The market received a small lift yesterday on BHP Billiton's unsolicited bid to acquire Potash for 38.6 billion. WSJ The managers and Board of BHP are either off of their rocker or the world is not entering a doom and gloom deflation scenario, the prediction du jour of the talking heads. The earnings from WAL MART STORES, while not stellar, did not provide solace to those predicting a collapse in consumer spending. WMT raised its guidance for fiscal year 2011 to an EPS of $3.95 to $4.05. Pactiv (PTV) agreed to be acquired by the Reynolds Group yesterday in a transaction valued at 6 billion. PTV shareholders will receive $33.25 in cash. Prior to the release of news regarding a potential takeover, PTV shares were trading at $23.97 in May. More information about the Reynolds Group is available at its web site: Reynolds Packaging The company is controlled by New Zealand's richest man. NYT And, the government reported that producer prices rose .2% last month and .3% excluding food and energy prices.
At least until late in the day, the market was rethinking its doom and gloom scenario based on the foregoing, no longer quite as certain of its prediction of a Japanese style funk overtaking the U.S. for the next 30 years, with the DJIA rising to 10,480.443 in afternoon trading below falling late in the day to close up 103.84.
JNJ rose $1.21 yesterday after Berkshire disclosed that it had raised its stake. Before that rise, JNJ common shares were yielding about 3.72%. The lunacy in bond land is in my view proven beyond any doubt, reasonable or otherwise, by those investors who snapped up a 10 year JNJ bond yielding 2.95%. Even if JNJ did not raise its dividend from its current level over the next 10 years, a preposterous assumption, the owner of the common purchased at Monday's closing price would receive .77% more per year than those bond investors. Of course, JNJ has raised its dividend for as long as I can remember and will likely continue to do so every year for the next ten years, increasing the advantage of the stock investor just on a current yield basis. And, are we to assume that JNJ share's will at no time present an opportunity to harvest a decent capital gain at some point before 2020? While I am not an expert on mental illness, a cogent layman's argument could be made that anyone buying that JNJ bond, rather than the stock, needs to have a conservator appointed to manage their money. And, it hardly needs an explanation why none of them should be managing anyone else's money.
1. Sold 300 HSF at 6.01 on Monday (see Disclaimer): HSF is a bond CEF that I purchased at 5.76 in mid-May. HSF just cut its monthly distribution from $.031 to $.0275, so I placed it on my disposal list. HSF is in the process of merging into another closed end fund, BDF, which I currently own in the ROTH IRA. BDF Acquisition of HSF HSF was ex dividend on Monday. When I bought the shares in May, the monthly dividend was $.0315 which was reduced to $.031 in July. The Hartford Income Shares Fund
2. Construction Loans and Wilmington Trust: I mentioned in Monday's post that it is impossible for an individual investor to know whether a bank is adequately provisioning for loan losses. An article in USATODAY yesterday highlights this problem. In that article, it is noted that 16.8% of construction loans were 90 or more days past due as of 3/31/2010. When the bank makes a construction loan, part of the loan is placed in reserve to make interest payments. Thus, it is possible that an abandoned project will not show up as non-performing since interest payments on the loan may still be current. The article also refers to practices known as "extend and pray" and "delay and pray". When a bank follows these practices, it may not be recognizing the full extent of potential losses. The foregoing explains one reason for the basket strategy in regional banks. Regional Bank Stocks' Basket Strategy I do not want to invest a significant amount of money in any of them since I expect that several of them will surprise me with unanticipated losses.
By way of an example, I sold my shares in Wilmington Trust (WL) after it released an earnings report for the 4th quarter of 2009. I was spooked by the bank reporting a significant loss when the consensus estimate was for a small gain. Sold 100 Wilmington Trust (WL) at $14.13 I did not know then the full extent of the problem. Apparently, institutional investors did not know either, as the price of Wilmington shares gradually recovered and rallied to almost $20 per share by April, making me look overly cautious. Wilmington Trust Corporation Co Chart | WL Then, Wilmington issued its 1st quarter report, proving that the bank's losses were going to be worse than anticipated by investors. The stock started to sink and is now trading at just over $9 per share. The last quarterly report for the June quarter marked the fifth straight quarterly loss. I read a Reuters article that mentioned that the bank had a new CEO. During the conference call with the new CEO, there was a public recognition by the bank that there was a culture at the bank to make bad loans.
The only way for me to have known about the problems in southern Delaware, where the bank apparently made a large number of bad loans to finance vacation and retirement homes, was to visit the area. I would need to go the register of deeds and find out exactly where Wilmington was making loans and how much was being borrowed by developers. Then I would need to eyeball all of the property and talk to real estate professionals in the area. Then, I might be able to make an informed judgement in early 2010 whether or not Wilmington was adequately recognizing actual and potential bad loans. Obviously, analysts do not do that and that is their job. And, I am in no position to do any of that kind of research. Instead, I have to work off instinct and whether something smells right. For Wilmington, something did not smell right after the 2009 4th quarter report was released so I dumped the shares. This kind of approach may end up being premature or just wrong, based on subsequent events, but it falls under the LB motto of "better safe than sorry".
3. Added 100 shares of the CEF ERC at $15.2489 on Tuesday (see disclaimer): This brings my position in a taxable account to 350 shares and represents an average up. I view this purchase to be a replacement for the 300 HSF sold on Monday. ERC used to be called the Evergreen Multi-Sector Income Fund. It is now managed by Wells Fargo, Wells Fargo Advantage Multi-Sector Income Fund - Wells Fargo Advantage Funds. This funds pays monthly dividends, always viewed as preferable to quarterly distributions, and the current rate is $.1083. A number of CEF bond funds are cutting their distributions as reinvestment options are generally at a lower yield than historical holdings. If ERC maintains that dividend rate, which is far from assured, then the yield at a total cost of $15.25 would be around 8.52%. I would not count on that rate continuing. Nonetheless, it is better than HSF which has already cut its monthly distributions.
I last discussed ERC when I made a previous buy at $14.14. Prior to that purchase, I bought shares at $12.96 in July 2009. I have always taken the distribution in cash. So far, ERC has done well for an income investment where I am generally satisfied to collect the income distributions and to sell the shares at any kind of profit.
The NAV information can be found at the sponsor's web site, linked above. It can also be found at the Market data page for CEF's under "other taxable " and at the Closed-End Fund Association. As of Monday's close, the discount to NAV was 3.82% based on a NAV of $15.95 and a closing price of $15.34. The discount to NAV rose to 4.2% on Tuesday as the NAV increased two cents while the market price fell 4 cents.
A multi-market bond CEF will hold all kinds of bonds, domestic and foreign. It would be the most broadly based bond CEF. The fund is leveraged which is fine at the current low rates and the generally favorable market for bonds. It will not be okay when rates start to rise and/or bond prices start to go down significantly. The double whammy for a leveraged bond fund results when the cost of borrowing rises significantly at the same time as the securities bought with those borrowed funds suffer material declines in value.
The last filed SEC shareholder report, for the six month period ending in April 2010, contains more information about this fund. The expense ratio after waivers and before interest expense is shown at page 4 at 1.04%.
Morningstar rates the fund 3 stars. In my opinion, leveraged bond CEFs are not long term investments and have to be traded based on some external condition, such as a rise in the 3 month Libor rate to a specific point or an increase in the 10 month treasury note beyond a trigger point, or an increase in the spread of corporate bonds to comparable treasuries above a certain percentage, or some combination of those kind of sell triggers.
I will have to discuss the remaining purchases in the next post.