Monday, October 12, 2009

Unrealistic Expectations/Life Annuities/Singapore GDP/Sold EFR and Bought BTZ in Roth

1. Fixed Life Annuities : I have not purchased an annuity. After reading Mark Hulbert's column about fixed life annuities, I will give that product a good look in a few years when I am in my early 60s and after a rise in interest rates. Preferably, I would want the ten year treasury note to double from its present yield, and a 6.6% yield is not that uncommon historically: www.federalreserve.gov (weekly constant 10 year since 1962)

This particular product addresses the issue of longevity risk that can arise in one or more possible, even probable scenarios, depending on individual circumstances and the course of future events more often unpredictable than foreseen. One scenario is outliving the amount of money set aside for retirement. Another scenario was highlighted with the market's recent plunge. This annuity guarantees a level of income for life, and hence addresses those type of issues.

With interest rates low, and no need for the annuity now, I will wait to evaluate it. I can address to some degree the potential inflation problem by waiting to buy the product when interest rates are much higher than they are now, thereby giving me a higher income guarantee for the buck. Hulbert points that the payouts are linked to bond market yields which are low now. Hulbert links this web site in his article, Annuity Shopper, which I have not used, since I am not in the market now for an annuity. I did review this site's discussion of life annuities: Life Annuity A better introduction to this product can be found at Fixed Annuities. I also found this study comparing an inflation protected life annuity with a non-inflation protected one: www.ebri.org/pdf/ And this is a link to an AARP bulletin on the subject: Immediate Fixed Annuities

2. Unrealistic Expectations: Another observation worth sharing comes from Shiller's survey of prospective home buyers who anticipate on average 11.2% annualized growth in their newly purchased homes over the next 10 years. NYT This would far outstrip the likely growth rate of incomes, and is typical of the kind of unrealistic future expectations that led to the unsustainable increases in home prices between 2002 to 2007. I would not expect my home price to accelerate 5% a year in a prosperous town, located near downtown Nashville. I would most likely have to be a seller with a 10 annualized increase over a ten year period, however.

The expectation for 11.2% annualized income in home prices is just one of those mind blowing statistics and apropos of another contention that most people never learn much of anything from recent history.

On page 207 of the book, This Time is Different, the authors refer to the Case-Shiller index as deflated by the GNP deflator or CPI. Between 1996 to 2006, real home prices increased about 92 per cent. And here is the really astonishing number. That increase over one decade is more than three times the entire increase between 1890 to 1996.

Another unrealistic expectation relates to a widespread belief that stocks become safer with a long term holding period or are better than bonds or other asset classes over long periods of time, a view that gained some prominence at the hands of Professors like Jeremy Siegel and acquired some credence when viewed from the limited perspective of the long term bull market in stocks from 1982 to 1997 (I end it that bull run in 1997 rather than 2000). To Professor Siegel: Time for a Re-Think Long Term Stock Risks and Situational Risk/Managing Lost Opportunity Risk in a Long Term Secular Bull and Bear Markets Duality of Long Term Risks

An article from Jason Zweig from Saturday's WSJ points out some of the factual fallacies of this widespread belief that I have highlighted in some of the above linked posts. I would just highlight also some recent studies which indicate that the risks associated with stock ownership increases with the holding period. NYT And I would add that situational risks unique to the individual investor can magnify those long term risks when they come home to roost. When you combine the risks of the periodic black swan events that cause devastation to a stock portfolio, along with the extended periods for secular bear markets, and combine those consideration with the limited time that we all have on earth and our unique situational risks, then the thesis of stock touts starts to unravel. I recognize those risks, and try to take them into account. Those risks do not merit an all bond portfolio or an aversion to stocks. It does require flexibility and adaption to changing circumstances. I can not make the same argument, for example, for long treasuries when they were yielding 10 to 14% as I can when the yield is 4%. Nor can I make the same argument against stocks with the S & P 500 is at 670 compared to 1500.

3. Singapore GDP: Singapore's GDP increased by 14.9% in the third quarter on a seasonally adjusted and annualized basis. Singapore's trade ministry believes that a "clear" and modest recovery is underway worldwide for the next four quarters but a sustained recovery in private consumption in developed nations is necessary to sustain recovery in the second half of 2010. I would agree with that statement.

4: Jim Rogers: I watched Aaron Task's interview with Jim Rogers, who maintains that the U.S. dollar will lose its status as a reserve currency just like the British pound. He further maintains that the gold will exceed $2000 during its bull phase, though no one knows when that target will be hit. He counsels investors to hold real assets to protect themselves during the current period of currency turmoil. He is neither a buyer nor a seller of gold at current levels.

I do not know whether Rogers' predictions will turn out to be accurate. I am inclined to agree with his general thrust, but I am less certain than him of the outcome. I do not have to have his certainty however to plan now for the problems that are of concern to him and me. I have attempted to address some of my concerns by owning gold and silver, real estate, commodity ETNs like RJA, RJZ, RJI, currency ETFs like FXA & BZF (described as commodity type currencies by some), international bond ETFs, some CEFs tied to foreign bonds like FAX, more emphasis on U.S. multinationals like PG and KO, more emphasis on floating rate bonds than fixed coupon bonds, and commodity stocks. I have settled on Blackrock Real Asset (BCF) as my primary closed end fund for natural resource stocks, having sold all of my shares in IRR. I also own some shares of GCS, which I may add to only when the discount to NAV expands to at least 10%.

5. Sold CEF EFR in Roth and Bought in Its Place 100 of the CEF BTZ (see Disclaimer): I have not discussed the CEF Eaton Vance Senior Floating rate fund. This CEF has cut its dividend down to about 7 cents. I had a gain in the Roth of $261 on this security plus the monthly dividend. I substituted for it 100 shares of Blackrocks Preferred and Equity Advantage Trust (BTZ) today, filled with a market order that jumped three cents on me within a nano second, with the order filled at $11.45 by FDLM, when the screen showed the ask at $11.42 when the button was pressed.

I opted to go with BTZ for the following reasons: (1) BTZ and EFR both pay monthly dividends and both funds have reduced their monthly distributions. BTZ though is paying 10 cents which give me a yield of close to 10.5%, compared to less than 7% at EFR's current price; (2) As of Friday's close, BTZ is selling at a wider discount to par value, with the WSJ showing a 8.31% discount and EFR at 3.02% (both NAV and the discounts to NAV will change constantly of course); and (3) BTZ does have some stock exposure and is similar to another fund recently bought, JQC, from Nuveen. Added 100 JQC BTZ though has around a 20% weighting in common stocks as of 6/30: BlackRock Internet JQC is closer to 30%: JQC - Nuveen Multi-Strategy Income and Growth Fund 2

The most recently filed report with the SEC is for the period ending 7/31/09: btz.htm The main disadvantage of this fund is that it is leveraged, which will have to monitored. It is okay to be leveraged when the assets bought with the borrowed money are going up in value as now, and the interest rate cost is still relatively low. When rates start to rise, the benefits of leverage can disappear, or even swing to a negative, and leverage hurt this fund during the bear market for a simple reason-the more you owned the more you lost. Personally, I have never bought anything stock on margin. I do not even have a margin account. I will nibble at some leveraged CEFs and will hopefully recognize when the leverage starts to work against them, though that is difficult to do in real time.

BTZ is ex dividend tomorrow, which is an irrelevant consideration in the ROTH. I am not concerned about buying a taxable event in a retirement account.

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