Sunday, May 20

Week 359 - Gold Can Be Useful To Own When Markets Are In Turmoil

Situation: On April 2, 2018, a new downtrend began for the US stock market according to Dow Theory. This officially ends the Bull Market that began on March 9, 2009. Gold now becomes one of the go-to destinations for traders, along with other “safe haven” investments like Japanese Yen, Swiss Francs, US dollars, and US Treasury Bonds. When traders stop moving new money into stocks and instead resort to a safe haven, they often move some into SPDR Gold Shares (GLD at Line 15 in the Table). 

Why has the US stock market embarked on a primary downtrend? Because the risk of a Trade War has increased. But it’s a perfect storm because the Federal Open Market Committee (FOMC) of the US Treasury has also put the US stock and bond markets at risk by steadily increasing short-term interest rates. Normally when the economy falters, bonds are a good alternative to stocks. The exception happens when the FOMC raises short-term interest rates to ward off inflation: Long-term rates also rise, giving their new investors an asset that is falling in value.

An option to buying gold bullion (GLD) is to buy stock in mining companies. Gold miners are emerging from difficult times, given that the 2014-2016 commodities crash caught them competing on the basis of growth in production, which they had funded with ever-increasing debt. Now they are paying down that debt and instead competing on the basis of free cash flow, in order to reward investors (i.e., buy back stock and increase dividends).

Mission: Run our Standard Spreadsheet to analyze gold-linked investments, as well as short-term bonds. Include manufacturers of mining equipment, and other enablers like railroads and banks.

Execution: see Table.

Administration: Some advisors suggest that gold should represent 3-5% of your retirement savings. However, gold has marked price volatility but remains at approximately the same price it had 30 years ago. If you plan to hold it long-term, you’d best think of it as one of your Rainy Day Fund holdings (see Week 291).

What actions are reasonable to take when Dow Theory declares that stocks are entering a new downtrend? Gold is one of the 5 places to consider routing new money instead of stocks, the others being US dollars, Japanese Yen, Swiss Francs, and US Treasury Bonds. We’ve shown that US Treasury Bonds are not a suitable choice in a rising interest rate environment. For US investors, that leaves gold and US dollars as safe haven investments. The most inflation-resistant way to invest in US dollars is to dollar-average into 2-Yr US Treasury Notes or Inflation-protected US Savings Bonds at no cost through the government website. But for traders who are willing to pay transaction costs, the 1-3 Year Treasury Note ETF (SHY at Line 15 in the Table) is more convenient.

How best to invest in gold? Let’s start with the old lesson about how to profit from gold mining, learned during the California gold rush of 1949: Gold miners don’t make much money but their enablers do. Those are the bankers who loan them money, and the owners of companies that provide them with equipment, consumables and transportation. Go to any open-pit gold mine and the first thing you’ll notice is the massive yellow-painted trucks carrying ore. Those are made by Caterpillar (CAT at Line 6 in the Table). 

Now look at the top of the Table. The second company listed is Union Pacific (UNP). This highlights the fact that ores recovered at any mine have to be transported to smelters. The fourth company, Royal Gold (RGLD), is a Financial Services company. This highlights the fact that bankers can profit greatly from loaning money to gold miners, provided they do it in an unusual way, which is issuing loans that don’t have to be repaid in dollars but instead can be repaid by the grant of either a royalty or a specified fraction (“stream”) of gold produced over the lifetime of the mine. Royal Gold (GLD) prefers royalty contracts. The other two Financial Services companies that service gold miners prefer streaming contracts: Franco-Nevada (FNV) and Wheaton Precious Metals (WPM). 

Bottom Line: SPDR Gold Shares (GLD) will be in demand until Dow Theory declares that the downtrend in US stocks has been reversed. 2-Yr US Treasury Notes (SHY) will be in demand until the FOMC stops raising short-term interest rates. 

Risk Rating: 10 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I dollar-average into CAT, UNP and 2-Yr US Treasury Notes, and also own shares of WPM.

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Sunday, May 13

Week 358 - Hedge the Crash With Low-Beta Dividend Achievers

Situation: It’s really tough to own stocks when the market crumps. Yes, you can follow Warren Buffett’s advice and tough it out with dollar-cost averaging. His other main idea, which is to buy great businesses at a fair price, may be useful someday down the road. He hasn’t been able to find any in this overpriced market, and neither will you. But after the market crashes, you’ll both be glad you kept a hefty dollop of cash in reserve to serve that very purpose. 

But what about hedging against the crash? That’s what hedge funds are supposed to do. Why can’t you and I do it? It’s not that simple. Hedging means that your portfolio pulls ahead in a Bear Market but lags on a Bull Market. Given that the market is historically up 3 years out of 4, you see the problem with hedging. But looking deeper, volatility is what you want to hedge against. You can do that year in and year out by adopting the “School Solution”: overweight low-beta stocks in your portfolio at all times. 

By hedging against volatility, your portfolio won’t necessarily fall behind in a Bull Market. Having less volatility only means that your gains will be less than those for the S&P 500 Index in a Bull Market, AND your losses will be less in a Bear Market. It doesn’t mean you’ll underperform that Index long-term. Why? Because trending stocks become overbought in a Bull Market. But you’re underweighting those high-beta Financial Services and Information Technology stocks! Half of the market capitalization in the S&P 500 Index is currently in those two industries, vs. the long-term average of 30%. Owning high-beta stocks will make you richer faster, but you’ll have to do daily research so that you know when to BUY and when to SELL. My approach to those two industries is to dollar-average into Microsoft (MSFT), International Business Machines (IBM) and JP Morgan Chase (JPM). And keep dollar-averaging no matter what.

Mission: Run our Standard Spreadsheet to identify low-beta stocks of high quality: 
   1. S&P Bond Ratings of A- or better (Column T in the Table);
   2. S&P Stock Ratings of B+/M or better (Column U in the Table);
   3. 5-Yr Beta of less than 0.7 (Column I in the Table);
   4. Lower statistical risk of loss than the S&P 500 Index (Column M in the Table);
   5. Higher Finance Value than the S&P 500 Index (Column E in the Table)
   6. Dividend Achiever status (Column AC in the Table).

Execution: see Table.

Bottom Line: Try not to be a momentum investor. The exciting stories that underlie every Bull Market create a crowded trade for stocks issued by Financial Services and Information Technology companies. To usefully deploy the cash that’s rolling into their coffers, those companies will try to innovate and deploy new services and equipment sooner than planned. Things will get messy, bordering on chaos. Parts of the “story” will collapse, or end in court. Current examples abound. So, we’re back to the Tortoise and Hare story because it will be trotted out at the end of every market cycle. Will you channel the Hare, or will you channel the Tortoise?

Risk Rating: 4 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I dollar-average into NEE, PEP and NKE, and also own shares of KO and JNJ.

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Sunday, May 6

Week 357 - Dividend Achievers That Support Commodity Production

Situation: Commodities crashed in 2014 but the only S&P industries to be affected were Energy, Industrials (specifically railroads) and Basic Materials. A new Commodity Supercycle began to take hold in early 2017.

Which companies stand to benefit?

Mission: Under the best of circumstances, commodity-related investments are highly speculative. If you gamble at this casino long enough, you’ll lose big and win big. So, let’s confine our attention to “the best of circumstances,” i.e., set up our Standard Spreadsheet to look at companies meeting these requirements: 
   1) S&P credit rating for long-term bonds is BBB+ or better; 
   2) S&P stock rating is B+/M or better; 
   3) Long-term Debt doesn’t exceed 33% of Total Assets; 
   4) Tangible Book Value is a positive number; 
   5) the company is a Dividend Achiever.

Execution: see Table.

Administration: Seven companies meet our requirements. Only the two railroads (UNP, CSX) and Exxon Mobil (XOM) meet the key requirement Warren Buffett has for saying that a company enjoys a “Durable Competitive Advantage” (see Week 54), i.e., steady growth in Tangible Book Value exceeding 7%/yr (see Columns AD and AE in the Table). It is also important to note that all areas of commodity production (aside from aquaculture) employ equipment that digs in the dirt. That makes Caterpillar (CAT) a useful barometer, and its stock has done well since the Commodity Crash of 2014-2016.

Bottom Line: If you’ve held shares in any of these 7 companies (see Table) for more than a few years, I commend your perseverance. Stick it out awhile longer and you may be rewarded. A new Commodity Supercycle appears to be starting, and will likely take hold if China stays the course and becomes a Superpower.

Risk Rating: 8 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into Union Pacific (UNP) and Exxon Mobil (XOM).

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Sunday, April 29

Week 356 - Defensive Companies in “The 2 and 8 Club” (Extended Version)

Situation: You don’t want to lose money but you’re starting to. That comes with having your savings in an overbought stock market. It’s time for a cautionary warning light to click on in your head. That would mean moving some money into cash equivalents and making sure that at least a third of your stock portfolio is in defensive stocks, i.e., utility, healthcare, consumer staples, and telecommunication services companies. And, review the stocks you’re dollar-averaging into. Be comfortable with the prospect of building up your share-count in those stocks throughout a market crash. 

Mission: Run our Standard Spreadsheet on defensive companies in “The 2 and 8 Club” (Extended Version).

Execution: see Table.

Administration: If their dividend growth rates continue to fall, Coca-Cola (KO) and Pfizer (PFE) will no longer be members of “The 2 and 8 Club.” Conversely, Hormel Foods (HRL at Line 13 in the Table) recently raised its dividend and now has a yield that is well above the yield for the S&P 500 Index. That means it will soon be included in the US version of the FTSE High Dividend Yield Index. HRL already meets the other requirements for membership in “The 2 and 8 Club.” So, it will become a member upon being listed in that Index. The ETF for that Index is VYM (the Vanguard High Dividend Yield ETF at Line 18 in the Table).

Bottom Line: There aren’t a lot of great defensive stocks, but the 8 included in “The 2 and 8 Club” are worth your close attention. Why? Because a set of trade policies are being promulgated by several countries that restrict the cross-border flow of goods and services. If those policies blossom into a tit-for-tat Trade War, Robert Shiller (Nobel Prize winning economist) thinks a recession would be triggered: “It’s just chaos,” he said on CNBC. “It will slow down development in the future if people think that this kind of thing is likely.” 

Risk Rating: 5 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I dollar-average into NextEra Energy (NEE) and PepsiCo (PEP), and also own shares of Coca-Cola (KO) and Hormel Foods (HRL).

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Sunday, April 22

Week 355 - Companies in “The 2 and 8 Club” with a Durable Competitive Advantage

Situation: It is now 10 years since The Great Recession began with the collapse of Bear Stearns. Trust in markets was broken and has barely begun to recover. The Securities and Exchange Commission (SEC) grew out of The Great Depression because investors lost trust in markets. One of the ways it tried to rebuild trust was to require private companies to still have a strong balance sheet after a successful Initial Public Offering (IPO). If the SEC wasn’t convinced this would happen at the proposed price for the IPO, then the IPO wouldn’t be permitted.

Before the Great Recession of 2008, fewer than a third of companies in the S&P 500 Index had steadily growing Tangible Book Value (TBV), i.e., property, plant, equipment, and software priced at original cost (see Week 54, Week 94, Week 158, Week 241, Week 251, Week 271). After 2008, Balance Sheets were in need of  repair, and that was facilitated by low interest rates. Now, perhaps a quarter of S&P 500 companies again have steady TBV growth. 

Mission: Apply our Standard Spreadsheet to companies in the Extended Version of “The 2 and 8 Club” that have shown steady TBV growth (with no more than 3 down years) since 2008. Warren Buffett suggests that such companies have a Durable Competitive Advantage (see blogs listed above), as long as TBV meets the Business Case of doubling after 10 years (i.e., a growth rate of at least 7%/yr).

Execution: see Table.

Administration: Risk works both ways for stock investors, i.e., you’ll either lose or gain +20% every few years. Our investing behavior isn’t governed by numbers, so we don’t act appropriately when warning signs of a market crash emerge. Why? Because we can’t know for certain when and whether a market crash will indeed happen. Many of us will remain sitting at the table even after it has clearly become a gambling table. You know when that occurs because the risk-off investors have already cashed out. Those of us who remain are governed by a desire to have. After a few market cycles, we come to realize that having more is going to be either boring or exciting, based on one’s appetite for risk. To have more, and have it be exciting, involves good study habits and an ability to live with chronic anxiety. Simply being human will matter less and less. 

The trick is to maintain discipline 24/7/365, by using a system for monitoring and researching your investments. This has to be combined with a weird ability to stick with your system through good times and bad. Numbers won’t save you when the market is turning. Instead, you have to know whether or not the “story” that underpins the reason for each of your holdings has retained its agency. Truth be told, the moves you make (or don’t make) at turning points will come down to a gut feeling as to whether your holdings are overbought or oversold. Any decision you make at a turning point is a risk-on decision. Caveat emptor: This is not a formula for marital bliss. (Warren Buffett was mystified when his wife left to become an artist in San Francisco.)

Bottom Line: Now is a good time to have a boring investment posture, which means choosing to dollar-average into companies that have bullet-proof Balance Sheets and strong Global Brands. This week we look at the bedrock of strong Balance Sheets, which is steady growth in Tangible Book Value. Five of these 9 companies are part of S&P’s Finance Industry. Their strong Balance Sheets reflect the regulatory requirements of The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. If Dodd-Frank becomes eroded by a Risk-on Congress, you’ll have to dig deeper into Annual Reports when investing in a Financial Services company. REMEMBER: common stocks issued by Financial Services and Real Estate companies are the most risky places to park your money, aside from commodity futures.

Risk Rating: 7 (where 10-Yr US Treasury Note = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into NEE and JPM, and also own shares of CSCO and TRV.

"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.

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Sunday, April 15

Week 354 - Production Agriculture

Situation: Commodity production is quietly starting its next ~20-Yr supercycle. The last one was strong, due to the epic buildout of the Chinese economy. The coming supercycle also will be based in China, which is emerging as a superpower. For a capsule view of what’s happening, look at US soybean exports in 2016. Soybeans mainly become animal feed, and pork is the favorite source of protein for China’s burgeoning middle class. However, raw commodities in general and grains in particular remain underpriced. Why? Because advances in technology and logistics almost guarantee that supplies will outstrip demand
     “In business literature, commoditization is defined as the process by which goods that have economic value and are distinguishable in terms of attributes (uniqueness or brand) end up becoming simple commodities in the eyes of the market or consumers. It is the movement of a market from differentiated to undifferentiated price competition and from monopolistic to perfect competition. Hence, the key effect of commoditization is that the pricing power of the manufacturer or brand owner is weakened: when products become more similar from a buyer's point of view, they will tend to buy the cheapest.” 

Farmers worldwide see that their average income tends to fall, as prices paid for their average harvest tends to fall. In most years, they can’t afford to pay as much for inputs to next year’s harvest as the prior year. We’re seeing a wave of consolidation among companies that supply farmers with seeds, insecticides, herbicides, fungicides and fertilizer chemicals. Famous companies like Agrium, duPont, Dow Chemical, Syngenta, Potash Corporation of Saskatchewan, and Smithfield Foods have either merged with a competitor or been acquired. 

Mission: Use our Standard Spreadsheet to analyze the few long-established companies that remain active supporters of farm production.

Execution: see Table.

Bottom Line: Production agriculture has become commoditized. (No surprise there.) But investors can still make money in that financial space from vertically integrated meat producers, i.e., the top 4 companies listed the Table. Why do they stand out? Because China is a big country and has gone far toward eliminating poverty. A long-standing love of pork products in particular will continue to track growth of the middle class. That appetite for animal protein resulted in a 8-26% increase in beef, pork and chicken products from the US in 2017 alone, compared to an increase of only 5-6% for confectionary items, fruit, and nuts.    

Risk Rating: 8 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into MON, and own stock in Hormel Foods (HRL) and Union Pacific (UNP).


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Sunday, April 8

Week 353 - Dow Jones Companies in “The 2 and 8 Club”

Situation:The 2 and 8 Club” is based on mathematics. Specifically, William Bernstein has shown that two factors largely determine your returns from buying a dividend-paying stock. Those are: 1) Dividend Yield; 2) Dividend Growth Rate (see The Four Pillars of Investing by William Bernstein (McGraw Hill, New York, 2002, ISBN 0-07-138529-0). Add those numbers together and you arrive at a working estimate of your long-term total return. Given that you can invest in the Dow Jones Industrial Average (DIA) or the S&P 500 Index (SPY) with negligible transaction costs and expect a 7%/yr long-term total return, you’d have to shoot for 9%/yr if you were to become a stock-picker. Why? Because you’ll do a lot of research and become a trader, which means you’ll have to pay transaction costs and capital gains taxes. Accordingly, we look for stocks that have an above-market dividend yield (i.e., more than ~2%/yr) and a 5-yr dividend growth rate greater than ~8%/yr, hence our designation as “The 2 and 8 Club.” 

Mission:The 2 and 8 Club” has ~20 companies (see Week 348). Compare that to the 65-stock Dow Jones Composite Index selected by the Managing Editor of The Wall Street Journal. Apply our Standard Spreadsheet to companies that appear on both lists.

Execution: see Table showing metrics for all 9 such companies.

Administration: Our starting point is the US version of the FTSE High Dividend Yield Index, which is composed of the ~400 highest-yielding companies in the Russell 1000 Index. The Vanguard High Dividend Yield Fund ETF (VYM) clones that list and updates it monthly. After winnowing that list down to companies that have grown their dividend 8%/yr or faster, we eliminate any that do not have the 16 year trading record needed for quantitative analysis and S&P stock and bond ratings indicative of high quality (at least B+/M and BBB+, respectively). To further aid analysis, we only include companies that are on the latest annual Barron’s 500 List.

Bottom Line: Aside from NextEra Energy (NEE), these are risky stocks to own (see Column M in the Table). As a group, they’ll go up or down in price more than the market. Even if you own shares of all nine, you need to be watchful. You’ll need to learn how to spot trouble (or opportunity) well enough to sell (or buy) shares in a timely manner. But the rewards are substantial (see Columns C, F and K in the Table).

Risk Rating: 6 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into MSFT, NEE, MMM, JPM and IBM, and also own shares of CSCO, BA and CAT.

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Sunday, April 1

Week 352 - Gimme Shelter

Situation: You need to think about aligning your portfolio to “shelter in place.” A storm is coming. We just don’t know what will trigger the next market crash. A number of political, cultural, and economic factors are in play. But you do need to make lists:
   1) Which stocks that you now dollar-average into are worth continuing to dollar-average into when a market crash happens on short notice? 
   2) Which stocks do you want to hold onto throughout a market crash, so that you can reinvest or spend the dividends?  
   3) Which stocks would you sell, so as to park that money in relatively safe assets like the Vanguard High Dividend Yield Fund (VYM) and the iShares 20+ Year Treasury Bond ETF (TLT).

Mission: Use our Standard Spreadsheet to analyze companies that appear to be able to weather a market crash. In other words, which have a) less risk of loss in a crash than the S&P 500 Index (see Column M in our spreadsheets), b) low Long-Term debt (Column P), and c) positive Tangible Book Value (Column R).

Execution: see Table.

Administration: All of the companies in this week’s Table have S&P bond ratings that are A- or higher, and S&P stock ratings that are B+/M or higher (see Columns T and U). And all have at least the 16 years of weekly price points needed for quantitative data per the BMW Method. Only 9 companies meet the criteria. 

Bottom Line: Stocks crash from time to time; bonds don’t. Stock market corrections and crashes are difficult to predict, and recessions even more so. As Paul Samuelson said in 1966, “The stock market has forecast nine of the past 5 recessions.” Economies around the world are currently doing well: “Every major economy on earth is expanding at once”. This is a good time to remember that the biggest crash, which occurred on 10/19/87, did not precipitate a recession. But it did wipe out a lot of investors as $500 Billion of market value disappeared in a few hours without warning. Of course, the trick is to bulletproof part of your portfolio at all times. 

Risk Rating: 4 (where 1 = 10-Yr Treasury Notes, 5 = S&P 500 Index, 10 = gold bullion)

Full Disclosure: I dollar-average into NKE, WMT and NEE, and also own shares of TRV, KO, ATO and WEC.

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Sunday, March 25

Week 351 - Members of “The 2 and 8 Club” in the Berkshire Hathaway Stock Portfolio

Situation: We would all like to know what Warren Buffet is up to, and why (see Week 331). This week we’ll look at the 4 members of “The 2 and 8 Club” that are in the Berkshire Hathaway stock portfolio (see Table). Two of those, Coca-Cola (KO) and Wells Fargo (WFC) have long been among the top 5 holdings but the IBM holding is being reduced. The 4th company, United Parcel Service (UPS), is among several air transportation stocks recently purchased.

Mission: Provide analytics on those 4 stocks, and appropriate benchmarks, by using our Standard Spreadsheet.

Execution: see Table.

Bottom Line: Companies that pay a strong and growing dividend have always been among Warren Buffett’s favorites. The problem is that such robust returns to the shareowner are rarely sustainable. Two of these companies (KO and WFC) have had a large role in the Berkshire Hathaway portfolio for some time, all the while maintaining a high dividend yield and high dividend growth rate.  

Risk Rating: 6 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I dollar-cost average into KO and IBM.

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Sunday, March 18

Week 350 - Non “S&P 100 Index” Companies in the Extended Version of “The 2 and 8 Club”

Situation:The 2 and 8 Club” has 23 members that we have selected from the S&P 100 Index because those have a dividend yield greater than ~2%/yr, and have had a dividend growth rate of at least ~8%/yr over the past 5 years (see Week 344). By using a larger starting list than the S&P 100 Index, i.e., the Barron’s 500 List, we can add 11 companies to create the Extended Version of “The 2 and 8 Club.” 

Mission: Apply our Standard Spreadsheet to those additional 11 companies.

Execution: see Table.

Administration: All 11 companies meet requirements for membership in “The 2 and 8 Club”: 1) an S&P bond rating of BBB+ or better; 2) an S&P stock rating of B+/M or better, 3) are listed in the Vanguard High Dividend Yield Index and 4) have the 16+ years of trading records that are needed for quantitative metrics using the BMW Method.

Bottom Line: These additional 11 companies help us meet a requirement that academic studies have imposed on stock-pickers who seek to avoid Selection Bias. That requirement is to be actively trading ~40 stocks to have a good chance of beating risk-adjusted returns for “the population intended to be analyzed”, which in this case is the S&P 500 Index.

Risk Rating for the cohort of 34 companies in the Extended Version: 6 (where 1 = 10-Yr US Treasury Notes, 5 = S&P 500 Index, and 10 = gold bullion). 

Caveat Emptor: The risk of loss in a Bear Market (from investing equal amounts in all 34 stocks) is ~12% greater vs. investing in SPY, per Column M of this Week’s Blog and the Week 348 Blog. But price performance over the past 16 years is ~75% better, per Column K of those Blogs. Total Returns since the highest S&P 500 Index peak just prior to the Great Recession have been ~35% greater, per Column C in both Blogs. 

Full Disclosure: I own shares of TRV, WEC and CMI.

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Sunday, March 11

Week 349 - Dividend Achievers with high Long-term Debt offset by a Strong Global Brand

Situation: Some highly indebted companies manage to pass through economic cycles with little difficulty, even though though they sometimes find it expensive to roll-over (refinance) their Long-Term Debt. This is a conundrum, given the impairment of their Balance Sheets (debt maturing in more than one year represents more than one third of their total assets). Think of having $200,000 left on your mortgage but your household assets (including equity in your home) are only worth $600,000. 

I try to avoid investing in such companies. When I do, I look for an excuse to sell. But there has to be a rational explanation for why these companies prosper, given the cost of servicing long-term debt. Two explanations come to mind: 
   1) These companies have a lower cost of capital, since so much of their capitalization is in the form of debt, where interest payments have not been taxed until recently. (The new tax law levies a 21% tax on interest payments that consume more than 30% of earnings.) 
   2) These companies have a strong Global Brand, which is an Intangible Asset that increases their acquisition value. That is, a strong Global Brand would increase the purchase price at least 5% above Tangible Book Value.
   3) These companies sell products that are remarkably “inelastic”, meaning that sales volumes are insensitive to price: “The price elasticity of supply measures how the amount of a good that a supplier wishes to supply changes in response to a change in price.[2] In a manner analogous to the price elasticity of demand, it captures the extent of horizontal movement along the supply curve relative to the extent of vertical movement [in price]. If the price elasticity of supply is zero the supply of a good supplied is ‘totally inelastic’ and the quantity supplied is fixed.” 

Mission: Analyze high-yielding Dividend Achievers (companies that have increased their dividend annually for at least the past 10 years). Select companies that have long-term Debt amounting to more than 33% of Total Assets, as shown in Column P of the Table. Reject companies that do not have a strong Global BrandAlso reject companies that do not have A ratings from S&P for both the bonds and common stocks that they have issued (see Columns T and U in the Table). Brand rankings are shown in Columns AB-AC of the Table. Examine a comparison group of companies in the Benchmark Section of the Table

Execution: see Table.

Bottom Line: The outperformance and low price volatility of these stocks, even during difficult market conditions (see Column D in the Table), cannot be explained by unique Tangible Assets such as strong Patent Protections or Tax Advantages. That leaves Brand Values (i.e., consumers prefer a brand they can trust) and Inelasticity (i.e., unit sales are not price sensitive) to account for the resiliency of their stock prices. That resiliency ultimately comes from pricing power. 

Risk Rating: 6 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into Coca-Cola (KO), and also own shares of IBM and McDonald’s (MCD).

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Sunday, March 4

Week 348 - Capitalization-weighted Index of “The 2 and 8 Club”

Situation: Whatever your stock-picking method, you need to decide how to manage large vs. small company stocks. If most of your stocks are issued by S&P 500 companies, your benchmark is the S&P 500 Index. It’s the greyhound you’re trying to catch. You won’t be able to keep up unless you invest more in mega-cap stocks than in the remaining companies of the S&P 500 Index. (I’ll bet you wish you’d owned Boeing stock going into 2017.)

Our stock-picking method is to invest in mega-caps, specifically the S&P 100 Index companies that represent 63% of the market capitalization of the S&P 500. Membership in that Index requires their stocks to have active “exchange-listed options” on the CBOE (Chicago Board Options Exchange). That’s important because a strong market in Put and Call Options means that there will be accurate and prompt price discovery, which is the best way to protect investors from a sudden collapse in price. 


Mission: Use our Standard Spreadsheet to list the 22 S&P 100 companies that are in “The 2 and 8 Club” (see Week 327). 

Execution: see Table listing those 22 stocks by market capitalization.

Administration: We confine our attention to S&P 100 companies among the ~400 companies in the Russell 1000 Index that pay a stable above-market dividend, one that is usually above 2%/yr. The Vanguard High Dividend Yield ETF (VYM) is a capitalization-weighted Index of those 400 companies, and is updated monthly. We reject companies that have not grown their dividend ~8%/yr (or faster) over the most recent 5-Yr period. 

There are currently 22 members of “The 2 and 8 Club”. All 22 companies have BBB+ or better S&P Bond Ratings, and B+/M or better S&P Stock Ratings. Additionally, all 22 have at least the 16-yr trading record that is required for quantitative analysis by the BMW Method, which is based on stock prices that are updated every Sunday. 

Bottom Line: These 22 stocks collectively have greater volatility (see Column M in the Table) but higher long-term total returns (see Column C in the Table), than the S&P 500 Index (see the ETF SPY at Line 32 in the Table). Only 7 of the 22 have less price volatility than the S&P 500 Index (see Column M): KO, PEP, IBM, MO, UPS, NEE, TGT. If you’re not a gambler, stick to investing in those and the benchmark ETFs (SPY and VYM).

Risk Rating: 6 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10). 

Full Disclosure: I dollar-cost average into MSFT, JPM, KO and NEE, and also own shares of PFE, CSCO, PEP, IBM, MMM, MO, AMGN, TXN, CAT and TGT.

"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.

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Sunday, February 25

Week 347 - The Gretzky Rule Applied to Dividend Achievers in the Food Sector

Situation: Business people seeking to predict outcomes often quote Wayne Gretzky quote: “I skate to where the puck is going to be, not where it has been.” This highlights a problem: All of the metrics and technical charts that we use are retrospective. We’re driving forward by looking in the rear view mirror! Warren Buffett has tried to estimate outcomes by making calculations of the growth in “core earnings’ in companies that have a “Durable Competitive Advantage”. DCA companies have had a growth rate for Tangible Book Value over the most recent 10 years that exceeds 7%/yr, with no more than three down years. (c.f. The Warren Buffett Stock Portfolio, Scribner, NY, 2011 by Mary Buffett and David Clark) You can read more about such estimates of “true” Shareholder Equity by Googling Net Tangible Asset Investing

We agree with Mr. Buffett, and have learned to envision the future prospects of a company by first assessing its ability to grow Tangible Book Value. But since the Great Recession, few S&P 500 companies have even a dollar of Net Tangible Assets. Why? Because the Federal Reserve’s policy (to accelerate recovery from the Great Recession) has been to make money more freely available than ever before. Accordingly, companies favor debt financing over equity financing. Debt becomes a larger dollar amount on the Balance Sheet than equity. (Equity for most companies represents the initial cost of property, plant and equipment, which equals Tangible Book Value.) 

Mission: Use our Standard Spreadsheet to arrive at an estimate of a company’s position in its sector of the economy 10 years from now. Start by analyzing S&P 500 companies in the Food, Beverage and Restaurant sector that are Dividend Achievers, i.e., have increased their dividend annually for at least the past 10 years.

Execution: see Table.

Administration: For almost any business, the name of the game for making money is not losing money. If a stock falls 50% in price, that price must rise 200% just to get back to where it started. So, let’s start our analysis by excluding Dividend Achievers that have a 16 year record of price appreciation showing volatility which exceeds that for the S&P 500 Index (see Column M in the Table). Then, we’ll look for companies having a clean Balance Sheet (Columns P-S in the Table) and a strong Global Brand (Columns AC-AD in the Table). None of the 11 companies have a clean Balance Sheet, but Coca-Cola (KO), Costco Wholesale (COST), Target (TGT), and Walmart (WMT) come close. Those four are also the only companies that have any Tangible Book Value (see Column R in the Table) but none have grown TBV fast enough to meet Warren Buffett’s requirements for DCA (see Column AF in the Table), although Walmart (WMT) comes close. Those 4 companies are also among the 7 that have a strong Global Brand.

Bottom Line: Walmart (WMT) is the winner of this contest.

Risk Rating: 5 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10). As a group, these 11 companies had remarkably buoyant total returns during the recent commodity recession (see Column D in the Table), which saw a 24.2%/yr drop in commodity prices (see Line 21 in the Table). Of course, raw food commodities were less expensive during that period but the outperformance of the food sector is strong enough to suggest that investors tend to move money there in deflationary times. 

Full Disclosure: I dollar-cost average into Coca-Cola (KO), and also own shares of Costco Wholesale (COST), Target (TGT), Walmart (WMT), McCormick (MKC) and McDonald’s (MCD).


"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com

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Sunday, February 18

Week 346 - Dogs of the Dow

Situation: It’s that time of year again. You need to think about placing a bet or two on the Dogs of the Dow at the start of each new year. Why? Because that group contains the 10 highest-yielding stocks in the 30-stock Dow Jones Industrial Average (DJIA) and is likely to outperform the DJIA over the next year. The Dogs of the Dow have had a total return of 8.6%/yr since 2000 vs. 6.9% for the DJIA. 

SPOILER ALERT: The 10 highest-yielding DJIA stocks at the end of 2017 includes General Electric (GE), which is likely to be removed from the DJIA before the end of 2018. So, I’ve substituted the next highest-yielding stock, which is Intel (INTC).

Mission: Run our Standard Spreadsheet for the 10 highest-yielding DJIA stocks. Highlight the two members of “The 2 and 8 Club” (CSCO, IBM), as well as the two that would be members if their dividend growth rates were slightly higher, to meet the dividend growth requirement of 8.0%/yr over the past 5 years: Coca-Cola(KO) and Pfizer (PFE). 

Execution: see Table.

Administration: Four of the 10 are gambles (see Column M), likely to lose more than the S&P 500 Index in a future Bear Market: CSCO, INTC, PFE, MRK. Four are worth your attention because of being in (or nearly in) “The 2 and 8 Club”: CSCO, KO, IBM, PFE. It is also important to consider the two integrated oil companies (CVX, XOM) because their stocks are the most rational way for you to gain exposure to the Energy Industry. 

Bottom Line: The Dogs of the Dow strategy calls for buying equal dollar amounts of stock in all 10 companies on the first trading day of the new year. I’m not of that mind, but do know that these 10 companies are “blue chips.” Their valuations haven’t been impressive lately, which accounts for their high dividend yields. DJIA companies are called Blue Chips because they’re thought to be large enough and diversified enough to weather any downturn. Some of the Dogs will outperform the 30-stock DJIA in any given year, but not all of them. My plan is to bet on any Dog in “The 2 and 8 Club” that meets my criteria for brand value and balance sheet stability, which would be Cisco Systems (CSCO). 

GOOD NEWS: All 10 of these companies are projected to beat the DJIA ETF (DIA) over the next decade (see Column Y in the Table), assuming that growth rates for dividends and stock prices hold steady.

Risk Rating: 6 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I dollar-cost average into PG, XOM and KO, and also own shares of CSCO, INTC, IBM and PFE.


"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com

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Sunday, February 11

Week 345 - Natural Resource Companies in the Vanguard High Dividend Yield ETF

Situation: All natural resource companies have been affected by the 2014-2016 commodities crash. That event was largely driven by the rapid upgrade in commodities production and transportation that was needed to meet demand in China. That supply chain collapsed with the rapid defervescence in Chinese demand, and has only now returned to being in balance worldwide. 

You have to look to the dominant commodity (oil) to understand why the crash was so sudden and deep. Just as Chinese demand was tapering off, new production (from unconventional sources like oil sands and shale) was coming online in North America. Those expensive projects had seemed worthwhile in a world where a barrel of oil was often worth over $100. Oil prices then collapsed when increased production met falling demand. The largest producer (Saudi Arabia) normally would have cut production to keep prices high. But this time the Saudis chose to increase production, hoping to force shale drillers in the United States to give up their costly projects. It didn’t work. American drillers adopted new technology (e.g. horizontal drilling), cut costs, and borrowed heavily to stay in business (even though the price of oil fell to $30/bbl).

Mission: Survey the damage done to strong commodity producers, equipment suppliers, and railroads (which often invest in their main shippers). Stick to companies listed in the US version of the FTSE High Dividend Yield Index, i.e., those in VYM (Vanguard High Dividend Yield ETF).

Execution: see Table.

Administration: We find only 3 Natural Resource-related companies in the Extended Version of “The 2 and 8 Club” (see Week 329): Caterpillar (CAT), Occidental Petroleum (OXY), and Archer Daniels Midland (ADM). We have added 3 more that are in the Vanguard High Dividend Yield Index (VYM) and meet all other requirements for membership in “The 2 and 8 Club” except the requirement that dividend growth be 8%/yr (see Column H in the Table): Norfolk Southern (NSC), Deere (DE), and Exxon Mobil (XOM).

Bottom Line: No matter how you choose to invest in commodities, you’ll be buying into a high-risk asset. You need to monitor positions daily, and have cash available to fund margin calls and attractive developments. Column D summarizes the risks you’ll face (see Table): Even the best companies lose a lot of capital in a commodities crash. And the crash always starts suddenly and goes to unanticipated extremes, leaving all players affected.

Risk Rating: 9 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into XOM and own shares of CAT.


"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com

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