Friday, July 9, 2010

10 Year TIP Auction/ADDED TO ZBPRC AT 23.75- A CHICKEN BUY/Bought 100 MFC at $15.05/PARED AMPPRA-Coping With the Fed's Jihad Against Savers

Possibly the GOP candidates for Congress and Governor in Tennessee may want to fine tune their messages to this red state's populace. Their commercials generally start with an assertion that the candidate is for guns and then move on to some statement about putting a boot on the federal government's neck and being pro-life. The assertion about "being for guns" is not unexpected, since one of the primary goals of the GOP in Tennessee was to change a state law so as to permit handguns to be carried into bars and playgrounds. But, how pressing can the gun rights issue be now that the Supreme Court has extended the Second Amendment to the states and declared gun ownership basically to be on par with the Constitution's other fundamental rights including free speech. McDonald v. Chicago? Maybe there is still a pressing Constitutional issue about the right to carry automatic weapons into airport terminals, schools and kindergardens.

Due to some spam appearing in the comment section, primarily from someone writing in Chinese characters, I am not allowing comments prior to reviewing them so as to prevent the spammers from accessing this site.

1. IMF Forecast: While acknowledging that the world economy still faces major risks, the IMF raised its forecast for global growth in 2010 to 4.6% from 4.1%. The prior estimate was 4.2%. NYT This is a link to its report: IMF Survey: World Recovery Continues, But Risks Increase, Says IMF The IMF raised its estimate for U.S. growth to 3.3% in 2010 and 2.9% in 2011 from 3.1% and 2.6% respectively.

2. Jobless Claims: The market received a lift yesterday morning after the Labor Department reported that initial unemployment claims fell by 21,000 for the week ending 7/3. ETA Press Release: Unemployment Insurance Weekly Claims Report The general rule of thumb is that initial claims will have to decline below 400,000 to indicate improved hiring levels. The seasonally adjusted annual rate for the week ending 7/3 was 454,000. The number of workers who are still receiving unemployment checks fell by 224,000 to a seasonally adjusted 4.413 million. This is probably due mostly to the GOP's successful effort to block an extension of jobless benefits.

3. Walgreens (WAG)(own): Barrons attempts to make the case that the recent decline in Walgreens, occurring after a disappointing earnings report, is unjustified. WAG did recently report a 2% increase in same store sales. I discussed the last quarter's report in Item # 2 of this post: WAG

4. ADDED 30 shares to ZBPRC at $23.75-Chicken Buy and Proud of It (see Disclaimer):

I previously purchased 30 shares of ZBPRC at $18.4 and still own those shares. Bought 30 ZBPRC at 18.4 So the buy yesterday was an average up. The yield at a total cost of $23.75 is around 10%, much higher for those other 30 shares bought at $18.4. Both buys are properly characterized as chicken buys.

Previously, I did a comparison of Zions' (ZION) two equity preferred stocks, ZBPRA and ZBPRC, to determine which one made more sense to buy: Analysis of Prior Question: ZBPRA vs. ZBPRC OR ZBPRB Both securities have a $25 par value.

ZBPRA is a non-cumulative equity preferred stock that pays the greater of 4% or .52% above 3 month LIBOR. The guarantee is the applicable rate now with the LIBOR rate below .5%.

ZBPRC is a non-cumulative equity preferred stock with a fixed rate coupon of 9.5%. (Zion's recently sold a new fixed coupon equity preferred stock, ZBPRE, which I will discuss near the end of this section)

I will do a simplified analysis of the two securities making a hypothetical buy using $1000.

$1,000 to buy either ZBPRC at $23.75 or ZBPRA at $15.77
ZBPRC: 42 shares Current Annual Income Based on Fixed Coupon: $99.75
ZBPRA: 63 shares Current Annual Income Based on 4% Guarantee: $63

For ZBPRA to generate about $100 in income on 63 shares, the 3 month LIBOR would have to rise to approximately 5.8% ( .058 + .0052 spread= .0632 x $25 par value=$1.58 per share annually in dividends multiplied by 63 shares=$99.54). While the 3 month LIBOR rate has been higher than 5.8%, I would expect it to be lower than that rate most of the time.

ZBPRA and ZBPRC are both at the same level of priority, higher than common stock and lower than all bonds. Both are non-cumulative equity preferred stocks. Thus, both have the same credit risk profile.

I do not view it likely that ZION's will call ZBPRA, which is currently selling at a much larger discount to its par value than ZBPRC. I would expect ZBPRC to be called when and if Zion's recovers and can refinance at a lower rate. A coupon of 9.5% is high on a historical basis and reflects the problems experienced by this bank during the Near Depression period.

Zion's still has outstanding government preferred stock. I previously devoted part of a post explaining that both ZBPRA and ZBPRC are in parity with the government's preferred stock. If Zion's eliminated the dividend on these traditional preferred stocks, it would have to defer payment to the U.S. Government. Item # 7 Bought 50 ZBPRB in Roth at $19.9 I still own those share of ZBPRB, a TP, which has a higher priority than the traditional preferred stock which is pure equity. The underlying security in the TP is a junior bond.

I was surprised by the rate paid by Zion's for a new non-cumulative equity preferred stock which is now trading under the symbol ZBPRE. Final Prospectus Supplement This one has a par value of $25 but is selling at premium to that par value. The fixed coupon rate is 11% which is what surprised me. The issue may be called after 6/15/2012 which is one reason that I would not buy it at the current premium to its par value. If Zions is capable of refinancing this 11% coupon after that call date, I suspect that it will avail itself of that opportunity. But, if it does not redeem the security by that redemption date, the security turns into a floater, paying a whopping 10.22% above the 2 year treasury rate. While this rate is not much now, currently at an all time low, the 2 year can provide a decent yield in normal times, as shown in this weekly data since 1976 provided by the Federal Reserve. The high rate that Zions had to pay to raise these funds is at best disconcerting.

I have a negative opinion about this bank, and I am uneasy about my currently small exposure to it. After the purchase yesterday of 30 shares of ZBPRC, my current exposure consists of 100 shares of ZBPRA bought at $7.8, 50 shares of the TP ZBPRA bought at $19.9, and 60 shares of ZBPRC. I sold my shares in ZBPRA bought in the regular IRA since I no longer view Zion's non-cumulative equity preferred stocks to be appropriate for a retirement account: SOLD ZBPRA at $16.85 Bought 50 ZBPRA at 12.5 in IRA

I am willing to keep the ZBPRA held in the taxable account primarily due to the yield at the guarantee being approximately 12.8% at a total cost of $7.8 per share, and the float of .52% above the 3 month LIBOR is not bad from the perspective of a purchaser at $7.8 given the large discount at that price to the $25 par value (e.g. assuming a 6% 3 month LIBOR the yield on those shares would rise to 20.9%) I will also take more risk in the taxable account.

One point to keep in mind is that the favored tax status for qualified dividends expires at this end of this year. I really do not expect anything to be done by Congress on this issue until after the November mid-term elections. If nothing is done, then dividends will be taxed just like interest in 2011. Dividend Tax Rate in 2011? This will most likely cause non-cumulative equity preferred stocks to fall in value, all other factors (e.g. interest rates, inflation, credit worthiness, etc) remaining equal.

It is too speculative now to predict what will happen with the tax rates in 2011. One possible scenario would be a temporary extension of the qualified dividend for all taxpayers, while another potential resolution is a rise in the qualified dividend rate to say 20% from 15% for couples who are well off according to the Democrats criteria for making these kind of decisions. I would point out that a $250,000 salary goes a lot farther in Tennessee than in NYC.

These equity preferred stocks from Zions are rated deep into junk: I would not disagree with the Moody's rating at Caa3 which is one reason to have at most a very light exposure to them. The main reason for nibbling at them is their high tax advantaged yields. The equity preferred stocks pay qualified dividends whereas the TP, held in the Roth IRA, pays interest.

5. Bought 100 Manulife Financial (MFC) at $15.05 (See Disclaimer): I want to use my Canadian dollars to buy another security. Consequently, I bought the Manulife shares which are traded on the NYSE rather than the shares available on the Toronto exchange, MFC.TO. Since this is a Canadian company, I am subject to currency risk irrespective of whether the shares are bought in the U.S. using USDs or in Canada with my CADs.

Manulife is one of the largest life insurance companies in the world and owns John Hancock in the U.S. The current consensus estimate is for an E.P.S. of $1.88 in 2010 and $2.21 in 2011. MFC: Analyst Estimates At a total cost of $15.05, this would give me a forward P/E of 6.8 on the estimated per share earnings in 2011. The 5 year estimate P.E.G. is less than 1. The company is selling at less than book value and with a P/S of around .69: MFC: Key Statistics for Manulife Series Fund

I was only slightly familiar with this company before I decided to research it more thoroughly yesterday morning.

Apparently, while I am not familiar with the 2008 earnings reports, the share price took a pretty good dive in late 2008 and early in 2009. Chart In September 2008, the stock was meandering around $37 and dived to less than $8 by early March 2009. The problem was in the variable annuity business. The share price decline is not that unusual when one examines the charts for U.S. life insurance companies, including Prudential Financial and MetLife as examples.

In addition Manulife cut its quarterly dividend from 26 Canadian cents to 13 cents in 2009. Manulife Financial: Dividend History At an annual rate of 52 Canadian cents (USD 49.8 cents as of 7/8/2010) the reduced dividend still provides me with a 3.3% yield at a total cost of USD 15.05 and at least a prospect of future dividend increases, assuming Manulife's financial position and earnings continue to improve. Of course, that dividend is subject to a 15% withholding tax and its value to me when converted to U.S. dollars depends on the exchange rate at the time of conversion.

As a result of its acquisition of John Hancock in 2004, the U.S. operations now account for about 40% of MFC's profit. Another 20% is garnered by its operations in Asia.

The last earnings report for the Q/E 3/2010 , which is the only one that I read, showed a net profit of 1.1 billion CAD or about 64 Canadian cents. Growth in Asian sales was about 35%. SEC Filed Press Release

I did recall that Archie MacAllaster recommended Manulife in the 2010 mid-year Barron's Roundtable, who referred to the stock as "very cheap". The stock was then at $16.15: Roundtable

A more negative spin is given in this Seeking Alpha article which focuses on some negative comments made recently by a RBC analyst who believes the recent declines in both the stock market and interest rates will cause MFC to increase reserves. That analyst expects MFC to post a 44 cent loss compared to the consensus estimate of a profit. This article is from a blog in the Canadian paper The Globe and Mail. The stock is already near a 52 week low. Maybe I needed to wait for the dust to clear on that analyst comment before buying 100 shares.

6. 10 Year TIP Auction: I did not participate in this auction due to its anticipated low coupon rate. The coupon on the 10 year TIP auctioned yesterday is 1 1/4%. pdf With the OID, the yield is 1.295%. The coupon remains constant during the term of this security, but it is applied to a principal amount adjusted by subsequent CPI numbers in the manner explained in Treasury Inflation-Protected Securities . One advantage to buying the TIP direct at auction is that no less than the original par value of the bond will be paid at maturity. The TIP bought at auction will pay the greater of par value or the principal as adjusted by the inflation adjustment over the 10 life of this bond which matures on 7/15/2020.

7. PARED AMPPRA By Selling 50 of my 100 shares at $26.79 (See Disclaimer): I bought 100 AMPPRA at $24.75 and sold 50 of those shares at $26.79 yesterday. This is a senior bond issued by Ameriprise Financial with a maturity in 2039 and a $25 par value. I am wary of bonds that mature that far into the future. Unfortunately due to the Federal Reserve's Jihad against savers and other responsible Americans, it is necessary to go way out in duration to pick up a 8% yield on an investment grade senior bond. And, anyone investing in these long term bonds has to realize that the interest rate risk inherent in their long durations is just enormous. I lessen my risk some by paring these long bond positions periodically, usually after the receipt of a few interest payments and for a small profit.

Overall, for those long term bonds that I have purchased near par value, I will be satisfied to have any realized net profit on the shares when I am finally done selling all of them. I certainly do not want to be holding them when rates start to turn up significantly. The relationship of the long bond's value to rising interest rate is discussed throughout this blog. (See, e.g. Impact of Rising Rates on Bond Prices; Item # 2 Interest Rate Risks- Bonds;For BND: Is it Safe is not the Right Question. Instead Ask What are the Risks & Rewards/Assume Lost of Principal Possible) I have also referenced some publications discussing interest rate risk associated with long term bonds. (e.g. Starting at page 8 in this 2010 publication from T. Rowe Price; Risks of Investing in Bonds; Rising Rates and Your Investments)

My general rule of thumb will be to keep the investment grade, long bonds purchased at significant discounts to par value, mostly during the Near Depression period, and where my current yield is over 10% based on my original cost. All of the other long bonds will be traded, moving in and out, booking some profits here and there, and ultimately ending up with none of them in the portfolio. AMPPRA fits that category since it was bought near par value, at less than a 8% yield based on my cost, and maturing way too far out into the future for my comfort. Still, I am keeping 50 shares now for the income generation in the current low interest rate environment.

It is important for all of the responsible savers to realize that we are being punished for the sins of others. This has been going on for about 2 years now. The ones who made billions helping to engineer the disaster have kept their booty of course. The low interest rates and the government bailouts have restored the Masters of Disaster quickly to the compensation levels that they so richly deserve. Economists and the Masters of Disaster refer to the Fed's zero federal funds rate as monetary stimulus which means, as far as I can tell, stimulating the Masters of Disaster's incomes at the expense of responsible Americans who played no role in creating the crisis. But I would have to admit that the Fed's policy is far more effective in achieving the desired result compared to what would happen if Uncle Ben knocked on my door, requesting that Headknocker donate a few hundred grand to one of the Masters of Disaster.

Since the FED intends to punish savers for "an extended period", then I have no choice but to deal with this crusade as best as I can.


  1. You can open a regular savings account insured by FDIC at Ally Bank (online) and get 1.29% interest. Paltry, I know, but it beats the 10 year TIP.

    Did you see the NYT article about Glaxo?

    Glad to see the OG back at the helm.

  2. Cathie: If I had diabetes, I would not take Avandia even if it was helpful in controlling blood sugar levels. Fortunately, I do not have to take any prescription medicines. I do not have a position in GSK. Currently, my European pharmaceutical positions are Novartis, Roche and Sanofi.

    I have about the same yield with a different institution for an online savings account. A couple of months ago I opened a brokerage account at that online bank and started to buy income generating stocks like BMY and DUK. When rates start to turn up, I may start to sell the stocks and transfer the proceeds back into savings.

    At 1.29% it will take 54.08 years for the money to double before taxes and inflation. I doubt that I would live to see the money double at that rate, so I feel obligated to try and do better by taking more risks with some of the cash reserves.

    If the after tax yield is .9%, then it will take 77.36 years to double before inflation.

    Current CPI is reported to be about 2% a year, so the real purchasing power of money earning 1.29 before tax is declining. The real inflation rate may be higher than what the government reports due to such hypothetical constructs such as the owner equivalent rent number, as well as the exclusion of other items.

    The Shadowstats website estimates inflation running much higher than the government's number: