospectus 2020 Bond
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Central Securities (own):
After the close on Friday, Central Securities (CET) announced that it was selling 35,000 of its 69,660 shares of The Plymouth Rock Company common stock back to the company for $92,750,000. The sale is expected to be completed on or before 8/30/13. Plymouth Rock is a privately owned company and is CET's largest single holding. After completing this transaction, CET will still have a 27% ownership interest.
I own just 50 shares bought last November: Item # 5 Bought 50 CET at $19.04 CET's position in Plymouth Rock was acquired in 1982, and the existing position was shown to have a total cost basis of just $2.2M SEC Filed Shareholder Report for the Period Ending 12/31/12
I noted in the post discussing the purchase that one disadvantage would be the disposition of this stake at a large profit that would be fine for a purchaser long ago, a home run for those investors, but would represent mostly a taxable return of capital for a new investor such as myself.
This transaction will result in a a significant long term capital gain distribution. I may sell my 50 shares in the event of a pop based on this news.
Just to get a ballpark idea of the potential capital gains distribution, which calculation may not be accurate, I did a rough calculation by first dividing the cost of $2.2M by 69,660 which gave me an average cost per share of $31.582. The proceeds for selling 35,000 shares was reported to be $92,750,000 or $2,650 per share. The total profit would be $2,618.418 per share or $91,644,630. I do not know the current number of shares outstanding. As of 12/31/12, there were 23,218,307 shares which would give me about a $3.95 per share LT capital gain.
Last Friday's Closing Price: CET: 21.75 +0.06 (+0.28%)
Closing Net Asset Value Per Fund as of 7/12/13: $27.58
Discount to Net Asset Value=-21.14%
Sponsor's Website: Central Securities Corporation
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Snapshot of Trade:
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| Order Filled with 48 Sold at $28.7401 and 2 at $28.77 |
Snapshot of Profit:
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| 2013 BHLB 50 Shares +$338.12 |
Rationale: I am using the recent rally in regional bank stocks to lightly pare my exposure. BHLB had a good run since my March 2012 purchase: Bought 50 BHLB AT $21.66
The TTM P/E is $17.96 at the closing price on 7/5/13. BHLB Key Statistics The forward P/E is much better at 12.81 based on the 2014 consensus of $2.28 per share. BHLB Analyst Estimates The former which is a hard number justifies the sell, whereas the less reliable forward number would support a continued hold.
The dividend yield at $28.74 is about 2.5%, based on its current quarterly dividend of $.18 per share. Dividends | Berkshire Hills Bancorp That tilts toward selling the shares compared to most of my other regional banks that still yield over 3% based on the current market prices, with a number over 4% and 5%.
On the other hand, unlike some of my other banks, BHLB did not cut its dividend during the Dark Period, which is an important point, but it did keep the rate at $.16 from the 2008 second quarter to the 2011 4th quarter when it raised the rate to $.17 or 6.25% and then to the current $.18 quarterly rate or about 5.88%. If the bank raises the rate again by a penny to $.19 during the 2013 4th quarter, then the rise would be 5.26%. I view that trend as slightly negative.
And, on the negative side, the bank has not yet managed to double its quarterly dividend since paying $.10 per quarter back in 2000. While certainly better than no growth, or worse, a cut back to $.01 per share in 2008-2010 which happened at other banks (think BAC which is still at a penny), the overall rate of dividend growth is still slow.
If I am going to pay a 18 TTM P/E, I would prefer buying more of GIS which has a much faster rate of growth, doubling its rate between 2007 and 2013: General Mills - Dividends and Stock Splits.
Overall, the main reasons for selling were in this order: (1) a long term capital gain of $338.13 or 31% based on my total cost numbers, realized in about 16 months; (2) the comparatively low dividend yield and slow dividend growth and (3) an opinion, which could easily prove to be wrong, that other banks in the basket had more room to run.
I will continue to monitor this bank's earnings reports. Assuming that the numbers are hit during 2014 and I have an opportunity to buy near my last purchase price (within two bucks), I would likely buy back the shares, provided there was no material adverse change in the future outlook.
Last Friday's Close: BHLB: $28.64 +0.17 (+0.60%)
Last Friday's Close: BHLB: $28.64 +0.17 (+0.60%)
2. Sold 50 MLPY at $17.6 (see Disclaimer): The Morgan Stanley Cushing High Income Index ETN invests in what I would call the higher risk MLPs which gives it a juicer yield than the JPMorgan Alerian MLP ETN (AMJ) which I have also sold. Sold 50 AMJ at $47.99-ROTH IRA-Bought Roth IRA: 50 of the ETN AMJ at $37.89 December 2012
Snapshot of Trade:
Snapshot of History:
Snapshot of Profit:
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| 2013 MLPY 50 Shares +$98.48 |
Rationale: This MLP ETN was just a trade. At my current stage and financial condition, my investment objectives are as follows and in the order shown: (1) Capital Preservation (2) Income Generation and (3) Share Price Appreciation.
As a cautious investor, I am always concerned about piling risks on top of risks. The ETN structure does expose me to the added credit risk of the issuer.
The issuer of this ETN is Morgan Stanley.
I look down before gazing at the stars. What do I see when looking down now?
I am also becoming somewhat concerned about the ongoing correction in MLPs as interest rates move up. The turmoil in bond land is likely to continue for up to a year.
And, I have increasing concerns about a fund that owns MLP E & P companies primarily on the issue of reserve replacement and the related issues of debt and common share expansion. This ETN owns several MLP E & P companies. A firm like Linn Energy is adding more and more debt to buy acreage from other companies and then distributes its cash flow to its unit owners. Eventually, that model is going to run into some serious problems.
I have come to the conclusion that MLPs are fine for energy infrastructure companies (pipelines, storage, processing), but not for E & P companies, except for those who know how to time an exit better than those shareholders who recently rode Linn down from $42+ in November 2012 to $22-23. Linn Energy LLC Interactive Stock Charts A price decline of that magnitude is far more important than the distribution being paid, and I would not hazard a guess of what the future will be for LINN when its debt needs to be rolled over. (see note 6 at page 8, LINE 3.31.2013 10Q)
While the MLP E & P model can work for years, providing the investor with above average distributions, the model is flawed long term. The MLP depletes its capital through its shareholder distributions and has to incur debt to acquire new production acreage or simply cease to exist after a runoff period. Eventually, the MLP E & P will be left with a mountain of debt and nothing under the hood, unable to raise new debt at a price attractive enough to remain in business or possibly unable to roll existing debt over at maturity.
I had not paid any attention to Linn Energy since I sold my position in 2010. Sold 100 LINE at $25.90 -Added to LINE at $15,21 (4/3/2009 Post)
After reading a couple of articles at SA, written by someone who is viewed negatively, I did check the debt levels on the balance sheet. As of 3/31/13, Linn had debt of $6.512 Billion, page 8 LINE 3.31.2013 10Q. I probably last looked at the balance sheet for the Q/E 3/31/10, when the company had $1.395 Billion in debt (page 9, 10-Q)
I have come to the conclusion that MLPs are fine for energy infrastructure companies (pipelines, storage, processing), but not for E & P companies, except for those who know how to time an exit better than those shareholders who recently rode Linn down from $42+ in November 2012 to $22-23. Linn Energy LLC Interactive Stock Charts A price decline of that magnitude is far more important than the distribution being paid, and I would not hazard a guess of what the future will be for LINN when its debt needs to be rolled over. (see note 6 at page 8, LINE 3.31.2013 10Q)
While the MLP E & P model can work for years, providing the investor with above average distributions, the model is flawed long term. The MLP depletes its capital through its shareholder distributions and has to incur debt to acquire new production acreage or simply cease to exist after a runoff period. Eventually, the MLP E & P will be left with a mountain of debt and nothing under the hood, unable to raise new debt at a price attractive enough to remain in business or possibly unable to roll existing debt over at maturity.
I had not paid any attention to Linn Energy since I sold my position in 2010. Sold 100 LINE at $25.90 -Added to LINE at $15,21 (4/3/2009 Post)
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| 2010 LINN ENERGY 100 UNITS +$971.97 |
And, I am becoming increasingly concerned that yield assets like MLPs will be under downside pressure due to ongoing turmoil in bond land, which is likely to continue for up to another year. So, I pocketed my $98.48 profit and my two dividend payments and will just wait and see what happens next. With the dividends, the total return on a total cost of $775 was about 16.92% annualized, realized in about 7 months.
And, the five year annualized return for the index used by this ETN is 17.27%. Money does not grow on trees. An investor needs to become cautious whenever those annualized returns are seen in any asset unless the company has discovered a cure for some dreaded disease and has an unassailable patent.
Last Friday's close: MLPY: $18.10 -0.02 (-0.09%)
3. Bought Back 50 PIE at $17.63 (see Disclaimer): RB was responsible for this trade, made while the LB was crunching about a million or so variables that ultimately resulted in an alteration of Trading Rule 17.834.523 (A)(1)(iii)(x).
The RB's reasoning, a totally inappropriate word when used in reference to anything popping into the Nit Wit's lobe, as LB just noted, was that the Team made money on PIE earlier, and the security was now at a lower price than the previous buy or so RB thought.
Actually, the trade was made under that belief without actually checking the facts which takes too much time, RB added helpfully, and why "sweat the details" anyway when there is money to made. After completing that trade, RB was exhausted from the labor and decided to take the remainder of the week off from anything requiring thought. Headknocker requested that the LB conduct an investigation of this latest incident at the Trading Desk. LB reported back that, as expected, the RB was mistaken about the prior purchase price. Bought 50 PIE at $17.08
Snapshot of Trade:
Prior Trades:
Sold 50 PIE @ $20.06 April 2013-Item # 2 Bought 50 PIE at $17.08
I had one trade prior to that one:
Item # 2 Sold 150 PIE at $16.76 September 2010-Bought 50 PIE at $10.01 October 2008; Bought 50 PIE at $14.04 in 2/2010
I could not find a reference in the blog to the remaining 50 shares of that 150 share lot. I went to my brokerage account and found that the other 50 shares were bought at the wrong time, back in May 2008 before I started the blog in October 2008 and those shares were sold at a loss. The net gain on that 150 share lot was only $125.49 as the 50 share purchase made in October 2008 offset almost exactly the loss from the 50 share purchase in May 2008, one of the benefits of slicing and dicing the orders into small pieces. I made one wrong decision and then one right one. The average cost per share for the May 2008 purchase was $23.25 while the October 2008 buy had an average total cost per share of $10.17.
Total Prior Realized Gains=$258.64
Rationale: The PowerShares DWA Emerging Markets Technical Leaders Fund (PIE) is what I would call a quant momentum ETF that uses a momentum based technical strategy. The technical indicator used is relative strength.
Sponsor's webpage: DWA Emerging Markets Technical Leaders Portfolio
The fund will invest in approximately 100 stocks from emerging markets that "possess powerful relative strength". When I read that kind of description, a few phrases and words pop into mind: risky, high beta, and low dividend. As noted above, I initially bought 50 shares in May 2008 at a total cost of $23.25 and then averaged down with another 50 four months later at a $10.17 total cost. While that was an exceptional move, I would still expect this fund to have a high beta compared to other stock index funds like the S & P 500 and to own far riskier holdings.
The expense ratio is also high at .9%. Given the troubles in most emerging markets, which have caused them to substantially underperform U.S. stocks, I was not surprised to see a five year annualized return of -.68. And, the dividend support for the share price is practically non-existent with a 12 month yield of .47% as of 7/5/13.
I noted another oddity. The market price at the close on 7/5/13 was $17.69, while the closing net asset value per share that day was $18.01. That indicates to me investor disfavor which actually appeals to my strong and natural contrarian streak. There is also something appealing about buying something that has gone done over the past five years rather than up by 150%.
When looking at the holdings, I did not recognize most of them-never even heard of them (who knows about "Bumi Serpong Damai PT" or "Turk Hava Yollari"):
PowerShares Exchange-Traded Funds | Holdings
Maybe I am missing something important by being ignorant about those foreign companies.
While the risks probably outweigh the potential benefits at the moment and over the short term, as noted below, the underlying investment thesis in emerging markets remains over the intermediate and long term in my opinion.
Risks: Generally speaking, I would expect a broad emerging market stock ETF like VWO to have a higher beta than the S & P 500, and I would anticipate PIE to have a higher beta than VWO. The decline between May 2008 and October 2008 highlights the risk.
For an investor using USDs to buy a U.S. listed ETF, the currency risk is probably to the downside at the moment, given the strength of the USD against most emerging market currencies.
China's slowdown is dragging down stocks not only in China but also in many other emerging markets. Another drag is Japan's efforts to devalue the Yen to make its exporters more competitive and that will have an adverse impact on competitors located in Asian emerging markets.
Over the past three months, however, emerging market stocks have had negative correlation with U.S. stocks, going down as U.S. stocks go up. That is shown in the correlation matrix found at Assetcorrelation by comparing the U.S. stock ETF VV with the emerging market ETF EEM, which had a -.22 negative correlation earlier this week.
Last Friday's close: PIE: $18.19 -0.18 (-0.98%)
4. Added 70 of the Bond CEF BTZ at $12.63 (see Disclaimer): I am averaging down in my bond CEFs by selecting one security each week and spending up to $1,000 to buy more shares. I am admittedly trying to catch a falling knife, as individuals flee this type of security during the ongoing interest rate normalization process.
BTZ is just another bond CEF where I had an unrealized profit and now I have an unrealized loss.
I recently changed my distribution option from cash to reinvestment.
I viewed the current discount for BTZ to be extreme last Monday, which was one reason for adding to it. Other reasons include the 65% weighting in investment grade bonds as of 4/30/13 and relatively high current yield for that kind of investment grade bond weighting.
BTZ went ex dividend for its monthly distribution on 7/11.
Snapshot of Trade:
Security Description: The BlackRock Credit Allocation Income Trust (BTZ) is a leveraged closed end bond fund that is weighted in investment grade bonds, but also has a significant exposure to junk rated securities.
Last SEC Filed Shareholder Report: BLACKROCK CREDIT ALLOCATION INCOME TRUST (period ending 4/30/13)
Credit Quality as of 4/30/13 (page 5):
As of 4/30/13, the fund had a net unrealized gain of 208+M, and there was a loss carryforward of $410.7+M (page 62).
During the 6 months ending 4/30/13, BTZ had realized gains of $22.96+M (page 45). Long term capital gains are not distributed to shareholders since that income will be offset at the fund level by the loss carryforward. This occurrence can have the effect of creating an artificial return of capital. The dividend might be fully earned without the utilization of a loss carryforward. A return of capital caused by the use of a loss carryforward is not viewed as destructive.
Nonetheless, I view such situations as negative for two reasons. First, the new shareholder is being deprived of income that would be taxed at the maximum 15% rate for most taxpayers. And second, the existence of a loss carryforward during a bull market for bonds is proof of managerial incompetence. BTZ had a much needed management change in June 2011. The Morningstar analyst notes that the fund has been doing better with the new managers.
There was no return of capital for that six month's ending 4/30/13, or for the fiscal years ending in October 2011 and 2012, but there were significant returns of capital for the three prior years as shown at page 48.
The current monthly distribution rate is $.0785 per share. BlackRock
At that rate, the yield at a total cost of $12.63 would be about 7.46%.
The fund went ex dividend for its monthly distribution on 7/11/13: Distribution Dates and Amounts Announced for Certain BlackRock Closed-End Funds
The option adjusted duration was 5.33 years as of 3/28/13: BlackRock
Investor Alert - Duration—What an Interest Rate Hike Could Do to Your Bond Portfolio - FINRA
BTZ Page at CEFConnect
BTZ Page at Morningstar (currently rated 3 stars)
Date for Friday 7/5/13
Net Asset Value Per Share= $14.55
Closing Market Price=$12.61
Discount: -13.33
Data for Monday 7/8/13 Date of Purchase
Net Asset Value Per Share= $14.59
Closing Market Price= $12.61
Discount: -13.57%
Average Discounts as of 7/8/13
1 Year: -8.44%
3 Year: -10.29%
5 Year: -11.11%
Last Friday (7/12//12), BTZ closed at a -13.55% based on a closing net asset value per share of $14.69 and a closing share price of $12.7.
The five year chart at CEFConnect which displays the discounts shows spikes in the discount to net asset value per share ranging from 30% to 40% during October 2008. On 10/10/2008, the discount hit 38.71% based on a $6.19 closing price and a $10.10 NAV. The shares rebounded on the next day, closing at $8.69 and then at $9.89.
Comparison of Percentage Market Price and NAV Declines:
Unadjusted for Dividends
5/1/13 NAV= $15.75
7/8/13 NAV=$14.59
Decline= -7.37%
Adjusted for 3 $.0785 Dividends ($.2355)= -5.87%
5/1/13 Market Price= $14.39
7/8/13 Market Price= $12.61
Decline: -12.37%
Adjusted for dividends= -10.73%
Rationale: For the next two years, and probably longer, I am not going to earn anything by keeping money in a money market account. My main taxable account has about 20% in cash earning nothing.
I am trying to balance the desire for some income with the potential principal losses inherent in buying bond funds now. I have for now arrived at a balance where I will invest up to $1,000 per week in a bond CEF and reinvest monthly dividend distributions to acquire more shares. That balance was struck after considering the following items.
(1) The declines in market prices for bond CEFs are substantially higher than the declines in net asset values per share, and the discounts now exceed the averages for 1, 3 and 5 years. As the price falls more than the net asset value, I increase my current yield with new purchases, and the yields are attractive in the current abnormally low interest rate environment.
(2) Inflation expectations over the next 10 years remain low and would cap bond losses due to interest rate normalization provided that expectations remains close to 2% per year.
(3) Short term borrowing costs are likely to remain low for several more years for two reasons. The FED is likely to continue ZIRP into 2015, which will anchor short term rates near zero, and will likely raise its federal funds rate much slower than in previous tightening cycles. So, the cost side of the interest rate spread is likely to remain favorable for leveraged bond CEFs for the next 2-3 years and possibly longer. I would add the usual caveat. I would not want to own a leveraged bond fund when both short term and long term rates are rising, particularly when the later increases are due to accelerating inflation and inflation expectations.
Risks: The process of interest rate normalization will be difficult as I have noted many times previously. Stocks, Bonds & Politics: The Difficult Path to Interest Rate Normalization As long as bond prices are moving down and yields up, investors will continue to flee bond funds and bond CEFs in particular, placing additional downward pressure on pricing of bond CEFs that is likely to exceed the percentage decline in net asset value.
That pricing action is a known risk for CEFs since the pricing is not dependent on the closing net asset value, which is the case for a bond mutual fund, but on the supply and demand factors characteristic of a common stock, with no mechanism available to bring price back into line with net asset value per share which exists for bond ETFs.
The foregoing presents a risk but also an opportunity to acquire assets at discounts to net asset value per share, which increases the investor's yield compared to a bond mutual fund selling at net asset value, and the yield increases as the discount expands, just like buying a bond at a discount to its par value.
The problem is that the discount can continue to widen after purchase which is then made worse by a concomitant diminution in net asset value per share. Leverage aids to the losses as the assets bought with borrowed money decline in price.
Leverage adds potential risks and benefits. The benefits are a higher yield due to the spread between the short term borrowing cost and the higher yield paid by the bonds purchased with those borrowed funds and more of a net asset per share gain when the assets purchased with borrowed funds are increasing in value which has not been the case recently of course.
The interest rate risk exists but is mitigate to some degree by the duration. Credit risk always exists for this fund, but is not as pronounced as a pure junk bond fund given the weighting in investment grade securities.
Last Friday's Close: BTZ: $12.70 -0.10 (-0.78%)
5. Bought in Roth IRA: 50 AEC at $16.59 (see Disclaimer):
Snapshot of Both AEC and GSPRD Trades:
Security Description: Associated Estates Realty (AEC) is a REIT that owns 51 apartment complexes containing 13,107 units located in 10 states.
Profile Page at Reuters
Key Developments Page at Reuters
Website: Associated Estates
This REIT paid a $.17 per share dividend throughout 2009-2011, raising it to $.18 in 2012 second quarter and then to the current rate of $.19. Associated Estates Realty Corp - Dividend History At that rate, the yield at a total cost of $16.59 is about 4.58%. While I would not consider that a juicy yield, and I would not expect much in the way of dividend growth, it is a tax free yield when the security is held in the ROTH IRA which makes it look better.
The 2012 tax allocation for the dividend shows that the rate was mostly supported by ordinary income, with $.03791 in ROC, and some support from capital gains ($.085157 on an annual basis): Associated Estates Realty Corp - Associated Estates Announces 2012 Tax Allocations of Common Share Dividends I prefer to own equity REITs in the ROTH IRA since ordinary income dividend does not qualify as a qualified dividend and hence will be taxed at the taxpayer's highest marginal rate.
An article published last February by MarketWatch contains some relevant data points and is worth a read for anyone interested in this REIT. The REIT had then a 96% occupancy rate. The CEO was quoted as saying that Funds from Operations (FFO) will not show in 2013 comparable gains to 2012, which was up 23%. About one-half of the FFO increase in 2012 was due to increasing occupancy levels whereas the gain this year will come "almost entirely from higher rents". FFO will be weakened this year by the replacement of floating rate bank debt which had a 1.8% rate with a senior note with an average coupon of 4.27%, but that kind of move probably makes sense longer term. Management forecasts FFO in the range of $1.29 to 1.33 in 2012, compared to $1.27 in 2012. The notes were issued in a private placement, with $63M having a 8 year maturity and a 4.02% and $87M at 4.45% and maturing in 10 years.
At a $1.30 FFO, which is the current analyst consensus, the price to FFO multiple is about 12.76 at a total cost of $16.59 per share. AEC Analyst Estimates
I thought a Lazard report on REITs was a worthwhile read. Lazard.pdf This report contains graphs on several metrics that help me decide when to increase or decrease my allocation to equity REITs. The most important metric is the overall price to FFO (P/FFO). There is an important graph in this report that shows historic trends in P/FFO, with the historic averaged being around 15. As of May 31, 2013, the P/FFO was at 18.7 times. Generally, I would want to overweight REITs as an asset class when the P/FFO falls to 10-12 and to lighten up or liquidate when the price hits 20, which I have done.
I do not know the current P/FFO but it would be reasonable to assume that it is close or slightly lower than 18.7. The Vanguard REIT ETF closed on 5/31/13 at $70.78 and is now trading near $70.
Another chart contained in that Lazard report is the second most important in my opinion. It shows the historic premium/discount to underlying net asset value, which is a far more mushy number than P/FFO. Still, it is a metric to use for determining my REIT weighting.
As of 5/31/13, REITs in aggregate would selling at a 5.8% premium to NAV. Obviously, I would want to overweight REITs when I can buy a piece of that real estate at a discount to its market value. I certainly would not want to pay a 10%+ premium and would not be jumping at the bit when the price is at a 5.8% premium. Of course, each individual REIT needs to be assessed based on its own metrics. The foregoing is more applicable to using ETFs or other REIT funds as a substitute to individual security selection. Unfortunately, it is difficult for individual's to gain assess to reports containing property valuations for specific REITs.
{Two Main Proprietary Services for REIT Research: I do not have that kind of access to proprietary data from one of the services like SNL Financial. I could sign up for a free trial, Real Estate Market Intelligence, but have not done so yet. Pricing is not disclosed at their website after expiration of the "free trial". Another service is called Green Street Advisors. This service at least allows one to view its chart showing the premium/discount chart to NAV for free. Both would likely be way too expensive for their value to an individual investor unless they were devoting megabucks (i.e. over $100,000 at least) to this sector, and that would even assume a yearly subscription price around $400, any higher price would require in my opinion even more funds devoted to the sector}
At AEC's website, an investor can view pictures of the properties. This is a link to the only complex owned in Nashville: Vista Germantown - Nashville, TN Those apartments look nice and are located near downturn Nashville in a nice area.
Prior Trades: I have not bought or sold this REIT since I started this blog. I have a vague recollection of owning it many years ago.
Recent Earnings Report: For the 2013 1st Quarter, AEC reported $.31 in FFO, up from $.25 or and adjusted $.29 for the year earlier quarter. SEC Filed Press Release The occupancy rate was good at 96.6% at the quarter's end. Average monthly rent increased 4.1% to $1,094.
I urge investors to look at both FFO and Funds Available for Distribution (FAD, sometimes called CAD or just Adjusted Funds from operation) to make sure that both are comfortably above the total dividend payout.
For the March quarter, FFO was $15.589M or $.31 per share, while FAD was $14.72M or 29 cents per diluted share, with the dividend at $.19 per share.
Mar2013 10-Q
Rationale: Again, I am just attempting to earn some "tax free" income in the ROTH with a security that at least has some limited capital appreciation potential. The recent REIT sell off has given me a slightly cheaper price, compared to the $18.3 close on 4/16/12, AEC Historical Prices, and cheaper than the $17.25 price of AEC's recent equity raise. 8k May 29 2013
The rental market has been strong recently. I noted above that the occupancy rate for AEC was 96.6% at the end of March 2013. As discussed in the Calculated Risk, the 2013 second quarter national apartment vacancy rate was low at 4.3% based on the last estimate prepared by Reis.com.
Risks: The main risk is a depreciation in the share price caused in part by a rise in interest rates. AEC discusses risks in its Annual Report at pp. 6-11, AEC 2012 10K (a property list by state and number of units per apartment complex starts at page 12).
Last Friday's Close: AEC: $16.20 -0.35 (-2.11%)
6. Bought Back in Roth IRA: 50 GSPRD at $21.65 (see Disclaimer): Goldman Sachs Group Inc. Dep. Pfd. Series D (GS.PD:NYSE) is a floating rate equity preferred stock that pays quarterly qualified dividends at the greater of 4% or .67% above the three month Libor rate on a $25 par value. Prospectus
I have bought and sold this equity preferred floating rate stock many times. My last transaction in the ROTH IRA was to sell 100 shares last April for a quick $219.25 gain. Sold 100 GSPRD at $23.71-Roth IRA(contains snapshot of gain=$219.25)- Pared Trade Roth IRA: Sold 120 GDO at $20.73-Bought 100 GSPRD at $21.38
I also currently own 50 shares held in a taxable account. Bought 50 GSPRD at $20.6 December 2012
I flipped another 100 shares in another taxable account realizing a quick $257.24 gain: Item # 6 Sold 100 GSPRD @ $23.89 (4/23/13 Post)(snapshot provided)-Bought 100 GSPRD at $21.18 and Sold 50 GSPRA at $21.73 January 2013.
In addition to the foregoing transaction, I have had others: Bought 50 GSPRD at 21.58 January 2011; Sold 50 GSPRD @ 22.72 April 2011; Bought 50 GSPRD at $18.6 September 2011Sold 50 GSPRD at $20.47 March 2012; Bought Back GSPRD at $18.9 July 2012; Sold 50 GSPRD at $20.03 July 2012.
Snapshots of trades in this stock sector can be found in the relevant Gateway Post which also delves into their many disadvantages and few advantages: Stocks, Bonds & Politics: Advantages and Disadvantages of Equity Preferred Floating Rate Securities
Since I have discussed this security and GSPRA, a functionally equivalent floater issued by GS, I will just copy and update a prior discussion:
One of advantages is that some deflation/low inflation and inflation protection is built into just one security. The deflation/low inflation part involves the minimum coupon, in effect now of course, while the inflation component is the LIBOR float.
The qualified dividend is another advantage. This 15% tax cap advantage has been lost by some taxpayer's viewed as "well off".
Short term rates are likely to remain artificially low for several more years. The Federal Reserve adopted its 0% to .25% federal funds rate in December 2008. Central bank monetary policy will keep the 3 month LIBOR rate at artificially low levels for an "extended period".
Last Friday's close: MLPY: $18.10 -0.02 (-0.09%)
3. Bought Back 50 PIE at $17.63 (see Disclaimer): RB was responsible for this trade, made while the LB was crunching about a million or so variables that ultimately resulted in an alteration of Trading Rule 17.834.523 (A)(1)(iii)(x).
The RB's reasoning, a totally inappropriate word when used in reference to anything popping into the Nit Wit's lobe, as LB just noted, was that the Team made money on PIE earlier, and the security was now at a lower price than the previous buy or so RB thought.
Actually, the trade was made under that belief without actually checking the facts which takes too much time, RB added helpfully, and why "sweat the details" anyway when there is money to made. After completing that trade, RB was exhausted from the labor and decided to take the remainder of the week off from anything requiring thought. Headknocker requested that the LB conduct an investigation of this latest incident at the Trading Desk. LB reported back that, as expected, the RB was mistaken about the prior purchase price. Bought 50 PIE at $17.08
Snapshot of Trade:
Prior Trades:
 |
| Sold 50 PIE +$133.12 |
Sold 50 PIE @ $20.06 April 2013-Item # 2 Bought 50 PIE at $17.08
I had one trade prior to that one:
Item # 2 Sold 150 PIE at $16.76 September 2010-Bought 50 PIE at $10.01 October 2008; Bought 50 PIE at $14.04 in 2/2010
I could not find a reference in the blog to the remaining 50 shares of that 150 share lot. I went to my brokerage account and found that the other 50 shares were bought at the wrong time, back in May 2008 before I started the blog in October 2008 and those shares were sold at a loss. The net gain on that 150 share lot was only $125.49 as the 50 share purchase made in October 2008 offset almost exactly the loss from the 50 share purchase in May 2008, one of the benefits of slicing and dicing the orders into small pieces. I made one wrong decision and then one right one. The average cost per share for the May 2008 purchase was $23.25 while the October 2008 buy had an average total cost per share of $10.17.
 |
| 2010 PIE 150 Shares +$125.52 |
Rationale: The PowerShares DWA Emerging Markets Technical Leaders Fund (PIE) is what I would call a quant momentum ETF that uses a momentum based technical strategy. The technical indicator used is relative strength.
Sponsor's webpage: DWA Emerging Markets Technical Leaders Portfolio
The fund will invest in approximately 100 stocks from emerging markets that "possess powerful relative strength". When I read that kind of description, a few phrases and words pop into mind: risky, high beta, and low dividend. As noted above, I initially bought 50 shares in May 2008 at a total cost of $23.25 and then averaged down with another 50 four months later at a $10.17 total cost. While that was an exceptional move, I would still expect this fund to have a high beta compared to other stock index funds like the S & P 500 and to own far riskier holdings.
The expense ratio is also high at .9%. Given the troubles in most emerging markets, which have caused them to substantially underperform U.S. stocks, I was not surprised to see a five year annualized return of -.68. And, the dividend support for the share price is practically non-existent with a 12 month yield of .47% as of 7/5/13.
I noted another oddity. The market price at the close on 7/5/13 was $17.69, while the closing net asset value per share that day was $18.01. That indicates to me investor disfavor which actually appeals to my strong and natural contrarian streak. There is also something appealing about buying something that has gone done over the past five years rather than up by 150%.
When looking at the holdings, I did not recognize most of them-never even heard of them (who knows about "Bumi Serpong Damai PT" or "Turk Hava Yollari"):
PowerShares Exchange-Traded Funds | Holdings
Maybe I am missing something important by being ignorant about those foreign companies.
While the risks probably outweigh the potential benefits at the moment and over the short term, as noted below, the underlying investment thesis in emerging markets remains over the intermediate and long term in my opinion.
Risks: Generally speaking, I would expect a broad emerging market stock ETF like VWO to have a higher beta than the S & P 500, and I would anticipate PIE to have a higher beta than VWO. The decline between May 2008 and October 2008 highlights the risk.
For an investor using USDs to buy a U.S. listed ETF, the currency risk is probably to the downside at the moment, given the strength of the USD against most emerging market currencies.
China's slowdown is dragging down stocks not only in China but also in many other emerging markets. Another drag is Japan's efforts to devalue the Yen to make its exporters more competitive and that will have an adverse impact on competitors located in Asian emerging markets.
Over the past three months, however, emerging market stocks have had negative correlation with U.S. stocks, going down as U.S. stocks go up. That is shown in the correlation matrix found at Assetcorrelation by comparing the U.S. stock ETF VV with the emerging market ETF EEM, which had a -.22 negative correlation earlier this week.
An investor can see what is happening in that correlation pare by overlaying charts at YF of VV and EEM. A major problem for emerging markets is China's stock market, demonstrated by overlaying a five year chart of the SSE Composite with the S & P 500. SSE Composite Index Index Chart (select compare with ^GSPC). The S & P 500 is up more than 30% over five years, starting in July 2008 before Lehman's failure, while China's stock market is down by more than 30%.
4. Added 70 of the Bond CEF BTZ at $12.63 (see Disclaimer): I am averaging down in my bond CEFs by selecting one security each week and spending up to $1,000 to buy more shares. I am admittedly trying to catch a falling knife, as individuals flee this type of security during the ongoing interest rate normalization process.
BTZ is just another bond CEF where I had an unrealized profit and now I have an unrealized loss.
I recently changed my distribution option from cash to reinvestment.
I viewed the current discount for BTZ to be extreme last Monday, which was one reason for adding to it. Other reasons include the 65% weighting in investment grade bonds as of 4/30/13 and relatively high current yield for that kind of investment grade bond weighting.
BTZ went ex dividend for its monthly distribution on 7/11.
Snapshot of Trade:
Security Description: The BlackRock Credit Allocation Income Trust (BTZ) is a leveraged closed end bond fund that is weighted in investment grade bonds, but also has a significant exposure to junk rated securities.
Last SEC Filed Shareholder Report: BLACKROCK CREDIT ALLOCATION INCOME TRUST (period ending 4/30/13)
Credit Quality as of 4/30/13 (page 5):
As of 4/30/13, the fund had a net unrealized gain of 208+M, and there was a loss carryforward of $410.7+M (page 62).
During the 6 months ending 4/30/13, BTZ had realized gains of $22.96+M (page 45). Long term capital gains are not distributed to shareholders since that income will be offset at the fund level by the loss carryforward. This occurrence can have the effect of creating an artificial return of capital. The dividend might be fully earned without the utilization of a loss carryforward. A return of capital caused by the use of a loss carryforward is not viewed as destructive.
Nonetheless, I view such situations as negative for two reasons. First, the new shareholder is being deprived of income that would be taxed at the maximum 15% rate for most taxpayers. And second, the existence of a loss carryforward during a bull market for bonds is proof of managerial incompetence. BTZ had a much needed management change in June 2011. The Morningstar analyst notes that the fund has been doing better with the new managers.
There was no return of capital for that six month's ending 4/30/13, or for the fiscal years ending in October 2011 and 2012, but there were significant returns of capital for the three prior years as shown at page 48.
The current monthly distribution rate is $.0785 per share. BlackRock
At that rate, the yield at a total cost of $12.63 would be about 7.46%.
The fund went ex dividend for its monthly distribution on 7/11/13: Distribution Dates and Amounts Announced for Certain BlackRock Closed-End Funds
The option adjusted duration was 5.33 years as of 3/28/13: BlackRock
Investor Alert - Duration—What an Interest Rate Hike Could Do to Your Bond Portfolio - FINRA
BTZ Page at CEFConnect
BTZ Page at Morningstar (currently rated 3 stars)
Date for Friday 7/5/13
Net Asset Value Per Share= $14.55
Closing Market Price=$12.61
Discount: -13.33
Data for Monday 7/8/13 Date of Purchase
Net Asset Value Per Share= $14.59
Closing Market Price= $12.61
Discount: -13.57%
Average Discounts as of 7/8/13
1 Year: -8.44%
3 Year: -10.29%
5 Year: -11.11%
Last Friday (7/12//12), BTZ closed at a -13.55% based on a closing net asset value per share of $14.69 and a closing share price of $12.7.
The five year chart at CEFConnect which displays the discounts shows spikes in the discount to net asset value per share ranging from 30% to 40% during October 2008. On 10/10/2008, the discount hit 38.71% based on a $6.19 closing price and a $10.10 NAV. The shares rebounded on the next day, closing at $8.69 and then at $9.89.
Comparison of Percentage Market Price and NAV Declines:
Unadjusted for Dividends
5/1/13 NAV= $15.75
7/8/13 NAV=$14.59
Decline= -7.37%
Adjusted for 3 $.0785 Dividends ($.2355)= -5.87%
5/1/13 Market Price= $14.39
7/8/13 Market Price= $12.61
Decline: -12.37%
Adjusted for dividends= -10.73%
Rationale: For the next two years, and probably longer, I am not going to earn anything by keeping money in a money market account. My main taxable account has about 20% in cash earning nothing.
I am trying to balance the desire for some income with the potential principal losses inherent in buying bond funds now. I have for now arrived at a balance where I will invest up to $1,000 per week in a bond CEF and reinvest monthly dividend distributions to acquire more shares. That balance was struck after considering the following items.
(1) The declines in market prices for bond CEFs are substantially higher than the declines in net asset values per share, and the discounts now exceed the averages for 1, 3 and 5 years. As the price falls more than the net asset value, I increase my current yield with new purchases, and the yields are attractive in the current abnormally low interest rate environment.
(2) Inflation expectations over the next 10 years remain low and would cap bond losses due to interest rate normalization provided that expectations remains close to 2% per year.
(3) Short term borrowing costs are likely to remain low for several more years for two reasons. The FED is likely to continue ZIRP into 2015, which will anchor short term rates near zero, and will likely raise its federal funds rate much slower than in previous tightening cycles. So, the cost side of the interest rate spread is likely to remain favorable for leveraged bond CEFs for the next 2-3 years and possibly longer. I would add the usual caveat. I would not want to own a leveraged bond fund when both short term and long term rates are rising, particularly when the later increases are due to accelerating inflation and inflation expectations.
Risks: The process of interest rate normalization will be difficult as I have noted many times previously. Stocks, Bonds & Politics: The Difficult Path to Interest Rate Normalization As long as bond prices are moving down and yields up, investors will continue to flee bond funds and bond CEFs in particular, placing additional downward pressure on pricing of bond CEFs that is likely to exceed the percentage decline in net asset value.
That pricing action is a known risk for CEFs since the pricing is not dependent on the closing net asset value, which is the case for a bond mutual fund, but on the supply and demand factors characteristic of a common stock, with no mechanism available to bring price back into line with net asset value per share which exists for bond ETFs.
The foregoing presents a risk but also an opportunity to acquire assets at discounts to net asset value per share, which increases the investor's yield compared to a bond mutual fund selling at net asset value, and the yield increases as the discount expands, just like buying a bond at a discount to its par value.
The problem is that the discount can continue to widen after purchase which is then made worse by a concomitant diminution in net asset value per share. Leverage aids to the losses as the assets bought with borrowed money decline in price.
Leverage adds potential risks and benefits. The benefits are a higher yield due to the spread between the short term borrowing cost and the higher yield paid by the bonds purchased with those borrowed funds and more of a net asset per share gain when the assets purchased with borrowed funds are increasing in value which has not been the case recently of course.
The interest rate risk exists but is mitigate to some degree by the duration. Credit risk always exists for this fund, but is not as pronounced as a pure junk bond fund given the weighting in investment grade securities.
Last Friday's Close: BTZ: $12.70 -0.10 (-0.78%)
5. Bought in Roth IRA: 50 AEC at $16.59 (see Disclaimer):
Snapshot of Both AEC and GSPRD Trades:
Security Description: Associated Estates Realty (AEC) is a REIT that owns 51 apartment complexes containing 13,107 units located in 10 states.
Profile Page at Reuters
Key Developments Page at Reuters
Website: Associated Estates
This REIT paid a $.17 per share dividend throughout 2009-2011, raising it to $.18 in 2012 second quarter and then to the current rate of $.19. Associated Estates Realty Corp - Dividend History At that rate, the yield at a total cost of $16.59 is about 4.58%. While I would not consider that a juicy yield, and I would not expect much in the way of dividend growth, it is a tax free yield when the security is held in the ROTH IRA which makes it look better.
The 2012 tax allocation for the dividend shows that the rate was mostly supported by ordinary income, with $.03791 in ROC, and some support from capital gains ($.085157 on an annual basis): Associated Estates Realty Corp - Associated Estates Announces 2012 Tax Allocations of Common Share Dividends I prefer to own equity REITs in the ROTH IRA since ordinary income dividend does not qualify as a qualified dividend and hence will be taxed at the taxpayer's highest marginal rate.
An article published last February by MarketWatch contains some relevant data points and is worth a read for anyone interested in this REIT. The REIT had then a 96% occupancy rate. The CEO was quoted as saying that Funds from Operations (FFO) will not show in 2013 comparable gains to 2012, which was up 23%. About one-half of the FFO increase in 2012 was due to increasing occupancy levels whereas the gain this year will come "almost entirely from higher rents". FFO will be weakened this year by the replacement of floating rate bank debt which had a 1.8% rate with a senior note with an average coupon of 4.27%, but that kind of move probably makes sense longer term. Management forecasts FFO in the range of $1.29 to 1.33 in 2012, compared to $1.27 in 2012. The notes were issued in a private placement, with $63M having a 8 year maturity and a 4.02% and $87M at 4.45% and maturing in 10 years.
At a $1.30 FFO, which is the current analyst consensus, the price to FFO multiple is about 12.76 at a total cost of $16.59 per share. AEC Analyst Estimates
I thought a Lazard report on REITs was a worthwhile read. Lazard.pdf This report contains graphs on several metrics that help me decide when to increase or decrease my allocation to equity REITs. The most important metric is the overall price to FFO (P/FFO). There is an important graph in this report that shows historic trends in P/FFO, with the historic averaged being around 15. As of May 31, 2013, the P/FFO was at 18.7 times. Generally, I would want to overweight REITs as an asset class when the P/FFO falls to 10-12 and to lighten up or liquidate when the price hits 20, which I have done.
I do not know the current P/FFO but it would be reasonable to assume that it is close or slightly lower than 18.7. The Vanguard REIT ETF closed on 5/31/13 at $70.78 and is now trading near $70.
Another chart contained in that Lazard report is the second most important in my opinion. It shows the historic premium/discount to underlying net asset value, which is a far more mushy number than P/FFO. Still, it is a metric to use for determining my REIT weighting.
As of 5/31/13, REITs in aggregate would selling at a 5.8% premium to NAV. Obviously, I would want to overweight REITs when I can buy a piece of that real estate at a discount to its market value. I certainly would not want to pay a 10%+ premium and would not be jumping at the bit when the price is at a 5.8% premium. Of course, each individual REIT needs to be assessed based on its own metrics. The foregoing is more applicable to using ETFs or other REIT funds as a substitute to individual security selection. Unfortunately, it is difficult for individual's to gain assess to reports containing property valuations for specific REITs.
{Two Main Proprietary Services for REIT Research: I do not have that kind of access to proprietary data from one of the services like SNL Financial. I could sign up for a free trial, Real Estate Market Intelligence, but have not done so yet. Pricing is not disclosed at their website after expiration of the "free trial". Another service is called Green Street Advisors. This service at least allows one to view its chart showing the premium/discount chart to NAV for free. Both would likely be way too expensive for their value to an individual investor unless they were devoting megabucks (i.e. over $100,000 at least) to this sector, and that would even assume a yearly subscription price around $400, any higher price would require in my opinion even more funds devoted to the sector}
At AEC's website, an investor can view pictures of the properties. This is a link to the only complex owned in Nashville: Vista Germantown - Nashville, TN Those apartments look nice and are located near downturn Nashville in a nice area.
Prior Trades: I have not bought or sold this REIT since I started this blog. I have a vague recollection of owning it many years ago.
Recent Earnings Report: For the 2013 1st Quarter, AEC reported $.31 in FFO, up from $.25 or and adjusted $.29 for the year earlier quarter. SEC Filed Press Release The occupancy rate was good at 96.6% at the quarter's end. Average monthly rent increased 4.1% to $1,094.
I urge investors to look at both FFO and Funds Available for Distribution (FAD, sometimes called CAD or just Adjusted Funds from operation) to make sure that both are comfortably above the total dividend payout.
For the March quarter, FFO was $15.589M or $.31 per share, while FAD was $14.72M or 29 cents per diluted share, with the dividend at $.19 per share.
Mar2013 10-Q
Rationale: Again, I am just attempting to earn some "tax free" income in the ROTH with a security that at least has some limited capital appreciation potential. The recent REIT sell off has given me a slightly cheaper price, compared to the $18.3 close on 4/16/12, AEC Historical Prices, and cheaper than the $17.25 price of AEC's recent equity raise. 8k May 29 2013
The rental market has been strong recently. I noted above that the occupancy rate for AEC was 96.6% at the end of March 2013. As discussed in the Calculated Risk, the 2013 second quarter national apartment vacancy rate was low at 4.3% based on the last estimate prepared by Reis.com.
Risks: The main risk is a depreciation in the share price caused in part by a rise in interest rates. AEC discusses risks in its Annual Report at pp. 6-11, AEC 2012 10K (a property list by state and number of units per apartment complex starts at page 12).
Last Friday's Close: AEC: $16.20 -0.35 (-2.11%)
6. Bought Back in Roth IRA: 50 GSPRD at $21.65 (see Disclaimer): Goldman Sachs Group Inc. Dep. Pfd. Series D (GS.PD:NYSE) is a floating rate equity preferred stock that pays quarterly qualified dividends at the greater of 4% or .67% above the three month Libor rate on a $25 par value. Prospectus
I have bought and sold this equity preferred floating rate stock many times. My last transaction in the ROTH IRA was to sell 100 shares last April for a quick $219.25 gain. Sold 100 GSPRD at $23.71-Roth IRA(contains snapshot of gain=$219.25)- Pared Trade Roth IRA: Sold 120 GDO at $20.73-Bought 100 GSPRD at $21.38
I also currently own 50 shares held in a taxable account. Bought 50 GSPRD at $20.6 December 2012
I flipped another 100 shares in another taxable account realizing a quick $257.24 gain: Item # 6 Sold 100 GSPRD @ $23.89 (4/23/13 Post)(snapshot provided)-Bought 100 GSPRD at $21.18 and Sold 50 GSPRA at $21.73 January 2013.
In addition to the foregoing transaction, I have had others: Bought 50 GSPRD at 21.58 January 2011; Sold 50 GSPRD @ 22.72 April 2011; Bought 50 GSPRD at $18.6 September 2011Sold 50 GSPRD at $20.47 March 2012; Bought Back GSPRD at $18.9 July 2012; Sold 50 GSPRD at $20.03 July 2012.
Snapshots of trades in this stock sector can be found in the relevant Gateway Post which also delves into their many disadvantages and few advantages: Stocks, Bonds & Politics: Advantages and Disadvantages of Equity Preferred Floating Rate Securities
Since I have discussed this security and GSPRA, a functionally equivalent floater issued by GS, I will just copy and update a prior discussion:
One of advantages is that some deflation/low inflation and inflation protection is built into just one security. The deflation/low inflation part involves the minimum coupon, in effect now of course, while the inflation component is the LIBOR float.
The qualified dividend is another advantage. This 15% tax cap advantage has been lost by some taxpayer's viewed as "well off".
Short term rates are likely to remain artificially low for several more years. The Federal Reserve adopted its 0% to .25% federal funds rate in December 2008. Central bank monetary policy will keep the 3 month LIBOR rate at artificially low levels for an "extended period".
Rationale: (1) Income is Better Than Cash Earning Nothing/Some appreciation Potential Possibly to $22-23.5 with Risks (see below)/Deflation-Low Inflation-Problematic Inflation Scenarios Embodied in One Security.
At a total cost of $21.65 the dividend yield at the 4% coupon is about 4.62%. The LIBOR float provision will activate when the 3 month LIBOR rate is over 3.33% during the relevant computation period. At a 5% LIBOR, the rate would be approximately 6.55%.
This type of security also balances the interest rate risk of longer term fixed coupon senior bonds held in the ROTH IRA.
Risks: (1) Highly Volatile/Heightened Risk/Non-Cumulative: I started to invest in some of these securities during the Near Depression when they could be purchased at greater than 50% discounts to their $25 par values. The downside risk is zero as shown by what happened to those unfortunate souls who owned LEHPRG, a Lehman equity preferred floater, that is now worthless of course.
An equity preferred stock is only superior to common stock. It will be junior in the capital structure to all bonds. Given that low priority, the non-cumulative dividends paid by most of them, and the highly leveraged balance sheets of financial institutions issuing them, there will be no recovery in a bankruptcy for an owner of an equity preferred stock. Investors realized that would be the likely outcome and will behave irrationally when there is a whiff of a possible financial collapse. (a 75% chance of bankruptcy when a rational number would be less than 10%).
BAC equity preferred stocks, for example, could have been bought for less than $10 even in 2009. I bought ZBPRA, a Zions equity preferred floater for $7.8. Bought 100 ZBPRA at $7.8 (May 2009)(see snapshot in Gateway Post on this topic) None of those equity preferred floaters missed a dividend payment. (METPRA for less than $8, rational or irrational?, AEB for less than $5, rational or irrational?)
Periodically, these stocks will hit an air pocket and just fall as if a bankruptcy filing was imminent. I am just used to it.
I discuss an example from August 2011: Item # 1 Fear and Enhanced Volatility in Certain Classes of Income Securities I was able to buy Santander's floater at $13 during that one. A few weeks later, yet another downdraft, and I picked up HBAPRG at $16.18 (HSBC's US operation). Bought 50 HBAPRG at $16.8
One of my earlier discussions about embracing their volatility in a trading strategy is discussed in a May 2009 post. Embracing Volatility as A Risk Management Tool In the Sub-Asset Class of Equity Preferred Stock
So, volatility and risk are just known hazards. Know what you are buying, its history and characteristics.
2. No Coupon Bump Likely for Several Years: The likely continuation of ZIRP for two more years and the likely slow pace of the subsequent tightening cycle after ZIRP's end will combine to keep the 4% minimum coupon as the applicable rate for several years. It would take a rise in the 3 month LIBOR rate to over 3.33% during the relevant computation period to trigger any increase in the coupon. I do not currently see that happening before 2017.
On the flip side, GSPRD at least produces a current real rate of return of over 2.5%, before taxes, based on the currently forecasted inflation rate embodied in the ten year TIP price. As noted above the yield is 4.625% at a total cos of $21.65. The ten year average annual CPI forecast as of last Friday was 2.04%.
Daily Treasury Yield Curve Rates (2.61%)
Daily Treasury Real Yield Curve Rates (.55%)
Break-Even=2.04%
Needless to say, I am in a trading mode for all equity preferred floating rate stocks.
Last Friday's Close: GS-PD: $21.94 +0.04 (+0.18%)
7. Added $250 to MACSX at $18.71 (see Disclaimer): My primary exposure to Asia's stock is via two mutual funds offered by Matthews Asia Funds. My larger position is in Matthews Asian Growth and Income Fund (MACSX) which has outperformed its index over the past 1, 3, 5, and 10 years, and has had a 10.87% annualized return since inception on 9/12/1994 compared to the index return of 3.72%:
Unlike my other Matthews fund, which has a zero weighting in Japanese stocks, MACSX owns some Japanese stocks:
Snapshot of Buy:
Since inception, a $10,0000 investment has grown to $71,398 as of 3/31/13: Performance - Matthews Asian Growth and Income Fund
MACSX is rated five stars by Morningstar. I did receive in June a $.2442 per share dividend and used those to buy more shares, noted in the introduction section of Stocks, Bonds & Politics with a snapshot showing the purchase of 6.458 shares.
All of my mutual funds are set up for dividend reinvestment rather than for payment in cash.
I made my initial investment in September 2009, as part of my move back into stocks: Item # 1 Bought Matthews Asian Growth and Income (MACSX)
I last made a snapshot of this holding in a June 2013 post that included MAPTX: Stocks, Bonds & Politics: Updated Stock Fund Table as of 6/6/2013 I had pared MAPTX down to 150 shares prior to the Near Depression, as part of my stock allocation reduction: see snapshots at Item 4, Stocks, Bonds & Politics
Sponsor's Page for MAPTX: Overview - Matthews Pacific Tiger Fund This one does has a better 10 year annualized performance at 15.8%. MAPTX has a four start rating from Morningstar.
Closing Price Last Friday: MACSX: $19.15 -0.04 (-0.21%)
I also added last week $250 to VWELX: $37.38 +0.01 (+0.03%)- Stocks, Bonds & Politics: Initiated Position in Vanguard Wellington Fund (VWELX)
At a total cost of $21.65 the dividend yield at the 4% coupon is about 4.62%. The LIBOR float provision will activate when the 3 month LIBOR rate is over 3.33% during the relevant computation period. At a 5% LIBOR, the rate would be approximately 6.55%.
This type of security also balances the interest rate risk of longer term fixed coupon senior bonds held in the ROTH IRA.
Risks: (1) Highly Volatile/Heightened Risk/Non-Cumulative: I started to invest in some of these securities during the Near Depression when they could be purchased at greater than 50% discounts to their $25 par values. The downside risk is zero as shown by what happened to those unfortunate souls who owned LEHPRG, a Lehman equity preferred floater, that is now worthless of course.
An equity preferred stock is only superior to common stock. It will be junior in the capital structure to all bonds. Given that low priority, the non-cumulative dividends paid by most of them, and the highly leveraged balance sheets of financial institutions issuing them, there will be no recovery in a bankruptcy for an owner of an equity preferred stock. Investors realized that would be the likely outcome and will behave irrationally when there is a whiff of a possible financial collapse. (a 75% chance of bankruptcy when a rational number would be less than 10%).
BAC equity preferred stocks, for example, could have been bought for less than $10 even in 2009. I bought ZBPRA, a Zions equity preferred floater for $7.8. Bought 100 ZBPRA at $7.8 (May 2009)(see snapshot in Gateway Post on this topic) None of those equity preferred floaters missed a dividend payment. (METPRA for less than $8, rational or irrational?, AEB for less than $5, rational or irrational?)
Periodically, these stocks will hit an air pocket and just fall as if a bankruptcy filing was imminent. I am just used to it.
I discuss an example from August 2011: Item # 1 Fear and Enhanced Volatility in Certain Classes of Income Securities I was able to buy Santander's floater at $13 during that one. A few weeks later, yet another downdraft, and I picked up HBAPRG at $16.18 (HSBC's US operation). Bought 50 HBAPRG at $16.8
One of my earlier discussions about embracing their volatility in a trading strategy is discussed in a May 2009 post. Embracing Volatility as A Risk Management Tool In the Sub-Asset Class of Equity Preferred Stock
So, volatility and risk are just known hazards. Know what you are buying, its history and characteristics.
2. No Coupon Bump Likely for Several Years: The likely continuation of ZIRP for two more years and the likely slow pace of the subsequent tightening cycle after ZIRP's end will combine to keep the 4% minimum coupon as the applicable rate for several years. It would take a rise in the 3 month LIBOR rate to over 3.33% during the relevant computation period to trigger any increase in the coupon. I do not currently see that happening before 2017.
On the flip side, GSPRD at least produces a current real rate of return of over 2.5%, before taxes, based on the currently forecasted inflation rate embodied in the ten year TIP price. As noted above the yield is 4.625% at a total cos of $21.65. The ten year average annual CPI forecast as of last Friday was 2.04%.
Daily Treasury Yield Curve Rates (2.61%)
Daily Treasury Real Yield Curve Rates (.55%)
Break-Even=2.04%
Needless to say, I am in a trading mode for all equity preferred floating rate stocks.
Last Friday's Close: GS-PD: $21.94 +0.04 (+0.18%)
7. Added $250 to MACSX at $18.71 (see Disclaimer): My primary exposure to Asia's stock is via two mutual funds offered by Matthews Asia Funds. My larger position is in Matthews Asian Growth and Income Fund (MACSX) which has outperformed its index over the past 1, 3, 5, and 10 years, and has had a 10.87% annualized return since inception on 9/12/1994 compared to the index return of 3.72%:
Unlike my other Matthews fund, which has a zero weighting in Japanese stocks, MACSX owns some Japanese stocks:
 |
| Country Breakdown as of 3/31/13 |
Snapshot of Buy:
Since inception, a $10,0000 investment has grown to $71,398 as of 3/31/13: Performance - Matthews Asian Growth and Income Fund
MACSX is rated five stars by Morningstar. I did receive in June a $.2442 per share dividend and used those to buy more shares, noted in the introduction section of Stocks, Bonds & Politics with a snapshot showing the purchase of 6.458 shares.
All of my mutual funds are set up for dividend reinvestment rather than for payment in cash.
I made my initial investment in September 2009, as part of my move back into stocks: Item # 1 Bought Matthews Asian Growth and Income (MACSX)
I last made a snapshot of this holding in a June 2013 post that included MAPTX: Stocks, Bonds & Politics: Updated Stock Fund Table as of 6/6/2013 I had pared MAPTX down to 150 shares prior to the Near Depression, as part of my stock allocation reduction: see snapshots at Item 4, Stocks, Bonds & Politics
Sponsor's Page for MAPTX: Overview - Matthews Pacific Tiger Fund This one does has a better 10 year annualized performance at 15.8%. MAPTX has a four start rating from Morningstar.
Closing Price Last Friday: MACSX: $19.15 -0.04 (-0.21%)
I also added last week $250 to VWELX: $37.38 +0.01 (+0.03%)- Stocks, Bonds & Politics: Initiated Position in Vanguard Wellington Fund (VWELX)
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