Situation: You’d like not to outlive your retirement savings. And you probably want to find a path toward that goal that doesn’t involve gambling. For that reason, non-gamblers who work on Wall Street have traditionally invested in bonds because bond pricing is stable unless the borrower faces bankruptcy. Even then, the creditor gets back most of the money owed, after the court liquidates and distributes the borrower’s assets. High quality bonds also come with fairy dust. They go up in price during recessions. Stock pricing depends on the perceived value of future cash flows discounted to the present. High quality stocks mostly go down in price during recessions because cash flows depend on demand for the company’s goods and services.
Bonds now pay only enough interest to cover inflation. You have little choice but to invest in “bond-like” stocks that don’t fall much in value during recessions, and maybe even go up. Examples include Wal-Mart and McDonald’s, both of which went up during the Lehman Panic. We’ve constructed the 2016 Master List around that idea. It starts of course with companies that pay a good and growing dividend, the ones S&P calls Dividend Achievers because they’ve raised their dividend annually for at least the past 10 yrs. Those companies have a captive audience of some sort, people who will keep shelling out cash for a product or service, even during recessions.
Mission: Identify Dividend Achievers likely to hold their value during recessions.
Execution: You’ll know them by how little their total return to investors fell during the most recent “bear market” in an important asset class. That would be the middle two quarters of 2011, when the S&P 400 MidCap Index ETF (MDY) fell 21%. We exclude any Dividend Achiever from consideration if one or more of the following conditions apply:
1. Revenues are insufficient to warrant inclusion in the 2016 Barron’s 500 List;
2. S&P bond rating is less than BBB+ or (in the absence of a rating) debt/equity is less than or equal to one;
3. S&P stock rating is less than B+/M (or S&P assigns a denominator of “H” to the rating, denoting high risk of loss to the investor);
4. WACC exceeds ROIC;
5. Finance Value (Column E in our Tables) falls more than for the Vanguard 500 Index Fund (VFINX);
6. Dividend yield is less than for VFINX;
7. 16-yr CAGR is less than for the S&P 500 Index (^GSPC);
8. Dividend yield + 16-yr CAGR is less than 11.4%. NOTE: this metric has predictive value for Net Present Value (NPV) and is highlighted in yellow at Column Q in the Table;
9. Predicted loss to the investor at 2 standard deviations below 16-yr price CAGR is more than 36% (see Column P in the Table).
Bottom Line: We’ve found 24 Dividend Achievers in the 2016 Barron’s 500 List that defy gravity. All 24 have outgrown the Vanguard S&P 500 Index Fund (VFINX) over the past 16 yrs AND dropped no more in Finance Value during the 2011 bear market than did MDY, the S&P 400 MidCap Index ETF (see Column E in the Table). More importantly, the first 10 companies in the Table beat out 10-Yr Treasury Notes in Finance Value. Thirteen of the 24 improved their cash flow and sales numbers in 2015 compared to 2014 (highlighted in green in Columns R & S of the Table). All 24 continue to more than repay their cost of capital (see Columns AB and AC in the Table). The discounted cash flow (NPV) over the next 10 yrs, projected from 16-yr dividend and price appreciation rates by using a 9%/yr discount rate, shows that all 24 are likely to beat out Berkshire Hathaway (BRK-A), MDY, Microsoft (MSFT), and VFINX (see Columns W-AA in the Table).
Risk Rating: 4 (where 1 = Treasury Notes and 10 = gold).
Full Disclosure: I dollar-average into JNJ and NEE, and own shares of GIS, KO and MCD.
Note: Metrics are current for the Sunday of publication. Metrics highlighted in red denote underperformance relative to our key benchmark (VBINX at Line 37 in the Table). NPV inputs are listed and justified in the Appendix for Week 256.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Showing posts with label ITR Master List. Show all posts
Showing posts with label ITR Master List. Show all posts
Sunday, July 10
Sunday, December 7
Week 179 - The ITR “Master List” for Fall 2014
Situation: Twice a year, we try to look into the future using the lens of the past. Currently, the US stock market has reached a plateau due to overvaluation. Alan Greenspan, in his recent book “The Map and the Territory” (The Penguin Press, New York, 2013), explains overvaluation by saying that "demand to acquire the stock of a company is sated as the company becomes adequately funded [and such companies] will yield low prospective rates of profit until the excess capital is withdrawn and presumably reinvested in more promising ventures." In other words, there is no such thing as a stock that looks like a good bet year in and year out. That’s why you need to pick stocks wisely and then dollar-cost average your choices.
You’ve no doubt noticed that our Master List keep getting shorter as the risk of a Bear Market increases. We began with 34 (large and small) companies (see Week 5) and now we’re down to 10 large companies (see Table). Those 10 are chosen from our 9 Lifeboat Stocks (see Week 174) and 17 Core Holdings (see Week 172). We eliminate any that aren’t "Dividend Aristocrats" (25+ yrs of dividend growth) or lost more during the Lehman Panic than the 28% that our “risk-on” benchmark (VBINX) lost.
This week, for the first time, we ask whether you’d be better off investing in all 10 of those companies, or would you be better off investing in Vanguard Wellesley Income Fund (VWINX), which is the “risk-off” benchmark that we recommend for retirement portfolios. It is not too difficult to build a portfolio of stocks with a higher dividend yield and/or faster dividend growth rate than the S&P 500 Index, particularly if you stick to companies have grown their dividend annually for at least 25 yrs. Those companies have a long and stable history of rewarding their investors through good times and bad. By owning shares in a few such companies you can look forward to receiving dividend checks in retirement that grow faster than inflation. But will you end up with more retirement assets by doing that? This week’s blog tries to answer that question.
Long term, VWINX has been the most stable and rewarding mutual fund. It is balanced roughly 40:60 between high quality stocks and investment-grade bonds, respectively. VWINX has returned 10.6%/yr over the past 35 yrs, which is identical to the return for the lowest-cost S&P 500 Index fund, the Vanguard 500 Index Fund (VFINX). Bonds in VWINX go up in value whenever stocks go down. That means VWINX has had only 4 down years in 35 (average loss of 6.3%) vs. 8 for VFINX (average loss of 11%). The lesson here is to hedge your stocks with high quality bonds. We suggest that you use inflation-protected US Savings Bonds because those never lose money and carry all the tax advantages of an IRA.
We’ve blogged often about the risk of owning individual stocks, and use several metrics like 5-yr Beta (Column I in our Tables) to highlight that risk. But there’s only one sure-fire metric: How much did investors lose during the last Bear Market (Column D in our Tables)? Warren Buffett likes to make analogies about core principles, and his analogy for this one is “You can only tell who’s swimming naked when the tide goes out.” With bonds, risk is easier to gauge because the interest that a corporate bond pays vs. the interest that a US Treasury bond (with the same maturity) pays is a direct measure of credit risk. The difference between those two interest rates is called “the spread” and the higher the spread, the riskier the bond. In other words, you’re paid more interest because you’re willing to take on more of the risk of bankruptcy. US Savings Bonds purchased online at treasurydirect are a zero-cost, tax-advantaged way to invest in 10-yr US Treasury Notes, the safest investment on the planet (according to Warren Buffett). You’ll appreciate having those Savings Bonds available to fund the non-recurring capital expenditures that are bound to appear during the next market calamity. (You certainly won’t want to sell stocks at a loss.)
The 10 “buy and hold” stocks in this week’s Table include 4 Hedge Stocks (see Week 150): WMT, CB, JNJ, PEP. Those stocks don’t need to be backed with inflation-protected Savings Bonds (ISBs). To answer our question (Is it better to invest in those 10 stocks or in VWINX?), we’ll make a virtual investment of $50/mo in each of the 10 stocks ($500/mo) backed by another virtual investment of $300/mo in ISBs. (Thus, you see 6 entries for ISBs in the Table). We’ve made stock purchases online at a dividend reinvestment sites like computershare or shareowneronline wherever transaction costs can be less than ~2%/yr. If the costs are higher, we’ve resorted to using a discount brokerage like Edward Jones (one of several that are available). For our virtual portfolio, we found it necessary to do that for 3 stocks (GWW, CB, PEP), buying one a year in that order. Our virtual investment then totaled $1800 once a year for 3 yrs with reinvested dividends, which accomplishes the same goal as investing $50/mo for 3 yrs at a dividend reinvestment site online.
Bottom Line: You can construct a 10-stock portfolio and be ahead of VWINX while maintaining the same risk profile (e.g. a 5-yr Beta of ~0.45). Over the past 14 yrs, our virtual portfolio returned ~9.5%/yr vs. ~7.3%/yr for VWINX. However, that ~2.2%/yr advantage is reduced to ~1.8%/yr after you subtract transaction costs of ~0.4%/yr: $321.65 spent during the first 3 yrs (Column R in the Table) divided by an investment of $28,800 = 1.12%, which is ~0.4%/yr. Dividend yield plus dividend growth is also better with 10 stocks than with VWINX (8.6% vs. 2.2%, see Columns G and H in the Table). During retirement, you’ll probably be able to cash those quarterly dividend checks without needing to sell the underlying shares, as opposed to having to sell shares of VWINX to come up with the same amount of cash. Of course, there is greater selection bias in picking 10 stocks than in owning shares of a managed stock/bond mutual fund like VWINX. Getting an extra ~1.8%/yr might justify the additional time and energy you’ll spend managing your portfolio but always consider opportunity costs. For example, a better choice for building retirement wealth might be to invest in VWINX, then use the time and energy you’ve saved to further your education and get a better day job.
Risk Rating: 3
Full Disclosure: I dollar-average into ISBs, WMT, ABT, and PEP. I also own shares of HRL, JNJ, and BDX.
NOTE: Metrics in the Table are current as of the Sunday of publication.
Post comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
You’ve no doubt noticed that our Master List keep getting shorter as the risk of a Bear Market increases. We began with 34 (large and small) companies (see Week 5) and now we’re down to 10 large companies (see Table). Those 10 are chosen from our 9 Lifeboat Stocks (see Week 174) and 17 Core Holdings (see Week 172). We eliminate any that aren’t "Dividend Aristocrats" (25+ yrs of dividend growth) or lost more during the Lehman Panic than the 28% that our “risk-on” benchmark (VBINX) lost.
This week, for the first time, we ask whether you’d be better off investing in all 10 of those companies, or would you be better off investing in Vanguard Wellesley Income Fund (VWINX), which is the “risk-off” benchmark that we recommend for retirement portfolios. It is not too difficult to build a portfolio of stocks with a higher dividend yield and/or faster dividend growth rate than the S&P 500 Index, particularly if you stick to companies have grown their dividend annually for at least 25 yrs. Those companies have a long and stable history of rewarding their investors through good times and bad. By owning shares in a few such companies you can look forward to receiving dividend checks in retirement that grow faster than inflation. But will you end up with more retirement assets by doing that? This week’s blog tries to answer that question.
Long term, VWINX has been the most stable and rewarding mutual fund. It is balanced roughly 40:60 between high quality stocks and investment-grade bonds, respectively. VWINX has returned 10.6%/yr over the past 35 yrs, which is identical to the return for the lowest-cost S&P 500 Index fund, the Vanguard 500 Index Fund (VFINX). Bonds in VWINX go up in value whenever stocks go down. That means VWINX has had only 4 down years in 35 (average loss of 6.3%) vs. 8 for VFINX (average loss of 11%). The lesson here is to hedge your stocks with high quality bonds. We suggest that you use inflation-protected US Savings Bonds because those never lose money and carry all the tax advantages of an IRA.
We’ve blogged often about the risk of owning individual stocks, and use several metrics like 5-yr Beta (Column I in our Tables) to highlight that risk. But there’s only one sure-fire metric: How much did investors lose during the last Bear Market (Column D in our Tables)? Warren Buffett likes to make analogies about core principles, and his analogy for this one is “You can only tell who’s swimming naked when the tide goes out.” With bonds, risk is easier to gauge because the interest that a corporate bond pays vs. the interest that a US Treasury bond (with the same maturity) pays is a direct measure of credit risk. The difference between those two interest rates is called “the spread” and the higher the spread, the riskier the bond. In other words, you’re paid more interest because you’re willing to take on more of the risk of bankruptcy. US Savings Bonds purchased online at treasurydirect are a zero-cost, tax-advantaged way to invest in 10-yr US Treasury Notes, the safest investment on the planet (according to Warren Buffett). You’ll appreciate having those Savings Bonds available to fund the non-recurring capital expenditures that are bound to appear during the next market calamity. (You certainly won’t want to sell stocks at a loss.)
The 10 “buy and hold” stocks in this week’s Table include 4 Hedge Stocks (see Week 150): WMT, CB, JNJ, PEP. Those stocks don’t need to be backed with inflation-protected Savings Bonds (ISBs). To answer our question (Is it better to invest in those 10 stocks or in VWINX?), we’ll make a virtual investment of $50/mo in each of the 10 stocks ($500/mo) backed by another virtual investment of $300/mo in ISBs. (Thus, you see 6 entries for ISBs in the Table). We’ve made stock purchases online at a dividend reinvestment sites like computershare or shareowneronline wherever transaction costs can be less than ~2%/yr. If the costs are higher, we’ve resorted to using a discount brokerage like Edward Jones (one of several that are available). For our virtual portfolio, we found it necessary to do that for 3 stocks (GWW, CB, PEP), buying one a year in that order. Our virtual investment then totaled $1800 once a year for 3 yrs with reinvested dividends, which accomplishes the same goal as investing $50/mo for 3 yrs at a dividend reinvestment site online.
Bottom Line: You can construct a 10-stock portfolio and be ahead of VWINX while maintaining the same risk profile (e.g. a 5-yr Beta of ~0.45). Over the past 14 yrs, our virtual portfolio returned ~9.5%/yr vs. ~7.3%/yr for VWINX. However, that ~2.2%/yr advantage is reduced to ~1.8%/yr after you subtract transaction costs of ~0.4%/yr: $321.65 spent during the first 3 yrs (Column R in the Table) divided by an investment of $28,800 = 1.12%, which is ~0.4%/yr. Dividend yield plus dividend growth is also better with 10 stocks than with VWINX (8.6% vs. 2.2%, see Columns G and H in the Table). During retirement, you’ll probably be able to cash those quarterly dividend checks without needing to sell the underlying shares, as opposed to having to sell shares of VWINX to come up with the same amount of cash. Of course, there is greater selection bias in picking 10 stocks than in owning shares of a managed stock/bond mutual fund like VWINX. Getting an extra ~1.8%/yr might justify the additional time and energy you’ll spend managing your portfolio but always consider opportunity costs. For example, a better choice for building retirement wealth might be to invest in VWINX, then use the time and energy you’ve saved to further your education and get a better day job.
Risk Rating: 3
Full Disclosure: I dollar-average into ISBs, WMT, ABT, and PEP. I also own shares of HRL, JNJ, and BDX.
NOTE: Metrics in the Table are current as of the Sunday of publication.
Post comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, April 20
Week 146 - Spring 2014 Master List
Situation: You’d like to have a list of solid stocks to consult for your “personal” retirement plan. That’s the investment plan you're keeping outside of your “workplace” plan. We think you should focus on dividend-paying stocks issued by companies with a long history of increasing their dividend annually. Why? Because the rate those dividends increase at will exceed the rate of inflation (see Column H in the Table). That means the “personal” part of your retirement income will mainly consist of quarterly dividend checks that arrive in the mail, which differs from the “workplace” part of your income because it doesn’t get eaten up by inflation.
Mission: Come up with a list of stocks that are safe multi-decade investments.
Execution: We’ll start with the list of 54 companies in our “universe” (see Week 122). That list initially held 51 companies but we’ve found 3 more. There are 3 criteria that stocks must meet to be included in the list: 1) be a Dividend Achiever (see buyupside.com) with 10 or more consecutive years of dividend increases; 2) be cited in the Barron’s 500 List for outstanding growth in cash-flow based return on invested capital over the past 3 yrs and growth in revenues over the past year; 3) have an S&P credit rating of “A-” or better (see Standard and Poors).
We’ve improved on that list by removing companies that aren’t Dividend Aristocrats (see buyupside.com), i.e., those with 25 or more years of dividend increases, and companies that don’t perform as well as Warren Buffett’s newly-released savings plan for retail investors (see line 45 in the Table): "Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. (I suggest Vanguard's.) I believe the trust's long-term results from this policy will be superior to those attained by most investors -- whether pension funds, institutions, or individuals -- who employ high-fee managers." What’s that? He writes a letter each year to investors in Berkshire Hathaway as though it were a letter to "non-financially literate" friends who have Berkshire Hathaway stock in their “trusts.” In this year’s letter (part of which is quoted above), he advises readers to simply invest in two of the Vanguard mutual funds, allocating 90% to the Vanguard 500 Index Fund (VFINX in the Table) and 10% to a short-intermediate term bond index fund. (We use IEF in the Table because he subsequently indicated that the bond fund should exclusively invest in US Treasury issues). He also likes Berkshire Hathaway stock (BRK-A in the Table) but that doesn’t pay dividends, meaning that you’d have to periodically sell some shares to help meet your retirement expenses.
We have 28 companies left (see Table). Fourteen are in “defensive” industries (utilities, telecommunications, consumer staples, and healthcare); we call those “Lifeboat Stocks” because they don’t sink in bad weather. Five are in the two highest risk industries (Energy and Materials), and the remaining 9 are in “growth” industries (finance, information technology, consumer discretionary, and industrial products). As always, red highlights denote metrics that underperform our favorite benchmark, the Vanguard Balanced Index fund (VBINX), which is essentially a well-hedged (40% bonds) S&P 500 Index fund. Like Warren Buffett, we think you can dispense with investment advisors and simply pick from Vanguard’s index funds. We differ in thinking you should be 40% invested in a general bond index rather than 10% invested in a short-term bond index. But there’s a very high likelihood you’ll make more money in the long run by taking his advice over ours. If, however, you start your retirement during a recession you might find that the 10% you’ve invested in a short-intermediate term bond index (IEF) doesn’t last very long, and you might have to sell some of your stock index fund (VFINX) at a loss to get by.
Bottom Line: Which of the 28 companies should you pick for your personal retirement plan? Well, 3 are what we call “hedge stocks” (see Week 140): MCD, KO and JNJ. Those are good choices because they don’t need to be backed by an equivalent investment in 10-yr US Treasury Notes or Savings Bonds (treasurydirect.gov), both being available in inflation-protected versions. (You can also use the IEF index fund noted above but that doesn’t guarantee return of your initial investment.) We suggest, along with most investment advisers, that you strive for broad diversification. That means start with one stock from each of the 10 S&P industries. Aside from the 3 industries already represented by MCD (consumer discretionary), KO (consumer staples) and JNJ (healthcare), you’ll want to consider ED (utilities), T (telecommunications), CB (financials), GWW (industrials), ADP (information technology), XOM (energy) and NUE (materials).
Risk Rating: 4.
Full Disclosure of current investment activity relative to stocks in the Table: I dollar-average into Dividend Reinvestment Plans at computershare.com for XOM, KO, JNJ, ABT, WMT and PG.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Come up with a list of stocks that are safe multi-decade investments.
Execution: We’ll start with the list of 54 companies in our “universe” (see Week 122). That list initially held 51 companies but we’ve found 3 more. There are 3 criteria that stocks must meet to be included in the list: 1) be a Dividend Achiever (see buyupside.com) with 10 or more consecutive years of dividend increases; 2) be cited in the Barron’s 500 List for outstanding growth in cash-flow based return on invested capital over the past 3 yrs and growth in revenues over the past year; 3) have an S&P credit rating of “A-” or better (see Standard and Poors).
We’ve improved on that list by removing companies that aren’t Dividend Aristocrats (see buyupside.com), i.e., those with 25 or more years of dividend increases, and companies that don’t perform as well as Warren Buffett’s newly-released savings plan for retail investors (see line 45 in the Table): "Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund. (I suggest Vanguard's.) I believe the trust's long-term results from this policy will be superior to those attained by most investors -- whether pension funds, institutions, or individuals -- who employ high-fee managers." What’s that? He writes a letter each year to investors in Berkshire Hathaway as though it were a letter to "non-financially literate" friends who have Berkshire Hathaway stock in their “trusts.” In this year’s letter (part of which is quoted above), he advises readers to simply invest in two of the Vanguard mutual funds, allocating 90% to the Vanguard 500 Index Fund (VFINX in the Table) and 10% to a short-intermediate term bond index fund. (We use IEF in the Table because he subsequently indicated that the bond fund should exclusively invest in US Treasury issues). He also likes Berkshire Hathaway stock (BRK-A in the Table) but that doesn’t pay dividends, meaning that you’d have to periodically sell some shares to help meet your retirement expenses.
We have 28 companies left (see Table). Fourteen are in “defensive” industries (utilities, telecommunications, consumer staples, and healthcare); we call those “Lifeboat Stocks” because they don’t sink in bad weather. Five are in the two highest risk industries (Energy and Materials), and the remaining 9 are in “growth” industries (finance, information technology, consumer discretionary, and industrial products). As always, red highlights denote metrics that underperform our favorite benchmark, the Vanguard Balanced Index fund (VBINX), which is essentially a well-hedged (40% bonds) S&P 500 Index fund. Like Warren Buffett, we think you can dispense with investment advisors and simply pick from Vanguard’s index funds. We differ in thinking you should be 40% invested in a general bond index rather than 10% invested in a short-term bond index. But there’s a very high likelihood you’ll make more money in the long run by taking his advice over ours. If, however, you start your retirement during a recession you might find that the 10% you’ve invested in a short-intermediate term bond index (IEF) doesn’t last very long, and you might have to sell some of your stock index fund (VFINX) at a loss to get by.
Bottom Line: Which of the 28 companies should you pick for your personal retirement plan? Well, 3 are what we call “hedge stocks” (see Week 140): MCD, KO and JNJ. Those are good choices because they don’t need to be backed by an equivalent investment in 10-yr US Treasury Notes or Savings Bonds (treasurydirect.gov), both being available in inflation-protected versions. (You can also use the IEF index fund noted above but that doesn’t guarantee return of your initial investment.) We suggest, along with most investment advisers, that you strive for broad diversification. That means start with one stock from each of the 10 S&P industries. Aside from the 3 industries already represented by MCD (consumer discretionary), KO (consumer staples) and JNJ (healthcare), you’ll want to consider ED (utilities), T (telecommunications), CB (financials), GWW (industrials), ADP (information technology), XOM (energy) and NUE (materials).
Risk Rating: 4.
Full Disclosure of current investment activity relative to stocks in the Table: I dollar-average into Dividend Reinvestment Plans at computershare.com for XOM, KO, JNJ, ABT, WMT and PG.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, September 8
Week 114 - Mid-2013 Master List
Situation: Every investor needs a short list of carefully-screened stocks to kick-start her own research. We try to do that by revising our ITR Master List quarterly (see Week 92 for discussion). The problem is the competition that we stockpickers face: well-hedged mutual funds like Vanguard Wellesley Income (VWINX) and BlackRock Global Allocation A (MDLOX), ETFs like Vanguard Consumer Staples (VDC), conglomerates like Berkshire Hathaway (BRK-B), and large corporations that get most of their revenues from diverse international markets, like 3M (MMM), Exxon Mobil (XOM), Procter & Gamble (PG), Coca-Cola (KO), Johnson & Johnson (JNJ), and McDonald’s (MCD). All of these have done as well or better than the S&P 500 Index: Let’s look at 9-yr Total Returns/yr since the same point in the last bull market (i.e., Aug, 2004), compared to the lowest-cost S&P 500 Index fund--the Vanguard 500 Index (VFINX) which has returned 7.4% through 8/13/2013):
VWINX: 7.4%
MDLOX: 8.5%
VDC: 10.8%
BRK-B: 8.4%
MMM: 7.5%
MCD: 19.3%
XOM: 10.4%
PG: 7.4%
KO: 9.8%
JNJ: 8.8%
All of the above stocks have their ups and downs but you’re not going to lose money by owning shares in any of them over an extended period of time. By equal-weighting your initial investment in all 10 stocks and then practicing dollar-cost averaging, you’re likely to succeed at net-net-net investing (turning a profit after transactions costs, inflation, and taxes, see Week 28 and Week 112) over the next 10 yrs. I’m not alone in this opinion. For example, Warren Buffett has sold several derivative contracts that pay if the S&P 500 Index doesn’t exceed ~1100 (it’s already ~1700) on a fixed date between 2019 and 2028. In the meantime, he collects big premiums on the contracts. But if he loses the bet, Berkshire Hathaway has to pay billions of dollars to the counterparties. (These are amounts that exceed the interim premium payments over 5-fold.) He thinks the main risk of loss has to do with nuclear war.
So where does that leave our new screen for ITR Master List stocks? Well, some of the above names keep popping up: Coca-Cola, McDonald’s, and Johnson & Johnson. To stay ahead of the game, we recently altered our approach, and the screen no longer excludes companies that have a dividend yield less than the Vanguard 500 Index Fund (VFINX). Why? Because dividends reduce free cash flow (FCF), which is free money that can be used to grow the company. The only alternative way for a company to expand is to issue more stocks and/or bonds, which is not only expensive but also lowers the stock price and can handicap innovation. Looking at the 18 stocks in the Table, you’ll see that 9 currently have a lower dividend yield than VFINX. Nonetheless, 15 are what S&P calls Dividend Achievers because they’ve increased dividends annually for the last 10 or more yrs. The exceptions are Costco Wholesale (COST), CVS Caremark (CVX), and AmerisourceBergen (ABC), all 3 of which are within 2 yrs of being designated Dividend Achievers.
To screen, we started with the Barron’s 500 table, where companies are ranked on the basis of recent growth in sales and cash flow. Then we excluded any company with a 3-yr Beta greater than the 3-yr Beta for Vanguard Balanced Index Fund (VBINX), which is 0.88, AND any that lost more than the 28% that VBINX lost during the Lehman Panic (10/07-4/09). We also excluded companies that couldn’t match or exceed VBINX in terms of Total Return/yr since 9/1/00 (the low point in the previous market cycle), AND over the past 5 yrs. Finally, companies that are mainly funded by loans and companies that have less than an A- rating from S&P were excluded. Of the remaining 18 companies, 12 (Table) are from one of the 4 “defensive” industries (see Table). Defensive industries are considered to be consumer staples, healthcare, utilities and communication services because their products have low elasticity (i.e., people pay up for their products even when the economy sucks). Therefore, those 12 defensive stocks, which were picked up by our screen, are what we like to call Lifeboat Stocks (see Week 106): WMT, UGI, HRL, GIS, SO, NEE, ABT, SJM, JNJ, ABC, CVS, KO. The 6 companies from non-defensive industries include 5 “consumer discretionary” companies: ROST, FDO, MCD, TJX, COST and one “materials” company (SHW). Four non-defensive industries have no representation in our ITR Master List, and those are: Energy, Industrials, Financials, and Information Technology. Why is that? Risk! All are latecomers to the party when the economy begins to emerge from recession, and their stocks tend to fall the furthest in value during the recession. It’s those industries that make you shy away from investing in an S&P 500 Index fund like VFINX. In other words, your natural instinct is to leave the party just as the punch is getting spiked.
Bottom Line: Our ITR Master List cues you to buy stock in companies that help build retirement savings without ruining your sleep. Coca-Cola (KO) is the most nervous-making company on our Mid-2013 ITR Master List. We know you can live at peace owning KO stock because Warren Buffett tells you so almost every time he’s on TV. All of the companies on the list are well-valued by investors so you need to set up a dividend reinvestment plan (DRIP) for each one you select. Why? They’re expensive now because future earnings have already been discounted in their share price. That means you’ll want to start with a small investment and keep adding that same amount on a regular basis, e.g. by setting up a DRIP with automated monthly withdrawals from your checking account. The advantage is that you’ll get to buy more shares using the same number of dollars when the price inevitably falls.
Risk Rating: 4
Full Disclosure: I make monthly automatic additions to DRIPs in WMT, NEE, ABT, JNJ, and KO.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
VWINX: 7.4%
MDLOX: 8.5%
VDC: 10.8%
BRK-B: 8.4%
MMM: 7.5%
MCD: 19.3%
XOM: 10.4%
PG: 7.4%
KO: 9.8%
JNJ: 8.8%
All of the above stocks have their ups and downs but you’re not going to lose money by owning shares in any of them over an extended period of time. By equal-weighting your initial investment in all 10 stocks and then practicing dollar-cost averaging, you’re likely to succeed at net-net-net investing (turning a profit after transactions costs, inflation, and taxes, see Week 28 and Week 112) over the next 10 yrs. I’m not alone in this opinion. For example, Warren Buffett has sold several derivative contracts that pay if the S&P 500 Index doesn’t exceed ~1100 (it’s already ~1700) on a fixed date between 2019 and 2028. In the meantime, he collects big premiums on the contracts. But if he loses the bet, Berkshire Hathaway has to pay billions of dollars to the counterparties. (These are amounts that exceed the interim premium payments over 5-fold.) He thinks the main risk of loss has to do with nuclear war.
So where does that leave our new screen for ITR Master List stocks? Well, some of the above names keep popping up: Coca-Cola, McDonald’s, and Johnson & Johnson. To stay ahead of the game, we recently altered our approach, and the screen no longer excludes companies that have a dividend yield less than the Vanguard 500 Index Fund (VFINX). Why? Because dividends reduce free cash flow (FCF), which is free money that can be used to grow the company. The only alternative way for a company to expand is to issue more stocks and/or bonds, which is not only expensive but also lowers the stock price and can handicap innovation. Looking at the 18 stocks in the Table, you’ll see that 9 currently have a lower dividend yield than VFINX. Nonetheless, 15 are what S&P calls Dividend Achievers because they’ve increased dividends annually for the last 10 or more yrs. The exceptions are Costco Wholesale (COST), CVS Caremark (CVX), and AmerisourceBergen (ABC), all 3 of which are within 2 yrs of being designated Dividend Achievers.
To screen, we started with the Barron’s 500 table, where companies are ranked on the basis of recent growth in sales and cash flow. Then we excluded any company with a 3-yr Beta greater than the 3-yr Beta for Vanguard Balanced Index Fund (VBINX), which is 0.88, AND any that lost more than the 28% that VBINX lost during the Lehman Panic (10/07-4/09). We also excluded companies that couldn’t match or exceed VBINX in terms of Total Return/yr since 9/1/00 (the low point in the previous market cycle), AND over the past 5 yrs. Finally, companies that are mainly funded by loans and companies that have less than an A- rating from S&P were excluded. Of the remaining 18 companies, 12 (Table) are from one of the 4 “defensive” industries (see Table). Defensive industries are considered to be consumer staples, healthcare, utilities and communication services because their products have low elasticity (i.e., people pay up for their products even when the economy sucks). Therefore, those 12 defensive stocks, which were picked up by our screen, are what we like to call Lifeboat Stocks (see Week 106): WMT, UGI, HRL, GIS, SO, NEE, ABT, SJM, JNJ, ABC, CVS, KO. The 6 companies from non-defensive industries include 5 “consumer discretionary” companies: ROST, FDO, MCD, TJX, COST and one “materials” company (SHW). Four non-defensive industries have no representation in our ITR Master List, and those are: Energy, Industrials, Financials, and Information Technology. Why is that? Risk! All are latecomers to the party when the economy begins to emerge from recession, and their stocks tend to fall the furthest in value during the recession. It’s those industries that make you shy away from investing in an S&P 500 Index fund like VFINX. In other words, your natural instinct is to leave the party just as the punch is getting spiked.
Bottom Line: Our ITR Master List cues you to buy stock in companies that help build retirement savings without ruining your sleep. Coca-Cola (KO) is the most nervous-making company on our Mid-2013 ITR Master List. We know you can live at peace owning KO stock because Warren Buffett tells you so almost every time he’s on TV. All of the companies on the list are well-valued by investors so you need to set up a dividend reinvestment plan (DRIP) for each one you select. Why? They’re expensive now because future earnings have already been discounted in their share price. That means you’ll want to start with a small investment and keep adding that same amount on a regular basis, e.g. by setting up a DRIP with automated monthly withdrawals from your checking account. The advantage is that you’ll get to buy more shares using the same number of dollars when the price inevitably falls.
Risk Rating: 4
Full Disclosure: I make monthly automatic additions to DRIPs in WMT, NEE, ABT, JNJ, and KO.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, April 7
Week 92 - Quarterly Update of Master List - Q1 2013
Situation: In assembling The ITR Master List for stocks, we need to be detail-oriented and non-speculative (see Week 43, Week 52, Week 65 and Week 78 for review). Otherwise, you might as well invest in the lowest-cost S&P 500 Index fund (VFINX). Why? Because its total return can’t be beat on a long-term, risk-adjusted basis. But that degree of risk (as we know from 2008 when the Index lost 37.22%) could wipe out a large chunk of your savings just as you’re beginning retirement. So, if you’ve been a steady reader of this blog we know you’re striving to accumulate stocks and mutual funds that will do almost as well as VFINX but with half the risk.
Here at ITR, we dial back the inherent risk of stocks by looking for companies that
1) pay a dividend of at least the 15-yr moving average for the S&P 500 Index (1.8%);
2) have increased dividends annually for at least 10 yrs;
3) have increased dividends at least as fast the S&P 500 Index (6.5%/yr);
4) have an S&P A-rating on their common stock;
5) are less than 50% capitalized by long-term debt;
6) have a return on invested capital (ROIC) sufficient to cover their cost of capital, which is at least 8%/yr for companies other than banks;
7) have positive free cash flow per The WSJ.
Our database is the S&P Dividend Achievers, the 201 companies that have increased their dividend annually for at least the past 10 yrs (plus those into their 10th year of raising dividends). In our Table this week, we show only the 16 stocks that lost less than 65% as much as VFINX during the 18-month Lehman Panic. We’ve added our favorite balanced fund for comparison, the Vanguard Wellesley Income Fund (VWINX).
Bottom Line: Just remember to invest a little at a time on a regular basis, which is most easily done by using a dividend reinvestment plan (DRIP). And maintain at least half a dozen DRIPs.
Risk Rating for the aggregate of 16 stocks: 4.
Full Disclosure: I own small amounts of stock in MCD, WMT, HRL, MKC, KO, JNJ, PEP, XOM, CVX, BDX, CHRW and PG--to get the annual reports e-mailed to me as soon as possible, and to “eat my own cooking.”
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Here at ITR, we dial back the inherent risk of stocks by looking for companies that
1) pay a dividend of at least the 15-yr moving average for the S&P 500 Index (1.8%);
2) have increased dividends annually for at least 10 yrs;
3) have increased dividends at least as fast the S&P 500 Index (6.5%/yr);
4) have an S&P A-rating on their common stock;
5) are less than 50% capitalized by long-term debt;
6) have a return on invested capital (ROIC) sufficient to cover their cost of capital, which is at least 8%/yr for companies other than banks;
7) have positive free cash flow per The WSJ.
Our database is the S&P Dividend Achievers, the 201 companies that have increased their dividend annually for at least the past 10 yrs (plus those into their 10th year of raising dividends). In our Table this week, we show only the 16 stocks that lost less than 65% as much as VFINX during the 18-month Lehman Panic. We’ve added our favorite balanced fund for comparison, the Vanguard Wellesley Income Fund (VWINX).
Bottom Line: Just remember to invest a little at a time on a regular basis, which is most easily done by using a dividend reinvestment plan (DRIP). And maintain at least half a dozen DRIPs.
Risk Rating for the aggregate of 16 stocks: 4.
Full Disclosure: I own small amounts of stock in MCD, WMT, HRL, MKC, KO, JNJ, PEP, XOM, CVX, BDX, CHRW and PG--to get the annual reports e-mailed to me as soon as possible, and to “eat my own cooking.”
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 27
Week 82 - 37 Dividend-Growing Hedge Stocks in the S&P 500 Index
Situation: Many of you have been interested in our Lifeboat Stocks category (see Week 8) and have followed the updates (see Week 23 & Week 50) we’ve posted. We’ve created this category of stocks in an attempt to take your interest off risky investments and provide a class of investment that will provide some security for doing as well as the overall market. In other words, Lifeboat Stocks are an introduction into a hedging strategy. Hedge Funds, you’ll remember from our blogs on the topic (see Week 46 & Week 76), seek to beat the S&P 500 Index over long time periods while sidestepping market downdrafts. They achieve this by having an overall low Beta--something lower than 0.65, and that means holding lots of bonds to backstop what could be chancy investments like stocks in emerging markets.
But there are also stocks that behave in a bond-like manner. Of these, regulated utilities are the main group, with master limited partnerships (which operate oil and gas pipelines) being the second largest group. Both encompass government regulation alongside government subsidies, which act to tempt investors into financing upfront fixed costs that are huge. In other words, government regulation is accepted by investors because returns are stable and bankruptcy is not a concern. But there is also a third option for hedging, and that is what we call hedge stocks because they behave like hedge funds. There are 37 stocks in the S&P 500 Index that have beaten the index over the past 15 years, partly by falling less than 65% as far as the index during the Lehman Panic, and have a 5-yr Beta of less than 0.65 (Table).
You might expect most of those stocks to be from the 3 “defensive” S&P industries that contribute our Lifeboat Stocks, namely: Utilities, Health Care, and Consumer Staples. And you would be right:
8 are utilities: Southern (SO), NextEra Energy (NEE), Dominion Resources (D), PG&E (PCG), Consolidated Edison (ED), Sempra Energy (SRE), Xcel Energy (XEL), Wisconsin Energy (WEC).
4 are Health Care companies: Abbott Laboratories (ABT), AmerisourceBergen (ABC), CR Bard (BCR), Johnson & Johnson (JNJ).
15 are Consumer Staples companies, subdivided into 4 groups.
7 food stocks: PepsiCo (PEP), Hormel Foods (HRL), General Mills (GIS)
HJ Heinz (HNZ), Hershey (HSY), JM Smucker (SJM), McCormick (MKC).
4 housewares stocks: Procter & Gamble (PG), Colgate-Palmolive (CL), Kimberly-Clark (KMB), Clorox (CLX).
2 broad discounters: Wal-Mart Stores (WMT), Costco (COST).
2 tobacco stocks: Altria (MO), Lorillard (LO).
Interestingly, that leaves 10 companies that are from the remaining 7 “non-defensive” S&P industries:
3 Consumer Discretionary: Family Dollar Stores (FDO), McDonald’s (MCD), TJX Stores (TJX).
3 Materials: Ecolab (ECL), Sherwin-Williams (SHW), Bemis (BMS).
2 Financial: Chubb (CB), Progressive (PGR).
1 Industrial: CH Robinson Worldwide (CHRW).
1 Technology: International Business Machines (IBM).
For comparison, the Table includes several benchmarks (in capital letters) ranked at their respective Finance Value: gold bullion, the largest gold mining stock (ABX), the largest hedge fund (BRK-A), 3 bond funds, and 3 stock funds. Red flags are used to denote concerns, or underperformance vs. the lowest cost S&P 500 Index fund with data extending over 15 years (VFINX).
Bottom Line: A single stock is at least 3 times riskier than a single investment-grade bond, so you need to own well-chosen stocks to come out ahead. The 37 stocks highlighted in the Table are special in that they don’t need to be backed with an equal investment in a safe bond (e.g. an inflation-protected US Savings Bond) as long as you pick several. If you’re only going to pick a few, then pick from the ten that compose our Master List (Week 78) and don’t have red flags in Columns I through L of the Master List Table: WMT, IBM, JNJ, PEP, MCD, ABT, NEE, CHRW, HRL, MKC (in order of stock market value).
Risk Rating: 3.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
But there are also stocks that behave in a bond-like manner. Of these, regulated utilities are the main group, with master limited partnerships (which operate oil and gas pipelines) being the second largest group. Both encompass government regulation alongside government subsidies, which act to tempt investors into financing upfront fixed costs that are huge. In other words, government regulation is accepted by investors because returns are stable and bankruptcy is not a concern. But there is also a third option for hedging, and that is what we call hedge stocks because they behave like hedge funds. There are 37 stocks in the S&P 500 Index that have beaten the index over the past 15 years, partly by falling less than 65% as far as the index during the Lehman Panic, and have a 5-yr Beta of less than 0.65 (Table).
You might expect most of those stocks to be from the 3 “defensive” S&P industries that contribute our Lifeboat Stocks, namely: Utilities, Health Care, and Consumer Staples. And you would be right:
8 are utilities: Southern (SO), NextEra Energy (NEE), Dominion Resources (D), PG&E (PCG), Consolidated Edison (ED), Sempra Energy (SRE), Xcel Energy (XEL), Wisconsin Energy (WEC).
4 are Health Care companies: Abbott Laboratories (ABT), AmerisourceBergen (ABC), CR Bard (BCR), Johnson & Johnson (JNJ).
15 are Consumer Staples companies, subdivided into 4 groups.
7 food stocks: PepsiCo (PEP), Hormel Foods (HRL), General Mills (GIS)
HJ Heinz (HNZ), Hershey (HSY), JM Smucker (SJM), McCormick (MKC).
4 housewares stocks: Procter & Gamble (PG), Colgate-Palmolive (CL), Kimberly-Clark (KMB), Clorox (CLX).
2 broad discounters: Wal-Mart Stores (WMT), Costco (COST).
2 tobacco stocks: Altria (MO), Lorillard (LO).
Interestingly, that leaves 10 companies that are from the remaining 7 “non-defensive” S&P industries:
3 Consumer Discretionary: Family Dollar Stores (FDO), McDonald’s (MCD), TJX Stores (TJX).
3 Materials: Ecolab (ECL), Sherwin-Williams (SHW), Bemis (BMS).
2 Financial: Chubb (CB), Progressive (PGR).
1 Industrial: CH Robinson Worldwide (CHRW).
1 Technology: International Business Machines (IBM).
For comparison, the Table includes several benchmarks (in capital letters) ranked at their respective Finance Value: gold bullion, the largest gold mining stock (ABX), the largest hedge fund (BRK-A), 3 bond funds, and 3 stock funds. Red flags are used to denote concerns, or underperformance vs. the lowest cost S&P 500 Index fund with data extending over 15 years (VFINX).
Bottom Line: A single stock is at least 3 times riskier than a single investment-grade bond, so you need to own well-chosen stocks to come out ahead. The 37 stocks highlighted in the Table are special in that they don’t need to be backed with an equal investment in a safe bond (e.g. an inflation-protected US Savings Bond) as long as you pick several. If you’re only going to pick a few, then pick from the ten that compose our Master List (Week 78) and don’t have red flags in Columns I through L of the Master List Table: WMT, IBM, JNJ, PEP, MCD, ABT, NEE, CHRW, HRL, MKC (in order of stock market value).
Risk Rating: 3.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 13
Week 80 - 2012 Total Return for the Growing Perpetuity Index
Situation: The US economy has improved but only enough for job growth to keep up with population growth. The stock market, on the other hand, is pointing to the likelihood that the rate of economic expansion (GDP) will soon double to more than 3%/yr. We’re in a bull market, which we define as the S&P 500 Index outperforming the “blue-chip” 65-stock Dow Jones Composite Index. During 2012, there was a wide gap between the two with the S&P 500 Index gaining 13% vs. 5% for the Dow Jones Composite Index. Those are price-only indices so dividends, which are ~30% greater for the blue-chip index, aren’t counted. Therein lies the problem! Fear of going over the “fiscal cliff” had investors pulling money out of stocks that pay good dividends. Those dividends would have been taxed approximately twice as much had we gone over the cliff. We didn’t and are predicting that 2013 will see a renewed interest in dividend-paying stocks.
It’s time to update our previously published Growing Perpetuity Index (GPI, see Week 66). The 12 companies in our GPI are the bluest of blue-chips, and had an average Total Return of only 3.8% (Table). For 5 and 10 yr periods, the GPI handily outperformed the S&P 500 Index, as well as the Vanguard Dividend Growth Fund, a more appropriate benchmark for the GPI (Table). We have separated those 12 stocks into two groups, 7 that are low risk and 5 that are high risk.
Warren Buffett has stated on several occasions that stocks having a 5-yr Beta greater than 0.7 are best avoided. And the better hedge funds generally have 5-yr betas of less than 0.7. Indeed, at the May 2012 annual meeting of Berkshire Hathaway, Mr. Buffett indicated that a group of 5 above-average hedge funds lost 35% less than the S&P 500 Index during the Lehman Panic (Week 46). In other words, those hedge funds had a 5-yr Beta of less than 0.65. That is why we have recently started breaking our blog tables into two groups: an upper group that lost less than 65% as much as the S&P 500 Index during the Lehman Panic and had a 5-yr Beta less than 0.65, vs. a lower group that doesn’t meet that standard (see Week 78).
Our GPI has 7 such companies in the top group (Table): Wal*Mart (WMT), McDonald’s (MCD), NextEra Energy (NEE), IBM (IBM), Johnson & Johnson (JNJ), Coca-Cola (KO) and Procter & Gamble (PG). Those 7 had an average total return of 8% in 2012. More importantly, the aggregate data for those 7 stocks (line 9 of the Table) is impressive. Only two other A-rated dividend-paying stocks in the S&P 500 Index can come close to matching that data set, namely, Darden Restaurants (DRI) and General Mills (GIS). Darden Restaurants’ credit rating is too low to warrant inclusion in our Master List (Week 78) and General Mills has only raised its dividend for 6 consecutive yrs, instead of the 10 required for inclusion in the Master List. A recent hit movie (“Moneyball” based on the 2003 book of the same name by Michael Lewis) dwelt on this point by showing that a baseball team composed of players that individually had a low market value could outperform richer teams if those players collectively had a high on-base percentage. This concept came earlier to the investment world, in the early 1980s, when Michael Milken showed that “fallen angels” (corporate bonds that had slipped below an investment-grade rating) could give good results if, as a group, key ratios were at an investment grade level.
The point here is that every company’s competitive advantage is a work in progress. Some years the pieces fall together nicely but other years see a potent competitor taking market share. Only by holding a number of well-chosen stocks can you pull ahead of the pack.
Bottom Line: If you’re within 15 yrs of retirement, confine your stock-picking to tickers with a 5 yr Beta of less than 0.65 that lost less than 65% as much as the S&P 500 Index during the Lehman Panic.
Risk Rating: 3.
It’s time to update our previously published Growing Perpetuity Index (GPI, see Week 66). The 12 companies in our GPI are the bluest of blue-chips, and had an average Total Return of only 3.8% (Table). For 5 and 10 yr periods, the GPI handily outperformed the S&P 500 Index, as well as the Vanguard Dividend Growth Fund, a more appropriate benchmark for the GPI (Table). We have separated those 12 stocks into two groups, 7 that are low risk and 5 that are high risk.
Warren Buffett has stated on several occasions that stocks having a 5-yr Beta greater than 0.7 are best avoided. And the better hedge funds generally have 5-yr betas of less than 0.7. Indeed, at the May 2012 annual meeting of Berkshire Hathaway, Mr. Buffett indicated that a group of 5 above-average hedge funds lost 35% less than the S&P 500 Index during the Lehman Panic (Week 46). In other words, those hedge funds had a 5-yr Beta of less than 0.65. That is why we have recently started breaking our blog tables into two groups: an upper group that lost less than 65% as much as the S&P 500 Index during the Lehman Panic and had a 5-yr Beta less than 0.65, vs. a lower group that doesn’t meet that standard (see Week 78).
Our GPI has 7 such companies in the top group (Table): Wal*Mart (WMT), McDonald’s (MCD), NextEra Energy (NEE), IBM (IBM), Johnson & Johnson (JNJ), Coca-Cola (KO) and Procter & Gamble (PG). Those 7 had an average total return of 8% in 2012. More importantly, the aggregate data for those 7 stocks (line 9 of the Table) is impressive. Only two other A-rated dividend-paying stocks in the S&P 500 Index can come close to matching that data set, namely, Darden Restaurants (DRI) and General Mills (GIS). Darden Restaurants’ credit rating is too low to warrant inclusion in our Master List (Week 78) and General Mills has only raised its dividend for 6 consecutive yrs, instead of the 10 required for inclusion in the Master List. A recent hit movie (“Moneyball” based on the 2003 book of the same name by Michael Lewis) dwelt on this point by showing that a baseball team composed of players that individually had a low market value could outperform richer teams if those players collectively had a high on-base percentage. This concept came earlier to the investment world, in the early 1980s, when Michael Milken showed that “fallen angels” (corporate bonds that had slipped below an investment-grade rating) could give good results if, as a group, key ratios were at an investment grade level.
The point here is that every company’s competitive advantage is a work in progress. Some years the pieces fall together nicely but other years see a potent competitor taking market share. Only by holding a number of well-chosen stocks can you pull ahead of the pack.
Bottom Line: If you’re within 15 yrs of retirement, confine your stock-picking to tickers with a 5 yr Beta of less than 0.65 that lost less than 65% as much as the S&P 500 Index during the Lehman Panic.
Risk Rating: 3.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, December 30
Week 78 - Master List Update (Q1 2013)
Situation: The time has come to provide sober guidance about saving for retirement. For most people, mutual funds are the best route to take and we’ve listed our 5 favorites in the accompanying Table. We remind you that you should not have more than 20% of your assets in a single fund, or 5% in a single stock. As noted in our Week 3 blog (see Goldilocks Allocations), it is also important to balance your stock investments 1:1 with bonds. Our 5 mutual funds do that when you have 20% of your retirement savings in each.
Whew! Now for the fun stuff, which is to generate a list of stock picks that meet our investment criteria. Previously, we’ve agonized over company fundamentals like efficiency (ROIC), long-term debt, and having enough free cash flow to pay for dividend increases (FCF/div). In this blog, we’re going to let you do that for yourself by using red warning flags in the 3 right hand columns of the Table (courtesy of data from the WSJ). This way, you’ll see the entire “universe of data” we analyze, starting with the 199 companies at the Buyupside website called Dividend Achievers. Those companies have had 10 or more consecutive years of dividend increases. We’ve added Occidental Petroleum (OXY) which will qualify come January first.
Next, we eliminate any company with a dividend yield less than the 15-yr moving average for the S&P 500 Index (1.8%). Then we eliminate any company that doesn’t have an S&P stock rating of A/M or better AND an S&P bond rating of BBB+ or better.
The remaining 49 companies can be split into two groups, those whose stocks lost less than 65% as much as the S&P 500 Index during the Lehman Panic AND had a 5-yr Beta of less than 0.65. Those 19 companies are less risky that the others, and make up the first group at the top of the Table. The 30 remaining companies are in the second group, and the 5 mutual funds (mentioned above) compose the third group.
Which of the top 19 stocks are particularly attractive to the risk-averse investor? We think those are the ones that pay a higher dividend than most others AND grow that dividend faster. I use a 3:7:10:50 standard for finding those good "income" stocks. By this I mean there is at least a 3% dividend yield, at least a 7% dividend growth rate, at least a 10% ROIC (5% for a regulated utility), and less than 50% capitalization from bonds. Six in the top 19 meet that standard: JNJ, ABT, PEP, PG, NEE, MCD. However, we eliminate Abbott Labs (ABT) because it is breaking up into two companies, so we’re down to 5.
Those readers who are over 55 and have little in the way of retirement savings should pay attention to these 5 reliable income producing stocks. We’ll aggregate the data from those, to augment our guidance for late-stage investors (see Retirement on a Shoestring Week 14 & Week 15). These 5 stocks are so bond-like that you needn't bother hedging them with an equal investment in bonds or bond funds. But you do need to “dollar-average” equally into all 5 DRIPs. We'll call this group "Stand Alone Stocks" and put their aggregate data at the bottom of the Table for comparison with aggregate data for the 5 mutual funds we mentioned.
Bottom Line: Recent academic studies show that returns from less risky (more bond-like) stocks are as great as returns from more risky stocks. Read this recent analysis by Mark Hulbert to open your eyes to the importance of holding such stocks in your portfolio.
Risk Rating: 4.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Whew! Now for the fun stuff, which is to generate a list of stock picks that meet our investment criteria. Previously, we’ve agonized over company fundamentals like efficiency (ROIC), long-term debt, and having enough free cash flow to pay for dividend increases (FCF/div). In this blog, we’re going to let you do that for yourself by using red warning flags in the 3 right hand columns of the Table (courtesy of data from the WSJ). This way, you’ll see the entire “universe of data” we analyze, starting with the 199 companies at the Buyupside website called Dividend Achievers. Those companies have had 10 or more consecutive years of dividend increases. We’ve added Occidental Petroleum (OXY) which will qualify come January first.
Next, we eliminate any company with a dividend yield less than the 15-yr moving average for the S&P 500 Index (1.8%). Then we eliminate any company that doesn’t have an S&P stock rating of A/M or better AND an S&P bond rating of BBB+ or better.
The remaining 49 companies can be split into two groups, those whose stocks lost less than 65% as much as the S&P 500 Index during the Lehman Panic AND had a 5-yr Beta of less than 0.65. Those 19 companies are less risky that the others, and make up the first group at the top of the Table. The 30 remaining companies are in the second group, and the 5 mutual funds (mentioned above) compose the third group.
Which of the top 19 stocks are particularly attractive to the risk-averse investor? We think those are the ones that pay a higher dividend than most others AND grow that dividend faster. I use a 3:7:10:50 standard for finding those good "income" stocks. By this I mean there is at least a 3% dividend yield, at least a 7% dividend growth rate, at least a 10% ROIC (5% for a regulated utility), and less than 50% capitalization from bonds. Six in the top 19 meet that standard: JNJ, ABT, PEP, PG, NEE, MCD. However, we eliminate Abbott Labs (ABT) because it is breaking up into two companies, so we’re down to 5.
Those readers who are over 55 and have little in the way of retirement savings should pay attention to these 5 reliable income producing stocks. We’ll aggregate the data from those, to augment our guidance for late-stage investors (see Retirement on a Shoestring Week 14 & Week 15). These 5 stocks are so bond-like that you needn't bother hedging them with an equal investment in bonds or bond funds. But you do need to “dollar-average” equally into all 5 DRIPs. We'll call this group "Stand Alone Stocks" and put their aggregate data at the bottom of the Table for comparison with aggregate data for the 5 mutual funds we mentioned.
Bottom Line: Recent academic studies show that returns from less risky (more bond-like) stocks are as great as returns from more risky stocks. Read this recent analysis by Mark Hulbert to open your eyes to the importance of holding such stocks in your portfolio.
Risk Rating: 4.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 11
Week 71 - The “Business Case” for S&P 500 Companies
Situation: All of us would like our stock investments to perform better than the S&P 500 Index and we’re heartily disappointed by mutual funds that supposedly track that Index. Realistically, that goal is almost impossible to reach, according to a host of academic studies. Here at ITR, we modify that goal. We find that reducing risk by shooting for safety first and performance second is a better long-term investment strategy. In this week’s blog, we examine whether there is a way to have both safety and performance share top billing.
The Pursuit of Safety: We screened the 500 companies in the S&P 500 Index to identify those that had less than a 30% drop in total returns during the 18-month Lehman Panic (vs. the 45% drop for the overall S&P 500 Index). Then we eliminated companies that
a) are primarily capitalized with borrowed money,
b) lack returns on invested capital (ROIC) that comfortably exceed the weighted average cost of capital (WACC), and
c) fail to maintain a tangible book value (TBV).
The Pursuit of Performance: Working with the remaining companies, we used the buyupside website to screen out those companies that did not show a total return in excess of 7%/yr over the past 5 and 10 yrs. Next we required our remaining companies to pass a Buffett Buy Analysis (see Week 30) by projecting a total return over the next 10 yrs in excess of 7%/yr. (We choose 7% as the cut-off because that growth rate will double your invested dollars over 10 yrs, which is the common requirement for a “business case” that justifies investing in the first place).
At the end of this exercise, we turned up 14 companies (see the attached Table), a convincing demonstration of just how hard it is to beat the S&P 500 Index without taking on a lot of risk. We added 3 more companies to our list, those that almost make the cut. The shortcoming of these 3 is that they’re from industries where profits are limited by government regulation (utilities & railroads): Union Pacific Railroad (UNP), NextEra Energy (NEE), and Wisconsin Energy (WEC). We also list one company that is on our Master List (MMM, see Week 65) that closely tracks the major indices with respect to both safety and performance. 3M is classified as a conglomerate because it operates in many industries and is also known for keeping up with the times. It is innovative and draws most of its sales from international markets. We also list a mutual fund (MDLOX) marketed by BlackRock, a hedge fund specialist. MDLOX has performed in line with above-average hedge funds but has the shortcoming of being expensive to own (e.g. it has a 5.25% front-end load) though still cheaper than a hedge fund proper. Hedge funds emphasize fixed-income investments (bonds), international stocks & bonds, and bet against weak-appearing stocks. That’s both complicated and expensive but hedge funds do indeed lose less money during market panics. You’ll notice from the Table that a straightforward bond-heavy balanced fund like VWINX performs just as well as MDLOX while being much cheaper to own.
Bottom Line: For your stock investments, stick to low-cost S&P 500 Index funds like VFIAX and low-cost balanced funds like VWINX (Table). The only reason for picking your own stocks is that you want to lose money while learning a time-consuming though informative hobby. To minimize those initial losses, stick with companies that grow nice dividends and are highly rated like those in our Master List (see Week 65). You’ll notice that when you push for stocks that perform the way a businessman likes by doubling his money over 10 yrs (Table), only 4 out of 17 companies meet that standard and also appear on our Master List (see Week 65): Hormel Foods (HRL), Chevron (CVX), NextEra Energy (NEE), and Wisconsin Energy (WEC). Therefore, the other 13 stocks are speculative.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
The Pursuit of Safety: We screened the 500 companies in the S&P 500 Index to identify those that had less than a 30% drop in total returns during the 18-month Lehman Panic (vs. the 45% drop for the overall S&P 500 Index). Then we eliminated companies that
a) are primarily capitalized with borrowed money,
b) lack returns on invested capital (ROIC) that comfortably exceed the weighted average cost of capital (WACC), and
c) fail to maintain a tangible book value (TBV).
The Pursuit of Performance: Working with the remaining companies, we used the buyupside website to screen out those companies that did not show a total return in excess of 7%/yr over the past 5 and 10 yrs. Next we required our remaining companies to pass a Buffett Buy Analysis (see Week 30) by projecting a total return over the next 10 yrs in excess of 7%/yr. (We choose 7% as the cut-off because that growth rate will double your invested dollars over 10 yrs, which is the common requirement for a “business case” that justifies investing in the first place).
At the end of this exercise, we turned up 14 companies (see the attached Table), a convincing demonstration of just how hard it is to beat the S&P 500 Index without taking on a lot of risk. We added 3 more companies to our list, those that almost make the cut. The shortcoming of these 3 is that they’re from industries where profits are limited by government regulation (utilities & railroads): Union Pacific Railroad (UNP), NextEra Energy (NEE), and Wisconsin Energy (WEC). We also list one company that is on our Master List (MMM, see Week 65) that closely tracks the major indices with respect to both safety and performance. 3M is classified as a conglomerate because it operates in many industries and is also known for keeping up with the times. It is innovative and draws most of its sales from international markets. We also list a mutual fund (MDLOX) marketed by BlackRock, a hedge fund specialist. MDLOX has performed in line with above-average hedge funds but has the shortcoming of being expensive to own (e.g. it has a 5.25% front-end load) though still cheaper than a hedge fund proper. Hedge funds emphasize fixed-income investments (bonds), international stocks & bonds, and bet against weak-appearing stocks. That’s both complicated and expensive but hedge funds do indeed lose less money during market panics. You’ll notice from the Table that a straightforward bond-heavy balanced fund like VWINX performs just as well as MDLOX while being much cheaper to own.
Bottom Line: For your stock investments, stick to low-cost S&P 500 Index funds like VFIAX and low-cost balanced funds like VWINX (Table). The only reason for picking your own stocks is that you want to lose money while learning a time-consuming though informative hobby. To minimize those initial losses, stick with companies that grow nice dividends and are highly rated like those in our Master List (see Week 65). You’ll notice that when you push for stocks that perform the way a businessman likes by doubling his money over 10 yrs (Table), only 4 out of 17 companies meet that standard and also appear on our Master List (see Week 65): Hormel Foods (HRL), Chevron (CVX), NextEra Energy (NEE), and Wisconsin Energy (WEC). Therefore, the other 13 stocks are speculative.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Subscribe to:
Comments (Atom)