Thursday, January 1, 2015

Elevated Magic Software to Flyer's Basket-Added 100 at $5.91/Sold 50 KRE at $41.35/Added 50 of AINV at $7.4-Roth IRA

Big Picture: No Change

Stable Vix Pattern (Bullish):

Recent Developments: 

In the following discussion, I will be linking Morningstar's 2014 total return calculations based on net asset value per share. 

For 2014, the DJIA rose 7.52%, while the S & P performed better with an 11.39% increase (+13.68% with dividends reinvested).

Overall, it was a tough year for income investors in several categories. BDCs had a terrible year even as interest rates declined, and the discounts for several externally managed ones reached historically high levels.

UBS ETRACS Wells Fargo Business Development Co.  ETN (BDCS)= -8.27% total return based on NAV per share

Foreign bonds own by U.S. funds were down in value primarily due to the parabolic rise in the USD, as reflected in the U.S. Dollar Index (DXY) and the Bloomberg Dollar Spot Index. The rise in the USD was also a powerful headwind for foreign stocks.

SPDR Barclays International Treasury Bond ETF (BWX)= -2.49% total return based on NAV
SPDR Barclays International Corporate Bond ETF (IBND)= -4.82% total return based on NAV

The U.S. dollar had its best year since 2005. The U.S. Dollar Index (DXY) rose 12.8% during 2014.

Junk bond ETFs finished the year near break-even on a total return basis.

SPDR Barclays High Yield Bond ETF (JNK)= +.67% total return based on NAV

Long term treasuries performed much better than most investors believed possible at the start of 2014.

iShares 20+ Year Treasury Bond (TLT)=27.35% total return based on NAV

Several emerging market bond funds were hit due to credit exposure to countries like Russia, Venezuela and Argentina. Currency losses aggravated those losses caused by credit concerns.

WisdomTree Emerging Markets Local Debt ETF (ELD)= -5.45% total return based on NAV
MS Emerging Market Domestic CEF (EDD)= -14.8% total return based on NAV

MLPs started out the year in good form, but lost their price gains during the 4th quarter when crude oil went into the crapper. MLP ETNs ended the year with positive total returns due to their dividends.

JPMorgan Alerian MLP ETN (AMJ)= +3.16% total return based on NAV

Utility and REIT stocks had an excellent year, as one would expect with interest rates trending down.

Vanguard REIT ETF (VNQ)= +32.45% total return based on NAV
Vanguard Utilities ETF (VPU)= +29.26% total return based on NAV

Brent crude and gasoline futures declined 48% in 2014.  WSJ

Natural gas prices fell 32%: WSJ

Energy stocks had a down year.

Energy Select Sector SPDR ETF (XLE)= -8.61% total return based on NAV
First Trust ISE-Revere Natural Gas ETF (FCG)= -41.74% total return
SPDR S&P Oil & Gas Equipment and Services ETF (XES)= -34.66% total return

The healthcare sector had another good year:

Vanguard Health Care ETF (VHT)= +26.52%

Novartis, one of my stocks, had a 18.66% total return vs. 10.96% for the major drug index.

Coca Cola underperformed Pepsico (both owned):

KO     +5.16%
PEP  +17.06%

GE declined during the 4th quarter and ended the year down -6.67%.

INTC was one of my better large cap holdings, rising 43.29%.


1. Elevated Magic Software (MGIC) to Flyer's Basket Strategy Based on Valuation: Added 100 at $5.91 ($500 to $1,000 Flyer's Basket Strategy With Snapshots of Round Trip Trades)(see Disclaimer)

Snapshot of Trade: 

Closing Price Day of Trade Tuesday 12/30/14: MGIC: $5.94 -0.11 (-1.82%)

MGIC Historical Prices

Closing Price Day of Trade in Tel Aviv: MGIC.TA: 2,347.00 -104.00 (-4.24%)

Tel-Aviv Stock Exchange: TASE

I believe the 2,347 price is in Israeli agora. The New Israeli Shekel is divided into 100 agorot. The price in Shekels would be 23.47.

Prior Trades: I originally bought Magic Software as part of my Lottery Ticket Basket Strategy: Bought 30 MGIC at $7.9 (5/26/14 Post) The stock price had declined after Magic had sold 6.9M shares at $8.5. SEC Filing; Prospectus The price after the underwriters' discount was $7.99.

I mentioned in that May 2014 post an important caveat. There is nothing in my background that would enable me to evaluate Magic's products or services.

Based on a decline in the price, I later elevated MGIC to the Flyer's Basket Strategy based on valuation that allowed for an investment up to $1,000. I bought 100 shares at $6.8 and sold that lot at $7.61 before I had a chance to write it up here. I based that purchase primarily on statistical data and limited my exposure to a risk category that sits just above the Lottery Ticket Basket Strategy. 

2014 Sold 100 MGIC +$66.38
Selling the shares at $7.61 proved to be fortunate, since my last purchase, which is being discussed now, was at $5.91.

My interest in the stock was rejuvenated after reading a SA "Pro" article discussing Magic Software that was published earlier in December. I had not read the article until 12/30 which led me to read the last earnings report and ultimately to buy the stock later that day.

Company Description: Magic Software Enterprises Ltd. (MGIC) is a technology company based in Israel that develops, markets, sells and supports an application platform as well as business and information integration solutions. The company also offers information technology services. 

Magic Software Enterprises Profile Page at Reuters

It would not be helpful for me to describe further Magic's products and services since I have no background in technology. I would simply be parroting the descriptions provided by the company. The last SEC filed Annual Report contains a detailed description of those products and services (pages 20-28, SEC Form 20-F)

I like the progression in revenues and income shown in the following tables.

Historical Income Statements 2009-2013:

This purchase was also made on statistical data. As of 12/30/14, the consensus E.P.S. estimate for 2015 was $.56. MGIC Analyst Estimates At a $5.91 price, the forward P/E is 10.55.

The MGIC Key Statistics page at Yahoo Finance shows the following, using MGIC's financial data through 9/30/14, and based on the $5.94 closing price from 12/30/14:

P.E.G. (5 year expected): 1.73
P/S Ratio: 1.61
P/B Ratio: 1.42
Profit Margin (TTM): 10.6%
Total Cash Per Share: $84.92M
Total Debt: $2.68M
Trailing Annual Dividend Yield: 3.6%
Payout Ratio: 51%

E.P.S. growth is being restrained by the issuance of 6.9M shares during the 2014 first quarter. As far as I can tell, those funds have not been put to use. Cash and available for sale securities stood at $87.858M as of 3/31/14, SEC Filed 1st Quarter Earnings Press Release. That number was at $84.92M as of 9/30/14.

Magic Software is effectively controlled by the Israeli company Formula Systems which owns 45% of Magic's stock (page F-74, Formula Systems 20-F) Formula is in turn controlled by the Polish company Asseco who owns 50%+ of Formula's stock.

About Us | Formula Systems

An entity known as the "Denver Investment Investment Advisors, LLC" reported that it owned 10.05% of the outstanding MGIC stock as of 7/14/14.

MGIC Filings with the SEC

Last SEC Filed MGIC Annual Report: SEC Form 20-F 

Chart: MGIC was selling below its 50, 100 and 200 SMA lines when I bought stock and was showing no signs yet that it had hit a bottom. MGIC Interactive Stock Chart

One Year Comparison Chart: Brown Line is USD priced MGIC
Looking at a five year chart of the ordinary shares priced in Shekels, the price traded as low as 6 Shekels in 2010, and zoomed up to 34+ Shekels early in 2011 and then crashed to 14 Shekels later that year. The stock then made another run up to around 28 Shekels in 2012 and then fell back into a channel trading range largely between 16 and 20 Shekels for about a year. The stock then broke out of that trading range midway through 2013 and made another burst up to 34 Shekels which was killed in the 2014 first quarter when the company sold more shares in a public offering. Over the past several months, the ordinary shares have been trading mostly between 23 and 28 Shekels.

A 100 share lot will provide me with all of the excitement that my heart can withstand.

Dividends: Magic is paying a semi-annual dividend. The last dividend was U.S. $.095 per share that was paid in September 2014. Magic Press Release

MGIC also paid a $.12 per share dividend earlier in 2014. Based on the 2014 total ($.215 per share) and assuming further a total cost per share of $5.91, the dividend yield would be about 3.64%.

Magic Software Enterprises  Dividend Date &

Israel's has been withholding a 25% tax on dividends paid by Israeli companies.

Israeli Withholding Taxes on Dividends

I would not own any foreign stock subject to a withholding tax in an IRA since the tax is not recoverable, as explained in this Schwab article.

Recent Earnings Report: For the 2014 third quarter, MGIC reported a 13% Y-O-Y increase in revenues to $40.2M. Net income was reported at $4.2M or $.10 per share, down from $.11 in the 2013 third quarter. "Net income for the quarter was negatively impacted by devaluation of cash balances denominated in Euros and New Israeli Shekels following devaluation of foreign currencies versus the Dollar". Magic reports in USDs, and has significant operations in Europe and Israel (38% of revenues). There was also a 7.047M increase in the number of diluted shares Y-O-Y.  

Magic Reports Third Quarter ResultsSEC Filed Third Quarter Earnings Release

SEC Filed Earnings Press Release for the 2014 Second Quarter

Earnings Call Transcript-Seeking Alpha ("for Q4 we definitely see some good signs in terms of demand, in terms of revenues and in terms of profitability", comment by CEO at page 3)

Rationale and Risks: This selection was a value selection based on statistical criteria. Based on those current financial metrics, the stock appears undervalued based on its anticipated growth rates. The company currently has a solid financial position, but that may change based on unexpected events including the frequent lawsuits that are a part of doing business today.

The USD priced shares have been negatively impacted by the substantial decline in the Shekel and the large stock offering that increased the share count without producing earnings. The last earnings report was okay but fell flat judging from the market's reaction. The share price closed at $7.2 on 11/24/14 and ended the year at $5.95, a 17.36% decline in a little over a month.

The company summarizes risks starting at page 2 of its last SEC filed Annual Report: 20-F My concerns are expressed in that long risk disclosure.

Currency risk is material, as shown in a one year USD-ILS Interactive Chart. A USD bought about 3.41 Shekels in early August and 3.9 Shekels by year end. That 14.37% decline in the Shekel will flow through into the USD priced MGIC shares. If the decline continues, that will have a negative impact on the MGIC price and will cause the U.S. shares to underperform the ordinary shares priced in Shekels. The worst scenario, appropriately called the Double Whammy, is for the Shekel to continue its decline and for the ordinary shares priced in Shekels to fall also.

If I take the currency conversion chart out 10 years, I see wide variations in the currency exchange rates. The Shekel was relatively strong in 2008 with 1 USD buying about 3.2 Shekels in late April 2008. The Shekel then weakened to about 4.21 in March 2009 and then gain strength again to around 3.4 in March 2011.

Generally, my major concern with a small software company is that its competitors are much larger with considerably more financial and talent resources. Change can occur rapidly rendering a once popular product obsolete. Companies are required to run fast just to stay even. It is easy to fall behind as some other company leapfrogs ahead with the latest program that has more bells and whistles and costs less.  

2. Sold 50 KRE at $41.35 (REGIONAL BANK BASKET STRATEGY)(see Disclaimer): This ETF turned into a profit clip. I will invest the proceeds at some point in a higher yielding regional bank stock. 

Snapshot of Trade:
2014 Sold 50 KRE at $41.35

Snapshot of Profit:  

2014 KRE 50 Shares +$75.95
Item # 1 Bought 50 KRE at $39.55 (9/20/14)

Security Description: The SPDR S&P Regional Banking ETF (KRE) is a regional bank ETF.

KRE is currently rated 4 stars by Morningstar.

Sponsor's Website: KRE - SPDR S&P Regional Banking ETF

The expense ratio is .35%. 

Rationale: I decided to harvest the profit and to use the proceeds to buy higher yielding regional bank stocks. The SEC yield, based on the 12/31/14 closing price, is 1.59%. Many of the larger regional banks slashed their dividends during the last recession and have been very slow in increasing the payouts. I do not own any of those in my regional bank basket.

Regional banks are facing tailwinds and headwinds now. Headwinds include a compression in net interest margins, due largely to the FED's abnormal monetary policies, and an increase in regulatory costs. The tailwinds include an improving economy that results in fewer loan losses and more demand for loans. A rise in intermediate and longer term rates will relieve the net interest margin compression pressure, assuming short term rates remain near zero and the banks are able to pay almost nothing to their depositors in interest. A rise in longer term rates is not a free lunch, however, and will have several negative effects that will vary among banking institutions, including a possible slowdown in mortgage originations and lower profits or even losses on investment securities.

I already have positions in a number of banks that are owned by this ETF, including UBSI, VLY, FNB, FNFG, ONB, BPFH, FMER, FFBC, NBTB, and CBU. I also own FHN, RF and FCF as Lottos, with the later worthy of an upgrade on risk, but I am not interested in buying at the current price. Two of my Lottos are among this ETFs top ten holdings:

FNB and ONB are in my regional bank basket. Regional Bank Basket as of 12/2/14

Closing Price 12/31/14: KRE: $40.70 -0.44 (-1.07%) 

3. Added 50 AINV at $7.4-Roth IRA (see Disclaimer): I am playing a possible rebound in this stock that will hopefully start during the 2015 first quarter. Tax loss selling in BDCs is now in the rear view mirror. In a world without yield, perhaps a few investors will become hungry again for the dividends paid by pass through entities like BDCs and MLPs.  

Snapshot of Trade: 

2014 Roth IRA Added 50 AINV at $7.4

Recent Roth IRA History for AINV: 

The preceding snapshot basically summarizes what I am attempting to do with AINV. When the shares popped slightly over the net asset value per share, I liquidated my position: Item # 3 Sold 155+ AINV at $8.81 (9/20/14 Post) I harvested the dividends and escaped with a $31.27 profit. Given my disdain for externally managed BDCs, I am content to harvest their dividends and to escape with whatever profit is possible.

I then bought back 50 of those 155+ shares at $7.94. The last add at $7.4 brings me up to 100 shares. AINV went ex dividend for its quarterly distribution in between those two 50 share purchases.  

Security Description: Apollo Investment Corp.   (AINV) is one of the oldest and largest BDCs.

Prior to the Near Depression, AINV stock traded over $23 in 2007 and then made a swan dive into the low single digits which simply highlights the risks. Since August 2011, the stock has moved mostly in a narrow channel between $6.5-$9. AINV Interactive Stock Chart

The stock was trading below its 50, 100 and 200 day SMAs lines when I made this last purchase.

200 Day SMA at $8.28
100 Day SMA at $8.21
  50 Day SMA at $7.95

Net Asset Value Per Share Destruction:
Sourced 10-Q Filings
3/31/2013: $8.27
9/30/2012: $8.46
3/31/2011: $10.03
3/31/2007: $17.87

Where can I find competence and talent in those numbers? Some cynics might argue that the Masters of Disaster are at their best incinerating other people's money by the truckload.

I would emphasize that these Masters of the Universe are being paid 2% of total assets plus an incentive fees for this performance. (page 79, AINV-2014.3.31-10K;

AINV SEC Filings

Apollo Investment has a history of cutting its quarterly dividend. The first slash occurred in 2008 with the quarterly dividend reduced to $.26 from $.52 per share. AINV thereafter raised the rate to $.28 per share before slashing it again to the current quarterly rate of $.2 per share which has remained unchanged since the 2012 first quarter. In short, AINV has what I would call an ignominious dividend history. It is small comfort to AINV's long suffering shareholders that other companies have worse dividend histories (e.g. Bank of America)

Rationale and Risks: The only reason to invest in a BDC is to harvest the dividend. AINV is currently paying a quarterly dividend of $.2 per share. At at total cost of $7.4 per share, that rate generates about a 10.81% yield. I would be most satisfied to harvest that yield for a year and to sell the 100 shares currently owned in the Roth IRA for a 1 cent profit.

It does not help to receive a 10% dividend and then for the BDC to lose 10% in value over a one year period.

My goal with all BDC purchases is to harvest the dividend and to escape with any share profit. That is far easier said than done when the managers are taking the net asset value per share slowly to the ground floor. Most of the time, the market price for an externally managed BDC will hug the net asset value per share within a few percent, up or down, so a continuous downdraft in net asset value is a prescription for inevitable share losses.

To improve my chances for a profitable escape, I will generally buy when the market price is below the net asset value per share and then consider selling when the market price exceeds NAV per share by 5% or more. I have been modifying that plan recently, requiring in most cases a greater than 10% discount before considering a purchase and selling as soon as I note a cross above the last reported net asset value per share.

AINV's last reported NAV per share was $8.72. AINV-2014.9.30-10-Q The purchase at $7.4 was a 15.14% discount to that last reported number.

I have already discussed several of the important risks, including the history of net asset value per share destruction and the dividend cuts. The company discusses risks starting at page 8 of its last SEC filed Annual Report. AINV-2014.3.31-10-K

I have also recently highlighted risks in a SA Article: The Market Is Clearly Making A Distinction Between Internally And Externally Managed BDCs - Apollo Investment (NASDAQ:AINV) | Seeking Alpha

The last filed 10-Q for the Q/E 9/30/14 shows at page 21 a 13.2% exposure to oil and gas companies. AINV-2014.9.30-10Q Most of that exposure appears to be first lien secured debt, pages 8-9.

Based on the history of net asset value per share destruction, this security has to be traded in order to achieve an acceptable total return. The total annualized return is only 5.67% since 5/5/2004. Calculator While some reinvested dividends have generated positive total returns, primarily those paid during the Near Depression period when this stock cratered into the low single digits, most of the reinvested dividends have lost some of their value since the shares have depreciated in value.  I have bought AINV shares as low as $2.35.

Future Buys: I may buy 50 more share when and if the price sinks below $7. I will likely sell my highest cost lot when the market price approaches the net asset value per share.

Closing Price 12/31/14: AINV: $7.42 -0.04 (-0.54%) 

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