Situation: In case your reason for buying stocks in your working years is to have a growing income from dividends in your retirement years, this blog has emphasized “value stocks.” The bible of value investing is Benjamin Graham’s book: The Intelligent Investor. His most famous student is Warren Buffett, who graduated from Columbia University in 1951 with a Masters Degree in Economics.
Why value investing, and what is a value stock? The central thought is to discipline yourself not to overpay for earnings and/or assets (“book value”). On page 349 of the Revised Edition (1973) of The Intelligent Investor, Benjamin Graham says “Current price should not be more than 1.5 times the book value last reported. However, a multiplier of earnings below 15 could justify a correspondingly higher multiplier of assets. As a rule of thumb, we suggest that the product of the [earnings] multiplier times the ratio of price to book value should not exceed 22.5.” In other words, 1.5 times 15 equals 22.5.
How do you calculate the “Graham Number” or rational stock price? It is the square root of 22.5 times Earnings Per Share for the Trailing Twelve Months (TTM) times Book Value per share for the most recent quarter (mrq). We suggest that you think of the share price of a value stock as being no greater than: a) twice the Graham Number, b) 25 times the 7-year average for Earnings Per Share (see page 159 of The Intelligent Investor), and c) no more than 4 times Book Value per share. When you purchase a stock meeting those 3 requirements, it is demonstrably worth what you paid for it. The details are shown in Columns AA-AE of Tables accompanying our recent blogs.
Berkshire Hathaway’s stock portfolio contains 46 holdings worth $201,828,368,888 as of the last 13F SEC filing dated 8/14/19. The top 5 holdings (AAPL, BAC, KO, AXP, WFC) are worth $133,600,000,000 (66% of the total). Eight of the 46 companies have issued A-rated value stocks, since the company meets the following 4 criteria: 1) its bonds are rated A- or better by Standard & Poor’s (S&P), 2) its stocks that are rated B+/M or better by S&P, 3) its stocks have the 16+ year trading record that is required for quantitative analysis using the BMW Method, and 4) its stocks are listed in both the iShares Russell 1000 Value Index (IWD) and the Vanguard High Dividend Yield Index (VYM).
The top 10 stocks in Berkshire Hathaway’s portfolio, listed by valuation, are:
Apple AAPL ($51B)
Bank of America BAC ($25B)
Coca-Cola KO ($21B)
American Express AXP ($19B)
Wells Fargo WFC ($18B)
Kraft Heinz KHC ($8B)
U.S. Bancorp USB ($7B)
JPMorgan Chase JPM ($6B)
Moody’s MCO ($5B)
Delta Air Lines DAL ($4B)
Mission: Use our Standard Spreadsheet to analyze value stocks in the portfolio, based on the 4 criteria listed above.
Execution: see Table.
Administration: Six of the top 10 stocks in the portfolio are not value stocks (AAPL, BAC, AXP, KHC, MCO, DAL). Data for those can be found in the BACKGROUND Section of the Table.
Bottom Line: The 8 A-rated value stocks account for $54 Billion (27%) of the portfolio’s value. These show that Warren Buffett’s area of expertise is not only value stocks generally but financial services stocks specifically, since 5 of the 8 companies are from that industry. The take-home points for retail investors are: a) don’t overpay for a stock, b) buy what you know, and c) remember that the best bargains are often in the Financial Services industry. But those stocks also tend to have the greatest volatility, which is a key reason why they are underpriced.
Risk Rating: 7 (where 1 = 10-year U.S. Treasuries, 5 = S&P 500 Index, and 10 = gold bullion)
Full Disclosure: I dollar average into KO, PG, JPM and JNJ, and also own shares of AAPL and TRV.
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Showing posts with label dollar cost averaging. Show all posts
Showing posts with label dollar cost averaging. Show all posts
Sunday, August 25
Sunday, January 27
Month 91 - Food and Agriculture Companies - Winter 2019 Update
Situation: We all have to eat, so food is an essential good. Even in a commodity bear market, the valuations of food and agriculture companies will likely hold up better than the S&P 500 Index ETF (SPY - see Column D in this month’s Table). Which is amazing, given that grains and livestock account for 29% of the Bloomberg Commodity Index. Another way of saying this is that the volumes of food sold are inelastic, much like gasoline. This gives investments in food and agriculture companies a special, almost unique, competitive advantage.
The most important development in recent years is that the sugar in corn kernels is being processed into ethanol for gasoline. And, to a lesser extent, soybean oil is being processed into diesel fuel (see Week 364). Two US companies are leaders in biofuels production, i.e., Valero (VLO) with a capacity of 1.4 billion gallons per year, and Archer Daniels Midland (ADM) with a capacity of 1.6 billion gallons per year. Animal feeds are an important by-product of ethanol production, marketed as dry and wet distiller grains, that capture 40% of the energy in a kernel of corn.
Mission: Use our Standard Spreadsheet to highlight important metrics for listed companies in the Food and Agriculture sector.
Execution: see Table.
Administration: The 21 companies in the Table meet specific standards for quality, which are: S&P Bond Rating of BBB or better; S&P Stock Rating of B+/M or better; and trading records that extend for 16+ years to allow analysis by the BMW Method.
Bottom Line: In the aggregate, common stocks of these companies look to be a good bet (see Line 23 in the Table). Don’t be fooled. Eight of the 21 stocks track the ups and downs of futures markets in raw commodities (see red highlighted companies at the bottom of Column D in the Table). To build a position in any of those stocks you’ll need to employ dollar-cost averaging. And, only the two companies at the top of the Table have clean Balance Sheets (see Columns N-Q in the Table).
To invest successfully in this sector, you’ll need to do a lot of research on a continuing basis. For example, note that fertilizer companies and seed companies are missing from the Table. Why? Because of the recent wave of mergers and acquisitions. If you had been an investor in now extinct companies like Monsanto, duPont, Dow Chemical, Potash Corporation of Saskatchewan, and Agrium, you’ll have gained from the pain but also lost money.
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 TSN, KO, CAT, UNP and WMT, and also own shares of HRL and MKC.
The most important development in recent years is that the sugar in corn kernels is being processed into ethanol for gasoline. And, to a lesser extent, soybean oil is being processed into diesel fuel (see Week 364). Two US companies are leaders in biofuels production, i.e., Valero (VLO) with a capacity of 1.4 billion gallons per year, and Archer Daniels Midland (ADM) with a capacity of 1.6 billion gallons per year. Animal feeds are an important by-product of ethanol production, marketed as dry and wet distiller grains, that capture 40% of the energy in a kernel of corn.
Mission: Use our Standard Spreadsheet to highlight important metrics for listed companies in the Food and Agriculture sector.
Execution: see Table.
Administration: The 21 companies in the Table meet specific standards for quality, which are: S&P Bond Rating of BBB or better; S&P Stock Rating of B+/M or better; and trading records that extend for 16+ years to allow analysis by the BMW Method.
Bottom Line: In the aggregate, common stocks of these companies look to be a good bet (see Line 23 in the Table). Don’t be fooled. Eight of the 21 stocks track the ups and downs of futures markets in raw commodities (see red highlighted companies at the bottom of Column D in the Table). To build a position in any of those stocks you’ll need to employ dollar-cost averaging. And, only the two companies at the top of the Table have clean Balance Sheets (see Columns N-Q in the Table).
To invest successfully in this sector, you’ll need to do a lot of research on a continuing basis. For example, note that fertilizer companies and seed companies are missing from the Table. Why? Because of the recent wave of mergers and acquisitions. If you had been an investor in now extinct companies like Monsanto, duPont, Dow Chemical, Potash Corporation of Saskatchewan, and Agrium, you’ll have gained from the pain but also lost money.
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 TSN, KO, CAT, UNP and WMT, and also own shares of HRL and MKC.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 25
Week 386 - Retirement Savings Plan For The Self-Employed
Situation: Let’s follow the Kiss Rule (Keep It Simple, Stupid). There are many jobs that don’t offer a workplace retirement plan. For example, if you’re a long-haul truck driver and own your Class 8 tractor, i.e., you’re an “Owner/Operator”, you make over $100,000 per year but have high expenses. As an S corporation, you don’t pay taxes on the 15% of gross income that you try to set aside for retirement.
How do you invest it? If you follow the KISS Rule, you’re best off putting all of it in Vanguard’s Wellesley Income Fund. That fund has an expense ratio of 0.22% and is half stocks and half bonds. The ~70 stocks are selected from the FTSE High Dividend Yield Index (i.e., the ~400 companies in the Russell 1000 Index that reliably pay an above-market dividend). You’ll recognize that Index as the same source we use to pick stocks for “The 2 and 8 Club”.
Mission: Run our Standard Spreadsheet using the 10 stocks that reliably pay good and growing dividends and are less likely to fall as much as the Dow Jones Industrial Average in a Bear Market. Compare that portfolio to the Vanguard Wellesley Income Fund (VWINX), the Vanguard High Dividend Yield Index ETF (VYM), and the SPDR S&P 500 Index ETF (SPY).
Execution: see Table.
Bottom Line: If you’re self-employed (e.g. do seasonal work), you need a flexible retirement plan with low transaction costs. Safety is the main goal. Take no risks! If you want to pick your own stocks, all right. You can keep costs for that low by dollar-averaging but then your bonds have to be very low risk, i.e., US Savings Bonds.
Risk Rating: 4
Full Disclosure: I dollar-average into NEE, KO, T, JNJ and DIA, and also own shares of HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
How do you invest it? If you follow the KISS Rule, you’re best off putting all of it in Vanguard’s Wellesley Income Fund. That fund has an expense ratio of 0.22% and is half stocks and half bonds. The ~70 stocks are selected from the FTSE High Dividend Yield Index (i.e., the ~400 companies in the Russell 1000 Index that reliably pay an above-market dividend). You’ll recognize that Index as the same source we use to pick stocks for “The 2 and 8 Club”.
Mission: Run our Standard Spreadsheet using the 10 stocks that reliably pay good and growing dividends and are less likely to fall as much as the Dow Jones Industrial Average in a Bear Market. Compare that portfolio to the Vanguard Wellesley Income Fund (VWINX), the Vanguard High Dividend Yield Index ETF (VYM), and the SPDR S&P 500 Index ETF (SPY).
Execution: see Table.
Bottom Line: If you’re self-employed (e.g. do seasonal work), you need a flexible retirement plan with low transaction costs. Safety is the main goal. Take no risks! If you want to pick your own stocks, all right. You can keep costs for that low by dollar-averaging but then your bonds have to be very low risk, i.e., US Savings Bonds.
Risk Rating: 4
Full Disclosure: I dollar-average into NEE, KO, T, JNJ and DIA, and also own shares of HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 18
Week 385 - Let’s Dollar-Average Into 10 Stocks From The Vanguard High Dividend Yield Index
Situation: The advantage of dollar-cost averaging into specific stocks vs. dollar-averaging into the reference index is that you can focus on high-quality companies. However, those companies are less dynamic than early-movers. By investing in an index fund you’ll capture the effect that “earnings surprises” have on prices for early-movers. So, let’s compare a portfolio of 10 high quality stocks to the relevant index. Dollar-averaging identical amounts each month into either the index or each of the 10 stocks is just a way to buy more shares whenever the market is down. That way, I can assume that your returns will approximate the published total returns/Yr.
Mission: Pick 10 stocks from the Vanguard High Dividend Yield Index. Then run our Standard Spreadsheet.
Execution: see Table.
Administration: The 10 stocks I’ve picked happen to be the 10 that I dollar-average into.
Bottom Line: From the spreadsheet, I cannot discern a material difference in long-term returns from dollar-averaging in an index fund, such as the SPDR S&P 500 ETF (SPY) or the Vanguard High Dividend Yield ETF (VYM), compared to dollar-averaging into the 10 stocks I’ve picked. However, there is a material difference with respect to transaction costs: VYM has an expense ratio of 0.08%, whereas, the expense ratio for dollar-averaging into my 10 stocks is ~1.2%.
Risk Rating: 5 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
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Mission: Pick 10 stocks from the Vanguard High Dividend Yield Index. Then run our Standard Spreadsheet.
Execution: see Table.
Administration: The 10 stocks I’ve picked happen to be the 10 that I dollar-average into.
Bottom Line: From the spreadsheet, I cannot discern a material difference in long-term returns from dollar-averaging in an index fund, such as the SPDR S&P 500 ETF (SPY) or the Vanguard High Dividend Yield ETF (VYM), compared to dollar-averaging into the 10 stocks I’ve picked. However, there is a material difference with respect to transaction costs: VYM has an expense ratio of 0.08%, whereas, the expense ratio for dollar-averaging into my 10 stocks is ~1.2%.
Risk Rating: 5 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 28
Week 382 - Steady Eddies
Situation: Some high-quality companies don’t pay good and growing dividends, don’t have high sustainability (ESG) scores, and aren’t blue chips, but do hold up well in bear markets. In theory, a hedge fund will take long positions in such companies (until retail investors take notice and the shares become overpriced). After reading this preamble, you’ll have figured out that we’re mostly talking about utilities. But that’s OK. You can still dollar-average into the non-utilities and do well, even though they’re often overpriced.
Mission: Run our Standard Spreadsheet on companies with A- or better S&P bond ratings and B+/L or better S&P stock ratings. Exclude companies in popular categories: “The 2 and 8 Club” (see Week 380), Blue Chips (see Week 379), the Dow Jones Industrial Average (see Week 378), and Sustainability Leaders (see Week 377). Also exclude companies that don’t do well in Bear Markets (see Column D in any of our Tables).
Execution: see Table.
Administration: This is a work in progress. The 7 examples in the Table are well-known to me; no doubt there are others in the S&P Index.
Bottom Line: A smart investor knows that a Bear Market in a particular S&P industry will usually begin with little or no warning. By the time she starts to think about selling shares, it’s too late. Some kind of insurance will have to be in place before that happens. Warren Buffett’s well-known recommendation is that you dollar-average your stock investments and back those up with a short-term investment-grade bond fund. (He also recommends that you avoid the two habits that in his experience are likely to derail investors: drinking alcohol and borrowing money.) Here we add a third option, which is to find stocks that “fly under the radar” and hold up well in a Bear Market.
Risk Rating: 4 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I own shares of HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Run our Standard Spreadsheet on companies with A- or better S&P bond ratings and B+/L or better S&P stock ratings. Exclude companies in popular categories: “The 2 and 8 Club” (see Week 380), Blue Chips (see Week 379), the Dow Jones Industrial Average (see Week 378), and Sustainability Leaders (see Week 377). Also exclude companies that don’t do well in Bear Markets (see Column D in any of our Tables).
Execution: see Table.
Administration: This is a work in progress. The 7 examples in the Table are well-known to me; no doubt there are others in the S&P Index.
Bottom Line: A smart investor knows that a Bear Market in a particular S&P industry will usually begin with little or no warning. By the time she starts to think about selling shares, it’s too late. Some kind of insurance will have to be in place before that happens. Warren Buffett’s well-known recommendation is that you dollar-average your stock investments and back those up with a short-term investment-grade bond fund. (He also recommends that you avoid the two habits that in his experience are likely to derail investors: drinking alcohol and borrowing money.) Here we add a third option, which is to find stocks that “fly under the radar” and hold up well in a Bear Market.
Risk Rating: 4 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I own shares of HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, September 30
Week 378 - Which “Dow Jones Industrial Average” Stocks Are Not Overpriced?
Situation: Is the US stock market overpriced? We need to know because Warren Buffett keeps reminding us how important it is to avoid overpaying for a stock. Buffet says: “No matter how successful a company is, don’t overpay for its stock. Wait until Wall Street sours on a company you like and drives the price down into bargain territory. By making a watch list of interesting stocks, and waiting for their prices to drop, you increase the potential for future capital gains.”
The author of this link suggests that none of us “mere mortals” are as smart as Warren Buffett at getting the price right. It’s perhaps better to either dollar-average your investment, or leave it to professionals to do the stock-picking for you. We suggest that there is a third option, which is to use a couple of simple mathematical formulas to guide your stock-picking. Those formulas can be found in the book that Warren Buffett calls “by far the best book on investing every written.” The book is entitled: The Intelligent Investor by Benjamin Graham, Revised Edition, Harper, New York, 1973. There, you will find the value of calculating the 7-year P/E instead of the usual 12-month P/E, and also learn how to calculate the “Graham Number.” The Graham Number is what the stock would sell for if it were priced at 1.5 times Book Value and 15 times trailing 12-month (TTM) earnings. Calculating and using the Graham Number is important because it allows for variation in Book Value and earnings. Multiplying the two values just has to be ~22.5 (15 X 1.5) for the stock to be optimally priced.
Mission: To test both methods on stocks issued by the 30 companies in the Dow Jones Industrial Average (DJIA). See columns X, Y and Z on our Standard Spreadsheet (Table).
Execution: see Table.
Administration: Here’s how to calculate the Graham Number, as shown on p. 349 in the book cited above). [Clicking this link will take you to the Amazon website and the book).] Start by multiplying 1.5 (ideal ratio of Book Value/share) by 15 (ideal ratio of TTM Earnings/share) = 22.5. By multiplying two numbers you have created a Power Function. So, you’ll have to take the Square Root of the Final Number to arrive at the Graham Number. Final Number = 22.5 X actual Book Value/share for the most recent quarter (new) X actual TTM Earnings/share. To access Earnings/share, go to any company’s page at Yahoo Finance, e.g. Apple’s. In the right column find EPS (TTM) of $11.038. To access Book Value/share, click on “statistics” at the top of that page and scroll down the left column to “Balance Sheet.” Book Value/share for the most recent quarter (mrq) is the last entry: $23.74. Graham Number = square root of 22.5 X $11.038 X $23.74 = $76.79. This is the true value (Graham Number) for a single share of Apple stock. If it sells for less, that’s a bargain. Right now, it’s selling for almost 3 times as much. If you own some shares, either think about selling those or think about the company’s ability to scale-up the “Apple ecosystem”. Perhaps you’ll decide that those prospects make holding onto the shares for a while longer a worthwhile risk.
Calculating the 7-Yr P/E (p. 159 in the book cited above). You’ll need a website that provides the past 7 years of TTM earnings, or a library with S&P stock reports. Simply add the most recent 7 years’ earnings and divide by 7 to arrive at the denominator. Look up the current price of the stock (or its 50 Day Moving Average price found in the right column of the statistics page under “Stock Price History”) to arrive at the numerator. Divide numerator by denominator to calculate the 7-Yr P/E, which must be 25 or less to reflect “normative” earnings growth over 7 years for a stock with a 12-month P/E of ~20 during most years. By using the 7-yr P/E you avoid being mislead by a year of blowout earnings or negligible earnings.
Bottom Line: As a group, these 30 stocks are overpriced. Nonetheless, 12 companies have stocks that are priced within reason vs. their Graham Numbers and 7-Yr P/Es (see Columns X-Z in the Table): TRV, DIS, WBA, INTC, VZ, JPM, PFE, PG, GS, UTX, CVX, XOM. But only one company, Goldman Sachs (GS), can be called a bargain with respect to both values (those values being highlighted in green in the Table). Note that Berkshire Hathaway (BRK-B at Line 35 in the Table) is an even better bargain. Perhaps Warren Buffett noticed these markers of high intrinsic value when he recently spent part of Berkshire Hathaway’s cash hoard to buy back the stock.
Risk Rating: 5 where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10
Full Disclosure: I dollar-average into 3 stocks on the “not overpriced list” -- JPM, PG and XOM, and also own shares in two others: INTC and TRV. Additionally, I dollar-average into MSFT, KO, JNJ, WMT, CAT and IBM, and own shares in MCD, MMM and CSCO.
Comment: I focus on Dow Stocks because each is covered by dozens of analysts and business journalists, and its stock options are actively traded on the Chicago Board Options Exchange. The result of this microscopic attention is that price discovery is efficient, and surprise earnings are rare. In addition, all 30 companies have a long record of business experience, and are large enough to have multiple product lines that provide internal lines of support during a crisis. DJIA companies are famously able to weather almost any storm: Seven DJIA companies went through a near death experience during The Great Recession of 2008-2009 (General Electric, Citigroup, General Motors, Pfizer, Home Depot, Caterpillar, and American Express) but only 3 had to be removed in the aftermath of that “Lehman Panic” (General Electric, Citigroup, and General Motors).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com.
The author of this link suggests that none of us “mere mortals” are as smart as Warren Buffett at getting the price right. It’s perhaps better to either dollar-average your investment, or leave it to professionals to do the stock-picking for you. We suggest that there is a third option, which is to use a couple of simple mathematical formulas to guide your stock-picking. Those formulas can be found in the book that Warren Buffett calls “by far the best book on investing every written.” The book is entitled: The Intelligent Investor by Benjamin Graham, Revised Edition, Harper, New York, 1973. There, you will find the value of calculating the 7-year P/E instead of the usual 12-month P/E, and also learn how to calculate the “Graham Number.” The Graham Number is what the stock would sell for if it were priced at 1.5 times Book Value and 15 times trailing 12-month (TTM) earnings. Calculating and using the Graham Number is important because it allows for variation in Book Value and earnings. Multiplying the two values just has to be ~22.5 (15 X 1.5) for the stock to be optimally priced.
Mission: To test both methods on stocks issued by the 30 companies in the Dow Jones Industrial Average (DJIA). See columns X, Y and Z on our Standard Spreadsheet (Table).
Execution: see Table.
Administration: Here’s how to calculate the Graham Number, as shown on p. 349 in the book cited above). [Clicking this link will take you to the Amazon website and the book).] Start by multiplying 1.5 (ideal ratio of Book Value/share) by 15 (ideal ratio of TTM Earnings/share) = 22.5. By multiplying two numbers you have created a Power Function. So, you’ll have to take the Square Root of the Final Number to arrive at the Graham Number. Final Number = 22.5 X actual Book Value/share for the most recent quarter (new) X actual TTM Earnings/share. To access Earnings/share, go to any company’s page at Yahoo Finance, e.g. Apple’s. In the right column find EPS (TTM) of $11.038. To access Book Value/share, click on “statistics” at the top of that page and scroll down the left column to “Balance Sheet.” Book Value/share for the most recent quarter (mrq) is the last entry: $23.74. Graham Number = square root of 22.5 X $11.038 X $23.74 = $76.79. This is the true value (Graham Number) for a single share of Apple stock. If it sells for less, that’s a bargain. Right now, it’s selling for almost 3 times as much. If you own some shares, either think about selling those or think about the company’s ability to scale-up the “Apple ecosystem”. Perhaps you’ll decide that those prospects make holding onto the shares for a while longer a worthwhile risk.
Calculating the 7-Yr P/E (p. 159 in the book cited above). You’ll need a website that provides the past 7 years of TTM earnings, or a library with S&P stock reports. Simply add the most recent 7 years’ earnings and divide by 7 to arrive at the denominator. Look up the current price of the stock (or its 50 Day Moving Average price found in the right column of the statistics page under “Stock Price History”) to arrive at the numerator. Divide numerator by denominator to calculate the 7-Yr P/E, which must be 25 or less to reflect “normative” earnings growth over 7 years for a stock with a 12-month P/E of ~20 during most years. By using the 7-yr P/E you avoid being mislead by a year of blowout earnings or negligible earnings.
Bottom Line: As a group, these 30 stocks are overpriced. Nonetheless, 12 companies have stocks that are priced within reason vs. their Graham Numbers and 7-Yr P/Es (see Columns X-Z in the Table): TRV, DIS, WBA, INTC, VZ, JPM, PFE, PG, GS, UTX, CVX, XOM. But only one company, Goldman Sachs (GS), can be called a bargain with respect to both values (those values being highlighted in green in the Table). Note that Berkshire Hathaway (BRK-B at Line 35 in the Table) is an even better bargain. Perhaps Warren Buffett noticed these markers of high intrinsic value when he recently spent part of Berkshire Hathaway’s cash hoard to buy back the stock.
Risk Rating: 5 where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10
Full Disclosure: I dollar-average into 3 stocks on the “not overpriced list” -- JPM, PG and XOM, and also own shares in two others: INTC and TRV. Additionally, I dollar-average into MSFT, KO, JNJ, WMT, CAT and IBM, and own shares in MCD, MMM and CSCO.
Comment: I focus on Dow Stocks because each is covered by dozens of analysts and business journalists, and its stock options are actively traded on the Chicago Board Options Exchange. The result of this microscopic attention is that price discovery is efficient, and surprise earnings are rare. In addition, all 30 companies have a long record of business experience, and are large enough to have multiple product lines that provide internal lines of support during a crisis. DJIA companies are famously able to weather almost any storm: Seven DJIA companies went through a near death experience during The Great Recession of 2008-2009 (General Electric, Citigroup, General Motors, Pfizer, Home Depot, Caterpillar, and American Express) but only 3 had to be removed in the aftermath of that “Lehman Panic” (General Electric, Citigroup, and General Motors).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com.
Sunday, September 16
Week 376 - What Does A Simple IRA Look Like?
Situation: You’re bombarded with advice about how to save for retirement. But unless you’re already rich, the details are simple. Dollar-cost average 60% of your contribution into a stock index fund and 40% into a short or intermediate-term bond index fund. If you know you’ll never be in “the upper middle class”, opt for the short-term bond index fund. But maybe you have a workplace retirement plan, which makes saving for retirement a little more complicated. Either way, you’ll want to contribute the maximum amount each year to your IRA, which is currently $5500/yr until you reach age 50; then it’s $6500/yr.
Here’s our KISS (Keep It Simple, Stupid) suggestion: Make your IRA payments with Vanguard Group by using a Simple IRA (Vanguard terminology) composed only of the Vanguard High Dividend Yield Index ETF or VYM. Then, contribute 2/3rds of that amount into Inflation-protected US Savings Bonds. These are called ISBs and work just like an IRA. No tax is due from ISBs until you spend the money but there’s a penalty for spending the money early (you’ll lose one interest payment if you cash out before 5 years). The annual contribution limit is $10,000/yr. A convenient proxy for ISBs, with similar total returns, is the Vanguard Short-Term Bond Index ETF or BSV.
Mission: Create a Table showing a 60% allocation to VYM and 40% allocation to BSV. Include appropriate benchmarks, to allow the reader to create her own variation on that theme.
Execution: see Table.
Bottom Line: However you juggle the numbers, it looks like you’ll make ~7%/yr overall through your IRA + ISB retirement plan, with no taxes due until you spend the money. In other words, each year’s contribution will double in value every 10 years. The beauty of this plan is that transaction costs are almost zero, and the chance that it will give you headaches is almost zero.
Risk Rating: 4 (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into Inflation-protected Savings Bonds and the Dow Jones Industrial Average ETF (DIA).
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Here’s our KISS (Keep It Simple, Stupid) suggestion: Make your IRA payments with Vanguard Group by using a Simple IRA (Vanguard terminology) composed only of the Vanguard High Dividend Yield Index ETF or VYM. Then, contribute 2/3rds of that amount into Inflation-protected US Savings Bonds. These are called ISBs and work just like an IRA. No tax is due from ISBs until you spend the money but there’s a penalty for spending the money early (you’ll lose one interest payment if you cash out before 5 years). The annual contribution limit is $10,000/yr. A convenient proxy for ISBs, with similar total returns, is the Vanguard Short-Term Bond Index ETF or BSV.
Mission: Create a Table showing a 60% allocation to VYM and 40% allocation to BSV. Include appropriate benchmarks, to allow the reader to create her own variation on that theme.
Execution: see Table.
Bottom Line: However you juggle the numbers, it looks like you’ll make ~7%/yr overall through your IRA + ISB retirement plan, with no taxes due until you spend the money. In other words, each year’s contribution will double in value every 10 years. The beauty of this plan is that transaction costs are almost zero, and the chance that it will give you headaches is almost zero.
Risk Rating: 4 (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into Inflation-protected Savings Bonds and the Dow Jones Industrial Average ETF (DIA).
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Sunday, August 26
Week 373 - 10 Dividend Achievers In Defensive Industries That Are Suitable For Long-term Dollar-cost Averaging
Situation: Which asset class do you favor? Stocks, bonds, real estate or commodities? On a risk-adjusted basis, none of those are likely to grow your savings faster than inflation over the near term. You might want to hold off making “risk-on” investments, unless you're a speculator, because markets are likely to fluctuate more than usual. If you think a “risk-off” approach is best, then you need to pick “defensive” stocks for monthly (or quarterly) investment of a fixed dollar amount (dollar-cost averaging). To minimize transaction costs, you’ll want to invest automatically in each stock through an online Dividend Re-Investment Plan (DRIP).
Now you will be positioned to ride-out a Bear Market, knowing that you’re accumulating an unusually large amount of shares in those companies as their stocks fall in price. And, those prices won’t fall far enough to scare you because that group of stocks has an above-market dividend yield. So, you’ll stick with the program instead of selling out in a moment of panic.
Mission: Run our Standard Spreadsheet for high-quality stocks issued by companies in defensive industries, i.e., utilities, consumer staples, healthcare, and communication services.
Execution: see Table.
Administration: Companies that don’t have at least an A- S&P rating on their bonds and at least a B+/M rating on their stock are excluded, as are those that don’t have at least a 16-yr trading record suitable for quantitative analysis by using the BMW Method. Companies that aren’t large enough to be on the Barron’s 500 List are also excluded.
Bottom Line: We find that 10 companies meet our requirements. Companies in the Consumer Staples industry dominate the list: Hormel Foods (HRL), Costco Wholesale (COST), PepsiCo (PDP), Coca-Cola (KO), Procter & Gamble (PG), Walmart (WMT), and Archer Daniels Midland (ADM). As a group, these 10 companies have above-market dividend yields and dividend growth (see Columns G & H in the Table). Risk is below-market, as expressed by 5-Yr Beta and predicted loss in a Bear Market (see Columns I & M).
Risk Rating: 4 for the group as a whole (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10).
Full Disclosure: I dollar-average into NEE, KO, JNJ, PG and WMT, and also own shares of HRL and COST.
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Now you will be positioned to ride-out a Bear Market, knowing that you’re accumulating an unusually large amount of shares in those companies as their stocks fall in price. And, those prices won’t fall far enough to scare you because that group of stocks has an above-market dividend yield. So, you’ll stick with the program instead of selling out in a moment of panic.
Mission: Run our Standard Spreadsheet for high-quality stocks issued by companies in defensive industries, i.e., utilities, consumer staples, healthcare, and communication services.
Execution: see Table.
Administration: Companies that don’t have at least an A- S&P rating on their bonds and at least a B+/M rating on their stock are excluded, as are those that don’t have at least a 16-yr trading record suitable for quantitative analysis by using the BMW Method. Companies that aren’t large enough to be on the Barron’s 500 List are also excluded.
Bottom Line: We find that 10 companies meet our requirements. Companies in the Consumer Staples industry dominate the list: Hormel Foods (HRL), Costco Wholesale (COST), PepsiCo (PDP), Coca-Cola (KO), Procter & Gamble (PG), Walmart (WMT), and Archer Daniels Midland (ADM). As a group, these 10 companies have above-market dividend yields and dividend growth (see Columns G & H in the Table). Risk is below-market, as expressed by 5-Yr Beta and predicted loss in a Bear Market (see Columns I & M).
Risk Rating: 4 for the group as a whole (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10).
Full Disclosure: I dollar-average into NEE, KO, JNJ, PG and WMT, and also own shares of HRL and COST.
"The 2 and 8 Club" (CR) 2018 Invest Tune Retire.com All rights reserved.
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Sunday, August 5
Week 370 - Ways To Win At Stock-picking #1: Dollar-cost Average Into 10 Of The 30 DJIA Companies
Situation: You’re troubled by the dominance of the S&P 500 Index. After all, it is a derivative and you wonder whether it is really the safest and most effective way to build retirement savings. Your biggest concern is that it is a capitalization-weighted index, which is a design that favors momentum investing: Mid-Cap companies that garner investor enthusiasm become included in the S&P 500 Index because their stock is appreciating; Mid-Cap companies that have managed to be included in the S&P 500 Index investors are in danger of being excluded because investors have lost their enthusiasm and the stock’s price is falling. Many investors buy/sell shares in a company’s stock because of that trend in sentiment. Fundamental sources of value (revenue, earnings, and cash flow) often have little to do with their enthusiasm, or the fact that it has evaporated. Articles in the business press may carry greater weight, and those articles may be influenced by analyses introduced by short sellers, who are betting on a fall in price, or hedge fund traders with long positions, who are betting on a rise in price. In other words, most retail investors are paying attention to market sentiment when buying or selling shares, not due diligence that comes from a careful study of a company’s prospects and Balance Sheet.
Your second biggest concern is likely to be that few S&P 500 companies have a good credit rating backing their debts. In other words, they’re paying too high a rate of interest on the bonds they’ve issued, or the bank loans they’ve taken out. The company’s Net Tangible Book Value is therefore likely to be drifting deeper into negative territory because of interest expenses, part of which are no longer tax deductible due to changes in U.S. tax law.
Both of these problems fall by the wayside if you invest in the 30 companies that make up the Dow Jones Industrial Average, either separately or together in the price-weighted Dow Jones Industrial Average Index (DIA at Line 18 in the Table). Investing in the “Dow” may be a little smarter for retirement savers than investing in the S&P 500 Index (SPY at Line 16 in the Table) for two reasons: 1) DIA has a dividend yield that is ~10% greater; 2) DIA pays dividends monthly, whereas, SPY pays dividends quarterly. A higher dividend yield means that your original investment is returned to you more quickly, which translates as a higher net present value, if other factors (e.g. dividend growth and long-term price appreciation) are not materially different.
Mission: Use our Standard Spreadsheet to illustrate how I dollar-cost average into stocks issued by 10 DJIA companies.
Execution: see Table.
Administration: It has been necessary to use 3 separate Dividend Re-Investment Plans (DRIPs) to dollar-cost average into the 10 DJIA stocks I’ve chosen (see Column AE in the Table). Those DRIPs automatically extract $100 each month for each of the 10 stocks; transaction costs average $18.68/yr (see Column AD), which includes automatic reinvestment of dividends. The expense ratio is 1.56% for each year’s investments, but expenses relative to Net Asset Value fall to less than 0.01% after 10-20 years.
Bottom Line: This week’s blog compares my long-standing pick of 10 Dow stocks (for an automatic monthly investment of $100 each using an online DRIP) to investing $1500/qtr in the entire 30-stock index (DIA) using a regional broker-dealer, which is something I’ve just started doing to facilitate comparison going forward. (You’ll see each year’s total returns in future blogs published the first week of July.)
Risk Rating: 6 (where U.S. Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10).
Full Disclosure: If one of the 10 stocks I’ve chosen is dropped from the Dow Jones Industrial Average (DJIA), I’ll sell those shares and use those dollars to start a DRIP with shares issued by another DJIA company.
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Your second biggest concern is likely to be that few S&P 500 companies have a good credit rating backing their debts. In other words, they’re paying too high a rate of interest on the bonds they’ve issued, or the bank loans they’ve taken out. The company’s Net Tangible Book Value is therefore likely to be drifting deeper into negative territory because of interest expenses, part of which are no longer tax deductible due to changes in U.S. tax law.
Both of these problems fall by the wayside if you invest in the 30 companies that make up the Dow Jones Industrial Average, either separately or together in the price-weighted Dow Jones Industrial Average Index (DIA at Line 18 in the Table). Investing in the “Dow” may be a little smarter for retirement savers than investing in the S&P 500 Index (SPY at Line 16 in the Table) for two reasons: 1) DIA has a dividend yield that is ~10% greater; 2) DIA pays dividends monthly, whereas, SPY pays dividends quarterly. A higher dividend yield means that your original investment is returned to you more quickly, which translates as a higher net present value, if other factors (e.g. dividend growth and long-term price appreciation) are not materially different.
Mission: Use our Standard Spreadsheet to illustrate how I dollar-cost average into stocks issued by 10 DJIA companies.
Execution: see Table.
Administration: It has been necessary to use 3 separate Dividend Re-Investment Plans (DRIPs) to dollar-cost average into the 10 DJIA stocks I’ve chosen (see Column AE in the Table). Those DRIPs automatically extract $100 each month for each of the 10 stocks; transaction costs average $18.68/yr (see Column AD), which includes automatic reinvestment of dividends. The expense ratio is 1.56% for each year’s investments, but expenses relative to Net Asset Value fall to less than 0.01% after 10-20 years.
Bottom Line: This week’s blog compares my long-standing pick of 10 Dow stocks (for an automatic monthly investment of $100 each using an online DRIP) to investing $1500/qtr in the entire 30-stock index (DIA) using a regional broker-dealer, which is something I’ve just started doing to facilitate comparison going forward. (You’ll see each year’s total returns in future blogs published the first week of July.)
Risk Rating: 6 (where U.S. Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10).
Full Disclosure: If one of the 10 stocks I’ve chosen is dropped from the Dow Jones Industrial Average (DJIA), I’ll sell those shares and use those dollars to start a DRIP with shares issued by another DJIA company.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
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Sunday, July 1
Week 365 - “Dogs of the Dow” (Mid-Year Review)
Situation: The 10 highest-yielding stocks in the Dow Jones Industrial Average are called The Dogs of the Dow (see Week 305 and Week 346). The only time-tested formula for beating an index fund (specifically the Dow Jones Industrial Average) is based on investing equal dollar amounts in each Dog at the start of the year. That would have worked in 6 of the past 8 years. Why? Because those are high quality stocks that have suffered a price decline and are likely to recover within ~2 years, which would lower their dividend yield and release them from the “Dog pen.”
Mission: Predict which Dogs will emerge from the Dog pen by the end of 2018, using our Standard Spreadsheet.
Execution: see Table.
Administration: For various reasons, the 2018 Dogs are unlikely to post greater total returns this year than the Dow Jones Industrial Average (DIA). But we can still try to play the game by predicting which of this year’s Dogs will be missing from next year’s Dog pen. Those will probably come from those posting lower dividend yields at the mid-year point (see Column G in the Table): Coca-Cola (KO), Cisco Systems (CSCO), General Electric (GE), Merck (MRK) and Chevron (CVX).
Bottom Line: Given current trends, Cisco Systems (CSCO) and Chevron (CVX) are likely to be released from the Dog pen at the end of the year.
Risk Rating: 6 (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into KO, PG, XOM and IBM, and also own shares of CSCO.
Mission: Predict which Dogs will emerge from the Dog pen by the end of 2018, using our Standard Spreadsheet.
Execution: see Table.
Administration: For various reasons, the 2018 Dogs are unlikely to post greater total returns this year than the Dow Jones Industrial Average (DIA). But we can still try to play the game by predicting which of this year’s Dogs will be missing from next year’s Dog pen. Those will probably come from those posting lower dividend yields at the mid-year point (see Column G in the Table): Coca-Cola (KO), Cisco Systems (CSCO), General Electric (GE), Merck (MRK) and Chevron (CVX).
Bottom Line: Given current trends, Cisco Systems (CSCO) and Chevron (CVX) are likely to be released from the Dog pen at the end of the year.
Risk Rating: 6 (where US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into KO, PG, XOM and IBM, and also own shares of CSCO.
"The 2 and 8 Club" (CR) 2018 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, June 3
Week 361 - Blue Chips
Situation: What is a “Blue Chip” stock, and why should you think highly of such stocks? There are several definitions but traders are generally talking about a stock in the Dow Jones Industrial Average when they use the phrase “Blue Chip.” More generally, they’re talking about a very large company that pays a good and growing dividend, and has a trading record that covers at least the past 40 years. This also includes any very large company that has a negligible risk of bankruptcy. These characteristics are important because traders think Blue Chip stocks are the only relatively safe bets for a “buy-and-hold” investor to place. Warren Buffett often highlights the importance of these same characteristics whenever he’s being interviewed, and Berkshire Hathaway (BRK-B) owns shares in several: Apple (AAPL), Coca-Cola (KO), International Business Machines (IBM), Johnson & Johnson (JNJ), Procter & Gamble (PG) and Walmart (WMT).
Mission: Develop specific definitions for the above characteristics, and list all companies that meet those definitions. Use our Standard Spreadsheet to analyze those companies.
Execution: see Table.
Administration: Here are my specific definitions for the qualitative terms used above:
"A very large company": Any company in the S&P 100 Index (OEF)
"A good dividend": Any company in the Vanguard High Dividend Yield Index (VYM)
"A growing dividend": Any company in the Powershares Dividend Achiever Portfolio (PFM)
"A 40+ year trading record": Any company in the 40-Yr BMW Method Portfolio
"A negligible risk of bankruptcy": Any very large company issuing bonds that carry an S&P Rating of AA+ or AAA. There are only 5 such companies: Apple (AAPL), Alphabet (GOOGL), Microsoft (MSFT), Johnson & Johnson (JNJ), and Exxon Mobil (XOM).
Bottom Line: If you want to include common stocks in your retirement portfolio, Blue Chips are the ones you’ll want to Buy and Hold, provided you buy shares in at least half a dozen. Those that carry a statistical risk of loss greater than “The “Dow” (DIA, see Column M in the Table) best purchased by dollar-cost averaging. But the 6 that carry no more than a Market Risk can be owned by using a “buy the dip” strategy: MCD, PEP, KO, JNJ, PG and WMT. Of course, those are still stocks and market volatility will still affect their prices.
Caveat Emptor: Corporate debt has been steadily increasing over most of the past 10 years. Why? Because the Federal Reserve reduced to cost of borrowing money to almost nothing. So, pay attention to companies that have purple highlights in Columns P and R (see Table). In the next recession, you’ll be surprised how far their stock prices will fall.
Risk Rating: 5 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)
Full Disclosure: I dollar-average into KO, JNJ, PG, MSFT, WMT, IBM, CAT and XOM, and also own shares of MCD and MMM.
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Mission: Develop specific definitions for the above characteristics, and list all companies that meet those definitions. Use our Standard Spreadsheet to analyze those companies.
Execution: see Table.
Administration: Here are my specific definitions for the qualitative terms used above:
"A very large company": Any company in the S&P 100 Index (OEF)
"A good dividend": Any company in the Vanguard High Dividend Yield Index (VYM)
"A growing dividend": Any company in the Powershares Dividend Achiever Portfolio (PFM)
"A 40+ year trading record": Any company in the 40-Yr BMW Method Portfolio
"A negligible risk of bankruptcy": Any very large company issuing bonds that carry an S&P Rating of AA+ or AAA. There are only 5 such companies: Apple (AAPL), Alphabet (GOOGL), Microsoft (MSFT), Johnson & Johnson (JNJ), and Exxon Mobil (XOM).
Bottom Line: If you want to include common stocks in your retirement portfolio, Blue Chips are the ones you’ll want to Buy and Hold, provided you buy shares in at least half a dozen. Those that carry a statistical risk of loss greater than “The “Dow” (DIA, see Column M in the Table) best purchased by dollar-cost averaging. But the 6 that carry no more than a Market Risk can be owned by using a “buy the dip” strategy: MCD, PEP, KO, JNJ, PG and WMT. Of course, those are still stocks and market volatility will still affect their prices.
Caveat Emptor: Corporate debt has been steadily increasing over most of the past 10 years. Why? Because the Federal Reserve reduced to cost of borrowing money to almost nothing. So, pay attention to companies that have purple highlights in Columns P and R (see Table). In the next recession, you’ll be surprised how far their stock prices will fall.
Risk Rating: 5 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)
Full Disclosure: I dollar-average into KO, JNJ, PG, MSFT, WMT, IBM, CAT and XOM, and also own shares of MCD and MMM.
"The 2 and 8 Club" (CR) 2018 Invest Tune Retire.com All rights reserved.
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Sunday, May 27
Week 360 - “The 2 and 8 Club” (Extended Version)
Situation: Market turmoil is turning stock and bond index funds into a “crowded trade.” Both are momentum investments, and both remain overvalued. Neither offsets the risk of the other. This is a good time to take some chips off the table and bulk-up your Rainy Day Fund. More importantly, it is a time to revisit the fundamentals of sound investing. For example, stop making “one-off” stock investments. Those are usually speculative. But follow Warren Buffett’s lead and continue to invest in strong companies by dollar-cost averaging. Those are “forever” investments that will likely prove worthwhile, through bear markets as well as bull markets, as long as you stay the course.
But how do we find “strong” companies? Experienced traders mainly offer 5 qualifiers: Look for 1) large and 2) well-established companies that have 3) strong Balance Sheets, and pay a 4) good and 5) growing dividend. We have converted those into numbers on a spreadsheet, and call it “The 2 and 8 Club.” We start by looking at the companies in the S&P 100 Index because those are required to have a robust market in Put and Call options (which facilitate Price Discovery). Approximately 20 of the 100 earn membership in our Club. Approximately 10 more companies on the Barron’s 500 List meet our requirements, allowing us to create an ~30 stock list (the Extended Version).
Mission: Produce a spreadsheet of the ~30 companies in the Extended Version of “The 2 and 8 Club.”
Execution: see Table.
Administration: What are our criteria for meeting each of the 5 qualitative objectives?
Large companies
Those are the 500 on the Barron’s 500 List published each May (see Columns N & O in our Tables).
Well-established companies
Those are the companies on the Barron’s 500 List that are also on the 16-Yr list of companies that are quantitatively evaluated each week by using the BMW Method. See Columns K-M in our Tables.
Strong Balance Sheet
Companies must have an S&P Bond Rating of BBB+ or higher (Column T in our Tables). For more granularity on this topic, we provide key metrics: Long-Term Debt as a percent of Total Assets (Column P), Operating Cash Flow as a percent of Current Liabilities (Column Q), Tangible Book Value per Share as a percent of Share Price (Column R), Dividend Payout as a percent of Free Cash Flow (Column S), Weighted Average Cost of Capital vs. Return on Invested Capital (Columns Z and AA). Values in those 6 columns that we think of as sub-par are highlighted in purple.
Good Dividend
Companies must be listed in the FTSE High Dividend Yield Index (US version). Those are the ~400 companies in the Russell 1000 Index that are judged by The Financial Times editors to have a dividend yield that is reliably above the market yield of approximately 2% (see Column G). The most convenient investment vehicle for that is the Vanguard High Dividend Yield ETF (VYM). The list is updated monthly, and you can access holdings here.
Growing Dividend
We require companies to have increased their dividend payout at least 8%/yr over the past 5 years (see Column H), as determined by calculating the Compound Annual Growth Rate (CAGR) for the most recent 4 quarters of regular dividend payouts vs. the same 4 quarters 5 years ago.
As a sanity check, we require that companies have historic returns relative to risk that is within reason for the retail investor, i.e., an S&P Stock Rating of at least B+/M (see Column U).
Finally, there are two important caveats that you need to keep in mind: 1) No one invests solely on the basis of numbers. The story behind a company’s stock has to be examined by using multiple online sources, and revisited at least monthly. 2) Every investor needs a Watch List to help her get started with each month’s research. “The 2 and 8 Club” is our Watch List.
Bottom Line: If you’re a downhill ski racer, your goal is to get to the Bottom Line safely and quickly. “Safely” is accomplished by setting up a few gates with line judges, and allowing you to “shadow” the course the night before. “Quickly” is assessed by using a stopwatch, combined with a video camera trained on the finish line. In other words, the activity is standardized to allow comparison with other racers and place limits on sanity. Stock picking isn’t much different. You need a starting place, a process governed by sanity checks, and a way to judge your performance. “The 2 and 8 Club” satisfies those basic needs. It will help give you a chance to outperform an S&P 500 Index enough to pay for the additional transaction costs and capital gains taxes that you’ll incur.
Risk Rating: 6 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10).
Full Disclosure: I dollar-average into MSFT, NEE, PEP, JPM, CAT and IBM, and also own shares of TRV, MMM, CSCO and CMI.
"The 2 and 8 Club" (CR) 2018 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
But how do we find “strong” companies? Experienced traders mainly offer 5 qualifiers: Look for 1) large and 2) well-established companies that have 3) strong Balance Sheets, and pay a 4) good and 5) growing dividend. We have converted those into numbers on a spreadsheet, and call it “The 2 and 8 Club.” We start by looking at the companies in the S&P 100 Index because those are required to have a robust market in Put and Call options (which facilitate Price Discovery). Approximately 20 of the 100 earn membership in our Club. Approximately 10 more companies on the Barron’s 500 List meet our requirements, allowing us to create an ~30 stock list (the Extended Version).
Mission: Produce a spreadsheet of the ~30 companies in the Extended Version of “The 2 and 8 Club.”
Execution: see Table.
Administration: What are our criteria for meeting each of the 5 qualitative objectives?
Large companies
Those are the 500 on the Barron’s 500 List published each May (see Columns N & O in our Tables).
Well-established companies
Those are the companies on the Barron’s 500 List that are also on the 16-Yr list of companies that are quantitatively evaluated each week by using the BMW Method. See Columns K-M in our Tables.
Strong Balance Sheet
Companies must have an S&P Bond Rating of BBB+ or higher (Column T in our Tables). For more granularity on this topic, we provide key metrics: Long-Term Debt as a percent of Total Assets (Column P), Operating Cash Flow as a percent of Current Liabilities (Column Q), Tangible Book Value per Share as a percent of Share Price (Column R), Dividend Payout as a percent of Free Cash Flow (Column S), Weighted Average Cost of Capital vs. Return on Invested Capital (Columns Z and AA). Values in those 6 columns that we think of as sub-par are highlighted in purple.
Good Dividend
Companies must be listed in the FTSE High Dividend Yield Index (US version). Those are the ~400 companies in the Russell 1000 Index that are judged by The Financial Times editors to have a dividend yield that is reliably above the market yield of approximately 2% (see Column G). The most convenient investment vehicle for that is the Vanguard High Dividend Yield ETF (VYM). The list is updated monthly, and you can access holdings here.
Growing Dividend
We require companies to have increased their dividend payout at least 8%/yr over the past 5 years (see Column H), as determined by calculating the Compound Annual Growth Rate (CAGR) for the most recent 4 quarters of regular dividend payouts vs. the same 4 quarters 5 years ago.
As a sanity check, we require that companies have historic returns relative to risk that is within reason for the retail investor, i.e., an S&P Stock Rating of at least B+/M (see Column U).
Finally, there are two important caveats that you need to keep in mind: 1) No one invests solely on the basis of numbers. The story behind a company’s stock has to be examined by using multiple online sources, and revisited at least monthly. 2) Every investor needs a Watch List to help her get started with each month’s research. “The 2 and 8 Club” is our Watch List.
Bottom Line: If you’re a downhill ski racer, your goal is to get to the Bottom Line safely and quickly. “Safely” is accomplished by setting up a few gates with line judges, and allowing you to “shadow” the course the night before. “Quickly” is assessed by using a stopwatch, combined with a video camera trained on the finish line. In other words, the activity is standardized to allow comparison with other racers and place limits on sanity. Stock picking isn’t much different. You need a starting place, a process governed by sanity checks, and a way to judge your performance. “The 2 and 8 Club” satisfies those basic needs. It will help give you a chance to outperform an S&P 500 Index enough to pay for the additional transaction costs and capital gains taxes that you’ll incur.
Risk Rating: 6 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10).
Full Disclosure: I dollar-average into MSFT, NEE, PEP, JPM, CAT and IBM, and also own shares of TRV, MMM, CSCO and CMI.
"The 2 and 8 Club" (CR) 2018 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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).
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com All rights reserved.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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