Situation: The premise of our weekly blogs is that all of us are planning ahead in order to enjoy a healthy, productive retirement. That said, each of us needs financial resources that are adequate to fund our planned retirement. In other words, this blog is focused on Classical Economics, not Behavioral Economics. But for this week, we want to step “out of frame” and examine some issues that are better examined through the eyes of the Behavioral Economists. The key point is that retirees conduct their business while living with two problems that likely received insufficient attention prior to retirement. The first problem is that exiting from your day job can create a crisis related to identity. Second, retiring means we must face the illusion that we are immortal . . . and recognize that we are not.
If you didn’t know it prior to retiring, certainly afterwards most people will admit that their day job was a complicated mixture of being “just a job” or livelihood, and being their personhood. In retirement (and job loss), we frequently have to construct another “personhood” to replace what has been lost. As a medical doctor, I know that patients with good mental health tend to beat the odds, e.g. after treatment for cancer. I also know that depression makes one more vulnerable to illness and injury, and that losing one’s job is at the top of the list for creating Reactive Depression (along with divorce and death of a family member). Being hit with any one of those three life events is considered by most doctors to be reason enough to seek counseling. Personally, I believe that beginning retirement is the kind of loss that should also be added to the above list. (You've lost your job!)
Why is that? Well, because fundamentally, having a satisfactory retirement isn’t really about finding enough money. It’s about freedom . . . peace of mind. We’ve “slain our dragons” and now it’s time to find a sense of accomplishment, peace of mind. How do we make this transition? It starts by remembering who you were when you came of age. Those who have always worked will probably be interested in finding another job after they retire.
Another important point is that you need to stay healthy. Your mental attitude (optimism and energy) depends on feeling well. The basic keys to good health are easy to remember and cheap to apply: 1) Eat more fresh vegetables, fruit and nuts but less red meat (and no desserts); 2) do cardiothoracic conditioning, something equivalent to two miles of brisk walking and 10 push-ups a day; 3) gradually get back to your high school graduation weight; 4) limit yourself to one cup of coffee a day and one drink a week; 5) don’t smoke cigarettes, puff cigars, or hang out with smokers; 6) get regular dental care to make sure you’re not developing a tooth abscess; 7) get a colonoscopy every 10 years; 8) take a nap most afternoons; 9) drink more water than you think you need (this is because as you get older, you won’t feel the thirst until you’re weak from dehydration).
Your main enemy is hypertension, and it is certain to afflict you if you aren’t aggressive about getting daily exercise, minimizing caffeine intake, staying away from smokers, avoiding contentious people, and getting your BMI (body mass index) under 22. Buy a blood pressure measuring kit to use at home (and keep a daily log). And, as your age advances, gradually wean yourself from driving cars; walk instead. Don’t shovel snow (way too many people get heart attacks from doing that). If you develop any kind of sudden neurological dysfunction, call 911.
Bottom Line: Retirement isn’t what it’s cracked up to be in TV ads for ocean cruises, blood thinners and Viagra. At first you’ll be surprised when friends become disabled by old age, or just up and die. You’ll soon need to take a philosophical position on the subject of death, become more aware of who you are. By knowing your core values, you’ll be better able to make a list of who and what gives you peace of mind. Doing those activities and seeing those people will lower your blood pressure. And don’t forget to make some new friends. Your goal is to find a sense of freedom, which includes freedom from deadlines, obligations and supervision by anyone (other than your cardiologist). If people you know try to get you to march to their drummer instead of your drummer, find other people who share your values. You’ll live longer and better because you’ll have a life, and do things you want to do. Think less about return on invested capital and more about return of invested capital. As you get older, you’ll sleep better if you gradually wind down “growth” investments while maintaining “defensive” investments. So, the end result of this discussion is that we have prepared a Table for this week that has two bond examples plus 5 stocks worth preserving for the growing dividends they’ll spin off. We selected those 5 from our recent list of 10 Lifeboat Stocks (see Week 174). Our goal in presenting this Table is to provide you with a sample of sound dividend and interest paying investments that will give you a stable platform for your Golden Years.
Risk Rating: 3
Full Disclosure: I dollar-average into WMT and 10-yr inflation-protected T-Notes, and also own shares of JNJ, BDX and PEP.
Note: Metrics in the Table that underperform our benchmark (VBINX) are highlighted in red; metrics are current as of the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Showing posts with label lifeboat stocks. Show all posts
Showing posts with label lifeboat stocks. Show all posts
Sunday, March 8
Sunday, February 22
Week 190 - Consumer Staples Companies in the Barron’s 500 List
Situation: Consumer Staples . . . sounds boring, doesn’t it? Here’s why you need to pay attention to this industry. That’s where you’ll find the companies that make all those things we couldn’t make it through the day without: “stuff” we need like food, toothpaste, personal hygiene products, cleaning products and kitchen paraphernalia. Some of us regularly use coffee, tobacco, alcohol, sports equipment, or beauty aids; those also come under Consumer Staples. Demand for these products is inelastic, due to their relative insensitivity to the ups and downs of the economy, i.e., the same numbers of units will be sold whether the price is up or down. If the manufacturer’s cost of production goes up, those costs will be passed on to the consumer without affecting the volume of sales. This degree of “pricing power” is rarely encountered in the other 9 S&P industries. You might think Consumer Staples companies have a license to print money but don’t be fooled. Competition is intense. These companies need to have large worldwide marketing budgets to grow sales, even for familiar brands like Procter & Gamble’s beauty products such as Pantene shampoo.
Here at ITR, we think you should pay close attention to all companies that have large revenues and multiple product lines. Why? Because such companies have strong brands, flexibility to adjust product lines during recessions, and committed customers. The downside is that large companies selling “essential goods” (i.e., Consumer Staples companies) don’t have to fear bankruptcy, thus leading their Chief Financial Officers to conclude that there is little to be gained from building up Tangible Book Value.
In constructing this week’s Table, we’ve examined all of the companies in the Barron’s 500 List, meaning the 500 largest companies by revenue that are listed on the New York and Toronto stock exchanges. Then we’ve eliminated companies that lack the usual indicators of long-term value, namely an S&P bond rating of BBB+ or better and an S&P stock rating of B+/M or better. Those ratings indicate a history of rewarding investors without burdening them with undue risk. Of the 20 companies that survived our cuts, 14 are Dividend Achievers (see Column R in the Table).
As a group, these stocks appear overpriced when you compare the trailing P/E ratio with the S&P 500 Index’s (see Column J in the Table). However, other measures of value indicate that the group is no more overpriced than the S&P 500 Index. EV/EBITDA in Column K averages 12, whereas our estimate for overvaluation is any number above 13. And, the 20-yr log-linear price trend in Column M shows prices that currently average one standard deviation above trend (i.e., the same 1SD elevation as the S&P 500 Index). Two of the higher-quality companies have pricing that is on trend, Wal-Mart Stores (WMT) and JM Smucker (SJM). Those two companies, plus Hormel Foods (HRL) and PepsiCo (PEP) are on our list of Lifeboat Stocks (see Week 174). A final point: 12 of the 20 companies listed in the Table are food-related, which tells us they’re growth companies, given that tens of millions of people per year emerge from poverty in East Asia and adopt middle-class tastes for food.
Bottom Line: Consumer Staples are where you’ll find rewarding stocks that still allow you to sleep through the night.
Risk Rating: 4
Full Disclosure: I dollar-average into WMT and also own shares of HRL, GIS, KO, PEP, and PG.
Note: Metrics highlighted in red indicate underperformance relative to our benchmark (VBINX); values in the Table are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Here at ITR, we think you should pay close attention to all companies that have large revenues and multiple product lines. Why? Because such companies have strong brands, flexibility to adjust product lines during recessions, and committed customers. The downside is that large companies selling “essential goods” (i.e., Consumer Staples companies) don’t have to fear bankruptcy, thus leading their Chief Financial Officers to conclude that there is little to be gained from building up Tangible Book Value.
In constructing this week’s Table, we’ve examined all of the companies in the Barron’s 500 List, meaning the 500 largest companies by revenue that are listed on the New York and Toronto stock exchanges. Then we’ve eliminated companies that lack the usual indicators of long-term value, namely an S&P bond rating of BBB+ or better and an S&P stock rating of B+/M or better. Those ratings indicate a history of rewarding investors without burdening them with undue risk. Of the 20 companies that survived our cuts, 14 are Dividend Achievers (see Column R in the Table).
As a group, these stocks appear overpriced when you compare the trailing P/E ratio with the S&P 500 Index’s (see Column J in the Table). However, other measures of value indicate that the group is no more overpriced than the S&P 500 Index. EV/EBITDA in Column K averages 12, whereas our estimate for overvaluation is any number above 13. And, the 20-yr log-linear price trend in Column M shows prices that currently average one standard deviation above trend (i.e., the same 1SD elevation as the S&P 500 Index). Two of the higher-quality companies have pricing that is on trend, Wal-Mart Stores (WMT) and JM Smucker (SJM). Those two companies, plus Hormel Foods (HRL) and PepsiCo (PEP) are on our list of Lifeboat Stocks (see Week 174). A final point: 12 of the 20 companies listed in the Table are food-related, which tells us they’re growth companies, given that tens of millions of people per year emerge from poverty in East Asia and adopt middle-class tastes for food.
Bottom Line: Consumer Staples are where you’ll find rewarding stocks that still allow you to sleep through the night.
Risk Rating: 4
Full Disclosure: I dollar-average into WMT and also own shares of HRL, GIS, KO, PEP, and PG.
Note: Metrics highlighted in red indicate underperformance relative to our benchmark (VBINX); values in the Table are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, February 15
Week 189 - Buffett Buy Analysis of Barron’s 500 List
Situation: What factors underlie pricing for the S&P 500 Index? Is it the capital gains of the collective companies? Is it dividends? Is it stable and/or predictable interest rates? And how much do random fluctuations in the appetite of investors affect prices? With the appearance of big main-frame computers in the 1980s, academicians could start to model these questions. It turns out that only two things matter to S&P 500 Index pricing, earnings and short-term interest rates. That predicts the market may be headed for a fall, given the current expectation that the Federal Reserve will start raising short-term interest rates later this year.
In that event, you’ll want to know which stocks are best positioned to weather such a storm. I know of no other way to answer the question than to subject the 500 stocks in the Barron’s 500 List to the Buffett Buy Analysis (see Week 183 and Week 30 for details). The “BBA” is only useful if the company has been growing its wealth (Tangible Book Value) steadily over the previous decade. By “growing its wealth”, Mr. Buffett means TBV is rising at a rate over ~9%/yr. (We’ll settle for 7%.) By “steadily”, Mr. Buffett means that TBV fell no more than two yrs over the past decade. The BBA is simply an extension for 10 more yrs of the rate at which core earnings grew over the past 10 yrs. That estimates the company’s earnings for 2024, which are multiplied by the lowest P/E seen during the past decade to arrive at the expected stock price in 2024. But if the company pays a yearly dividend, that amount is multiplied by 10 and added. The expected price in 2024 is compared to the current price to give the average total return/yr over the next 10 yrs (BBA) by using a Compound Annual Growth Rate (CAGR) calculator. You’ll find the key numbers in Columns N through R of this week’s Table.
Sadly, there were only 16 companies with a BBA higher than ~7%/yr. For the most part, that is because prices have been driven up by short-term interest rates that have been under 1% for almost 6 yrs, thus making it cheap for investors to borrow money and invest it in stocks. Those currently elevated stock prices lower the CAGR that prices can achieve over the next 10 yrs.
What can we conclude from the 16 companies that passed the BBA test? For starters, two are railroads, Union Pacific (UNP) and CSX. Those industrial companies are joined by two more: Fluor (FLR) and Expeditors International of Washington (EXPD). Five additional companies are in the information technology sector: Apple (AAPL), Google (GOOGL), Oracle (ORCL), QUALCOMM (QCOM), and Cognizant Technology Solutions (CTSH). Three are Consumer Discretionary stocks: Ross Stores (ROST), Dick’s Sporting Goods (DKS), and Starbucks (SBUX). Two are oil exploration companies: Cameron International (CAM) and National Oilwell Varco (NOV). Two are financial services companies: JP Morgan Chase (JPM) and Travelers (TRV). In summary, 5 of the 10 S&P industry sectors failed to make an appearance (Consumer Staples, Healthcare, Utilities, Communication Services, and Materials), suggesting that those will be contributing little to growth.
Bottom Line: There are some bumps coming for the stock market. Prices have been inflated by cheap money and the lack of competition from bonds. Lifeboat Stocks (see Week 174) are particularly overpriced so you’ll need to maintain a program for investing in growth industries. In this week’s Table, there are 16 growth stocks that get passing grades from the Buffett Buy Analysis.
Risk Rating: 6
Full Disclosure: I dollar-average into JPM, and also own shares of QCOM.
NOTE: Metrics highlighted in red denote underperformance relative to our benchmark, VBINX; metrics are brought current as of the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
In that event, you’ll want to know which stocks are best positioned to weather such a storm. I know of no other way to answer the question than to subject the 500 stocks in the Barron’s 500 List to the Buffett Buy Analysis (see Week 183 and Week 30 for details). The “BBA” is only useful if the company has been growing its wealth (Tangible Book Value) steadily over the previous decade. By “growing its wealth”, Mr. Buffett means TBV is rising at a rate over ~9%/yr. (We’ll settle for 7%.) By “steadily”, Mr. Buffett means that TBV fell no more than two yrs over the past decade. The BBA is simply an extension for 10 more yrs of the rate at which core earnings grew over the past 10 yrs. That estimates the company’s earnings for 2024, which are multiplied by the lowest P/E seen during the past decade to arrive at the expected stock price in 2024. But if the company pays a yearly dividend, that amount is multiplied by 10 and added. The expected price in 2024 is compared to the current price to give the average total return/yr over the next 10 yrs (BBA) by using a Compound Annual Growth Rate (CAGR) calculator. You’ll find the key numbers in Columns N through R of this week’s Table.
Sadly, there were only 16 companies with a BBA higher than ~7%/yr. For the most part, that is because prices have been driven up by short-term interest rates that have been under 1% for almost 6 yrs, thus making it cheap for investors to borrow money and invest it in stocks. Those currently elevated stock prices lower the CAGR that prices can achieve over the next 10 yrs.
What can we conclude from the 16 companies that passed the BBA test? For starters, two are railroads, Union Pacific (UNP) and CSX. Those industrial companies are joined by two more: Fluor (FLR) and Expeditors International of Washington (EXPD). Five additional companies are in the information technology sector: Apple (AAPL), Google (GOOGL), Oracle (ORCL), QUALCOMM (QCOM), and Cognizant Technology Solutions (CTSH). Three are Consumer Discretionary stocks: Ross Stores (ROST), Dick’s Sporting Goods (DKS), and Starbucks (SBUX). Two are oil exploration companies: Cameron International (CAM) and National Oilwell Varco (NOV). Two are financial services companies: JP Morgan Chase (JPM) and Travelers (TRV). In summary, 5 of the 10 S&P industry sectors failed to make an appearance (Consumer Staples, Healthcare, Utilities, Communication Services, and Materials), suggesting that those will be contributing little to growth.
Bottom Line: There are some bumps coming for the stock market. Prices have been inflated by cheap money and the lack of competition from bonds. Lifeboat Stocks (see Week 174) are particularly overpriced so you’ll need to maintain a program for investing in growth industries. In this week’s Table, there are 16 growth stocks that get passing grades from the Buffett Buy Analysis.
Risk Rating: 6
Full Disclosure: I dollar-average into JPM, and also own shares of QCOM.
NOTE: Metrics highlighted in red denote underperformance relative to our benchmark, VBINX; metrics are brought current as of the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, February 8
Week 188 - Markets Fall, Markets Rise. You’ll Need a Safety Net.
Situation: For almost 6 yrs, the stock market has risen steadily on the back of Federal Reserve policies that make investing in bonds seem foolish. That’s fun for awhile, especially if you’re a stock-picker. But it won’t be fun for much longer. “Defensive stocks” -- the best of which we refer to as “Lifeboat Stocks” (see Week 174) -- are now overpriced (except for WalMart). In addition, the Federal Reserve is likely to raise interest rates in 2015. That will encourage investors to take some money out of stocks and put it into bonds, rebalancing those competing assets. In such an event, you'll be likely to face two issues: 1) There may be a stock market pullback heralded by key infrastructure stocks, as appears to be happening already; 2) defensive stocks will get hurt as much as growth stocks because they’re more overpriced. That means you’ll want to dollar-average into growth stocks, i.e., stable, long-term outperformers selling at a reasonable price. To help you find those, we’ve subjected the entire Barron’s 500 List to the Buffett Buy Analysis (see Week 30 and Week 183).
Because of overpricing throughout the stock market, our list of companies for you to consider is rather short. It contains only 16 names and, as expected, none are from defensive industries (consumer staples, healthcare, utilities, and telecommunication services). You’ll see the entire list in next week’s blog but there are only 3 Dividend Achievers among the 16: Ross Stores (ROST), QUALCOMM (QCOM), and Expeditors International (EXPD). We’re particularly interested in those companies, since their record of raising dividends annually for at least the past 10 yrs makes their stock valuable in retirement as a way to beat inflation.
For this week’s Table, we’ve taken those 3 companies and added 4 more that I dollar-average into and call “Cornerstone Stocks.” Those 4 are WalMart Stores (WMT), ExxonMobil (XOM), Microsoft (MSFT), and NextEra Energy (NEE). You should pick 4 of your own to dollar-average into.
Bottom Line: These 7 stocks are likely to mitigate your losses in a bear market and perform better than our benchmark (VBINX) in a bull market. As a group, they’ll form a Safety Net for your portfolio. However, only two are Hedge Stocks (see Week 182), WMT and NEE, so you’ll need to balance your investment in any of the other 5 companies with Treasury Notes, Savings Bonds, or a low-cost intermediate-term bond index fund like VBIIX (which is entered 5 times in the Table to represent this balancing).
Risk Rating: 4
Full Disclosure: I dollar-average into WMT, XOM, MSFT and NEE.
NOTE: Metrics highlighted in red denote underperformance relative to our benchmark, VBINX.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Because of overpricing throughout the stock market, our list of companies for you to consider is rather short. It contains only 16 names and, as expected, none are from defensive industries (consumer staples, healthcare, utilities, and telecommunication services). You’ll see the entire list in next week’s blog but there are only 3 Dividend Achievers among the 16: Ross Stores (ROST), QUALCOMM (QCOM), and Expeditors International (EXPD). We’re particularly interested in those companies, since their record of raising dividends annually for at least the past 10 yrs makes their stock valuable in retirement as a way to beat inflation.
For this week’s Table, we’ve taken those 3 companies and added 4 more that I dollar-average into and call “Cornerstone Stocks.” Those 4 are WalMart Stores (WMT), ExxonMobil (XOM), Microsoft (MSFT), and NextEra Energy (NEE). You should pick 4 of your own to dollar-average into.
Bottom Line: These 7 stocks are likely to mitigate your losses in a bear market and perform better than our benchmark (VBINX) in a bull market. As a group, they’ll form a Safety Net for your portfolio. However, only two are Hedge Stocks (see Week 182), WMT and NEE, so you’ll need to balance your investment in any of the other 5 companies with Treasury Notes, Savings Bonds, or a low-cost intermediate-term bond index fund like VBIIX (which is entered 5 times in the Table to represent this balancing).
Risk Rating: 4
Full Disclosure: I dollar-average into WMT, XOM, MSFT and NEE.
NOTE: Metrics highlighted in red denote underperformance relative to our benchmark, VBINX.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 2
Week 174 - Lifeboat Stocks for an Overpriced Market
Situation: The S&P 500 Index has been priced at or close to 20 times trailing earnings for several months now. That means equity yield is 5.0%, which is the bottom of its historic range of 5-10%. However, 10-yr Treasury Notes are only yielding 2.5%. That means the equity premium is 2.5% (5.0% minus 2.5%), suggesting stocks are still a “buy.”
At these lofty valuations, what is prudent stock-buying behavior? I would say this is a time to maintain your current plan, and think about dollar-averaging any additional funds into either the Vanguard Wellesley Income Fund (if you’re a “Risk-Off” investor) or the Vanguard Balanced Index Fund (if you’re a “Risk-On” investor). Those funds are highlighted in the “BENCHMARKS” section of all our Tables. That being said, we know you’ll be tempted to place additional funds in “Lifeboat Stocks” during this uncertain period (see Week 151). But be careful. So many investors are going in that direction that such stocks have become a “crowded trade.”
For this week’s Table, we’ve listed all of the Dividend Achievers in the Barron’s 500 List that have an S&P bond rating of BBB+ or better and an S&P stock rating of A/M or better. Companies that don’t have a Finance Value (Column E Table) higher than that for VBINX are excluded. So are companies paying a dividend that amounts to more than ~50% of earnings (“payout ratio,” Column I Table), or ~60% in the case of a regulated public utility.
Only 9 companies survive our screen, as of this date (9/24/14). Wal-Mart Stores (WMT), Johnson & Johnson (JNJ), and PepsiCo (PEP) are household names. CVS Caremark is familiar to many, but few know that it was recently renamed “CVS Health” because the stores stopped selling tobacco products. The JM Smucker Company is associated in the minds of most of us with jelly and jam but is actually the largest purveyor of coffee in the US, both at grocery stores (Folgers, Millstone) and along Main Street (Dunkin’ Donuts). Metrics that reflect underperformance vs. VBINX have been highlighted in red. In particular, note that 7 companies have red highlights in Column K of the Table (P/E).
Bottom Line: You can still find “Lifeboat Stocks” that are worthwhile investments but it is time to tread lightly. For those stocks, stick to dollar-averaging small amounts of money into an online DRIP each month. Better yet, give Vanguard’s balanced mutual funds like VWINX and VBINX a closer look.
Risk Rating: 4
Full Disclosure: I dollar-average into NEE, ABT, and WMT each month.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
At these lofty valuations, what is prudent stock-buying behavior? I would say this is a time to maintain your current plan, and think about dollar-averaging any additional funds into either the Vanguard Wellesley Income Fund (if you’re a “Risk-Off” investor) or the Vanguard Balanced Index Fund (if you’re a “Risk-On” investor). Those funds are highlighted in the “BENCHMARKS” section of all our Tables. That being said, we know you’ll be tempted to place additional funds in “Lifeboat Stocks” during this uncertain period (see Week 151). But be careful. So many investors are going in that direction that such stocks have become a “crowded trade.”
For this week’s Table, we’ve listed all of the Dividend Achievers in the Barron’s 500 List that have an S&P bond rating of BBB+ or better and an S&P stock rating of A/M or better. Companies that don’t have a Finance Value (Column E Table) higher than that for VBINX are excluded. So are companies paying a dividend that amounts to more than ~50% of earnings (“payout ratio,” Column I Table), or ~60% in the case of a regulated public utility.
Only 9 companies survive our screen, as of this date (9/24/14). Wal-Mart Stores (WMT), Johnson & Johnson (JNJ), and PepsiCo (PEP) are household names. CVS Caremark is familiar to many, but few know that it was recently renamed “CVS Health” because the stores stopped selling tobacco products. The JM Smucker Company is associated in the minds of most of us with jelly and jam but is actually the largest purveyor of coffee in the US, both at grocery stores (Folgers, Millstone) and along Main Street (Dunkin’ Donuts). Metrics that reflect underperformance vs. VBINX have been highlighted in red. In particular, note that 7 companies have red highlights in Column K of the Table (P/E).
Bottom Line: You can still find “Lifeboat Stocks” that are worthwhile investments but it is time to tread lightly. For those stocks, stick to dollar-averaging small amounts of money into an online DRIP each month. Better yet, give Vanguard’s balanced mutual funds like VWINX and VBINX a closer look.
Risk Rating: 4
Full Disclosure: I dollar-average into NEE, ABT, and WMT each month.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, May 25
Week 151 - “Lifeboat Stocks” for your Rainy Day Fund
Situation: Over time, you will spend a lot of the money that is stashed in your Rainy Day fund (see Week 33 and Week 119). Life has unique ways of generating unbudgeted capital expenses, which frequently require that you choose between two means of payment. Either use credit or use equity (i.e., your Rainy Day Fund). How can you cover those “pop-up” expenses and still avoid destroying your Rainy Day Fund? Remember, a key ingredient in a Rainy Day Fund is Inflation-protected US Savings Bonds (ISBs - see Week 33). Those actually grow 20-80% faster than inflation and offer several tax advantages. However, a quarter’s worth of interest is lost if you cash out an ISB before 5 years have passed. But, let’s face it: ISBs won’t allow you to spend much without depleting your Rainy Day Fund.
A remedy is to add what we like to call “Lifeboat Stocks” (see Week 8, Week 23, Week 50 and Week 106) to your Rainy Day Fund. Those stocks are issued by companies in “defensive” industries--utilities, healthcare, and consumer staples. The reason we make that recommendation is to get a higher total return while giving up only a little safety. That allows the effects of price appreciation and dividend reinvestment to replenish the Fund and keep it growing. The trick is deciding which companies to select for investment. There aren’t many companies that grow steadily and issue a stock that holds up well during downturns (bear markets and recessions) without becoming overpriced during upturns (like the current one). We can find only 12 companies that fit the bill, and 5 of those are electric utilities (see Table). Given that the stock issued by electric utility companies has many bond-like features, you might as well allocate the non-Savings Bond part of your Rainy Day Fund to a “balanced” mutual fund that has a lot of high-quality corporate and government bonds. We recommend the Vanguard Wellesley Income Fund (VWINX, Line 20 in the Table), which is 45% stocks and 55% bonds. Its annual expense ratio is only 0.25%/yr. But you’ll need to make an initial investment of $3,000 to get into the fund; then you can add as little as $100 at a time. So, a combination of 50% ISBs and 50% VWINX is a cheap and convenient way to have a continuously useful Rainy Day Fund.
But many of you want to invest in stocks because they’re interesting and offer a way to beat inflation and taxes, as long as you keep your transaction costs low and reinvest dividends. So, you’ll want to know how we picked the 12 stocks in the Table. Firstly, they had to have very good S&P credit ratings and be Dividend Achievers (S&P’s name for companies that have raised their dividends annually for 10 or more yrs). More importantly, they had to perform better than our benchmark (The Vanguard Balanced Index Fund, VBINX) over both the long term (10+ yrs) and short term (5 yrs) without losing as much as VBINX did during the 18-month Lehman Panic, which was 28%. But we bend those rules a little if there is outperformance in another area, like volatility (5-yr Beta) or valuation (P/E). Red highlights are used in the Table to denote underperformance relative to VBINX.
Bottom Line: A Rainy Day Fund won’t be of much use to you unless it includes stocks.
Risk Rating: 2.
Full Disclosure: For my Rainy Day Fund, I dollar-average into ISBs, WMT, JNJ, and NEE. It also contains shares of PEP and GIS, as well as standard US Savings Bonds--EESBs, which the US Treasury guarantee to at least double your money if you hold them for 20 yrs (total return = 3.5%/yr).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
A remedy is to add what we like to call “Lifeboat Stocks” (see Week 8, Week 23, Week 50 and Week 106) to your Rainy Day Fund. Those stocks are issued by companies in “defensive” industries--utilities, healthcare, and consumer staples. The reason we make that recommendation is to get a higher total return while giving up only a little safety. That allows the effects of price appreciation and dividend reinvestment to replenish the Fund and keep it growing. The trick is deciding which companies to select for investment. There aren’t many companies that grow steadily and issue a stock that holds up well during downturns (bear markets and recessions) without becoming overpriced during upturns (like the current one). We can find only 12 companies that fit the bill, and 5 of those are electric utilities (see Table). Given that the stock issued by electric utility companies has many bond-like features, you might as well allocate the non-Savings Bond part of your Rainy Day Fund to a “balanced” mutual fund that has a lot of high-quality corporate and government bonds. We recommend the Vanguard Wellesley Income Fund (VWINX, Line 20 in the Table), which is 45% stocks and 55% bonds. Its annual expense ratio is only 0.25%/yr. But you’ll need to make an initial investment of $3,000 to get into the fund; then you can add as little as $100 at a time. So, a combination of 50% ISBs and 50% VWINX is a cheap and convenient way to have a continuously useful Rainy Day Fund.
But many of you want to invest in stocks because they’re interesting and offer a way to beat inflation and taxes, as long as you keep your transaction costs low and reinvest dividends. So, you’ll want to know how we picked the 12 stocks in the Table. Firstly, they had to have very good S&P credit ratings and be Dividend Achievers (S&P’s name for companies that have raised their dividends annually for 10 or more yrs). More importantly, they had to perform better than our benchmark (The Vanguard Balanced Index Fund, VBINX) over both the long term (10+ yrs) and short term (5 yrs) without losing as much as VBINX did during the 18-month Lehman Panic, which was 28%. But we bend those rules a little if there is outperformance in another area, like volatility (5-yr Beta) or valuation (P/E). Red highlights are used in the Table to denote underperformance relative to VBINX.
Bottom Line: A Rainy Day Fund won’t be of much use to you unless it includes stocks.
Risk Rating: 2.
Full Disclosure: For my Rainy Day Fund, I dollar-average into ISBs, WMT, JNJ, and NEE. It also contains shares of PEP and GIS, as well as standard US Savings Bonds--EESBs, which the US Treasury guarantee to at least double your money if you hold them for 20 yrs (total return = 3.5%/yr).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, May 18
Week 150 - Our Current List of Hedge Stocks
Situation: Our favorite way to look at risk is to make a guesstimate of what would happen to retirement investments in a bear market. Recall that a bear market occurs when the S&P 500 Index falls more than 20% from its most recent peak. That’s a different question than calculating what happens to those investments in a recession. Why? Because bear markets, such as the one-day 22% collapse in 1987, don’t necessarily presage a recession. The famed economist Paul Samuelson once quipped that “the stock market has called 9 of the past 5 recessions.”
Some of the stocks in your portfolio need to be “downturn resistant” because, during a downturn, you are more likely to have financial difficulties and need to sell some assets to tide you over until better times. Perhaps you’ll have enough Treasury Notes and Savings Bonds for those to act as a safety net. If not, you'll need to either sell some stocks, or go deeper in debt. If you decide to sell some stocks, you’d rather not take a loss. The idea of having a few such Hedge Stocks is that those are unlikely to show much price depreciation in a market downturn. Even Warren Buffett, who counsels investors never to close out a good position, sold his entire large block of Johnson & Johnson shares going into the Lehman Panic. The proceeds were used to help assemble $26B in loans to six companies that badly needed capital (General Electric, Goldman Sachs, Bank of America, Dow Chemical, Swiss Re, and Mars Candy). His first loan of $5 Billion was to Goldman Sachs on 9/24/08--9 days after Lehman Brothers Holdings filed for bankruptcy. That heralded the Federal Government’s “bailout” of Wall Street banks in mid-October 2008, using almost half the $700B in “TARP” funds that was for a different purpose (i.e., to buy up mortgage-backed securities from the 7 surviving Wall Street banks). Warren’s timely display of confidence in Wall Street probably had more to do with averting another Great Depression than did the dollar amount of all the loans. Remember: Confidence in a company’s future is what impels investors to buy stock, not it’s balance sheet.
What else makes a company’s stock price go up or down? We need to examine that before we can understand the idea of a hedge stock. There are really only two factors to consider: 1) Is the stock over-priced? 2) Is the story broken (e.g. will the company collapse in a market panic)? “Overpriced” means that the 5-6%/yr rate of return realized by cautious investors throughout recorded history no longer applies. Note: that expected rate of return will stick close to the nominal rate of GDP growth, which in the USA has been 5-6% until recently. In other words, the price for a share of stock has to be less than 20 times the most recent 12 months of earnings per share to realize more than a 5% return. With lower returns, there is a valuation problem and hedge fund traders will be drawn to bet against (or short) the stock. You can easily find out if the P/E is over 20 by checking Yahoo Finance on your smartphone.
The second question is much harder to assess: Does the story that supports confidence in a company’s future stream of earnings still apply? Or is the story broken? This terminology dates to medieval Italy, where a banker would sit at a bench (banca) in the town square. If he ran out of money, the bench would be broken in front of him (banca rotta), later transliterated to “bankrupt.”
For any widely-held company, there is always a steady production of articles, blogs and TV commentators pointing to “factlets” suggesting that the story is broken. That’s how media outlets attract advertisers and readers (i.e., by creating anxiety). Quite simply, it is human nature to undermine a money-making story, particularly when you haven’t been a beneficiary.
This makes it important to do your own “story” research for stocks that you own or want to own. For hedge stocks, researching the story is a little easier because they’re never “barnburners.” There’s no chance they’ll light up the investment universe, except of course for the “bond gnomes” off in a corner who would happily loan money to such companies. In a bull market, hedge stocks struggle to keep up with the S&P 500 Index but over the long term they’ll probably make money for their shareholders because of being downturn-resistant. When the stock market cracks, these companies don’t. Thus, it turns out that hedge stocks are not that hard to research. Their history of performance is one of limited price fluctuations, whether the market is headed up or down.
We use the hedged S&P 500 Index as our benchmark and guide for finding hedge stocks. These stocks are buried in that hedged index (The Vanguard Balanced Index Fund or VBINX). It is hedged in both directions: You are insulated from a market crash by its 40% allocation to high-grade bonds. Likewise, you benefit from market exuberance because the 60% allocation to stocks references an index of the 1000 largest companies. In other words, riskier mid-cap company stocks are included. Their high 5-yr Betas pull VBINX’s 5-yr Beta up to 0.91 from 0.6, which is where you’d expect for an index composed of 60% S&P 500 stocks and 40% high-grade bonds. That "balanced fund" strategy works because VBINX sank only 60% as far as the S&P 500 Index during the Lehman Panic (Column D in the Table), and has performed 50% better since 9/1/00, which is when the S&P 500 Index reached its inflation-adjusted high.
We also look for other metrics that are likely to prevent a hedge fund trader from betting against a company’s stock. These include: a dividend yield of at least 1.5%, outperformance relative to VBINX over both the short-term (5 yrs) and long-term, a P/E no greater than 22 (for the last 4 quarters of reported earnings), a Finance Value (Column E in the Table) that beats VBINX, a 5-yr Beta under 0.7, and an S&P bond rating of at “A-” or better. Metrics that underperform VBINX are highlighted in red.
Bottom Line: The value of owning a hedge stock is that you don’t need to hedge your downside risk by making an equivalent investment in a 10-yr Treasury Note or an inflation-protected Savings Bond. But our screen of S&P 500 companies turns up only 15 hedge stocks, even after bending our standards a little (Table). Twelve of the 15 are in “defensive” industries--utilities, consumer staples, and healthcare. Those 12 are what we call “Lifeboat Stocks” (see Week 106). McDonald’s (MCD), VF Corporation (VFC), and IBM are the only exceptions. If the market were not currently going through an overpriced moment, more companies would qualify. Of course, after a market collapse our search will become easier but that will also be when everyone (aside from Warren Buffett) is averse to investing. He has put a fine point on it: “Only when the tide goes out do you discover who's been swimming naked.”
Risk Rating: 4.
Full disclosure: I dollar-average into DRIPs at computershare.com for WMT, NEE, IBM, JNJ, and KO.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Some of the stocks in your portfolio need to be “downturn resistant” because, during a downturn, you are more likely to have financial difficulties and need to sell some assets to tide you over until better times. Perhaps you’ll have enough Treasury Notes and Savings Bonds for those to act as a safety net. If not, you'll need to either sell some stocks, or go deeper in debt. If you decide to sell some stocks, you’d rather not take a loss. The idea of having a few such Hedge Stocks is that those are unlikely to show much price depreciation in a market downturn. Even Warren Buffett, who counsels investors never to close out a good position, sold his entire large block of Johnson & Johnson shares going into the Lehman Panic. The proceeds were used to help assemble $26B in loans to six companies that badly needed capital (General Electric, Goldman Sachs, Bank of America, Dow Chemical, Swiss Re, and Mars Candy). His first loan of $5 Billion was to Goldman Sachs on 9/24/08--9 days after Lehman Brothers Holdings filed for bankruptcy. That heralded the Federal Government’s “bailout” of Wall Street banks in mid-October 2008, using almost half the $700B in “TARP” funds that was for a different purpose (i.e., to buy up mortgage-backed securities from the 7 surviving Wall Street banks). Warren’s timely display of confidence in Wall Street probably had more to do with averting another Great Depression than did the dollar amount of all the loans. Remember: Confidence in a company’s future is what impels investors to buy stock, not it’s balance sheet.
What else makes a company’s stock price go up or down? We need to examine that before we can understand the idea of a hedge stock. There are really only two factors to consider: 1) Is the stock over-priced? 2) Is the story broken (e.g. will the company collapse in a market panic)? “Overpriced” means that the 5-6%/yr rate of return realized by cautious investors throughout recorded history no longer applies. Note: that expected rate of return will stick close to the nominal rate of GDP growth, which in the USA has been 5-6% until recently. In other words, the price for a share of stock has to be less than 20 times the most recent 12 months of earnings per share to realize more than a 5% return. With lower returns, there is a valuation problem and hedge fund traders will be drawn to bet against (or short) the stock. You can easily find out if the P/E is over 20 by checking Yahoo Finance on your smartphone.
The second question is much harder to assess: Does the story that supports confidence in a company’s future stream of earnings still apply? Or is the story broken? This terminology dates to medieval Italy, where a banker would sit at a bench (banca) in the town square. If he ran out of money, the bench would be broken in front of him (banca rotta), later transliterated to “bankrupt.”
For any widely-held company, there is always a steady production of articles, blogs and TV commentators pointing to “factlets” suggesting that the story is broken. That’s how media outlets attract advertisers and readers (i.e., by creating anxiety). Quite simply, it is human nature to undermine a money-making story, particularly when you haven’t been a beneficiary.
This makes it important to do your own “story” research for stocks that you own or want to own. For hedge stocks, researching the story is a little easier because they’re never “barnburners.” There’s no chance they’ll light up the investment universe, except of course for the “bond gnomes” off in a corner who would happily loan money to such companies. In a bull market, hedge stocks struggle to keep up with the S&P 500 Index but over the long term they’ll probably make money for their shareholders because of being downturn-resistant. When the stock market cracks, these companies don’t. Thus, it turns out that hedge stocks are not that hard to research. Their history of performance is one of limited price fluctuations, whether the market is headed up or down.
We use the hedged S&P 500 Index as our benchmark and guide for finding hedge stocks. These stocks are buried in that hedged index (The Vanguard Balanced Index Fund or VBINX). It is hedged in both directions: You are insulated from a market crash by its 40% allocation to high-grade bonds. Likewise, you benefit from market exuberance because the 60% allocation to stocks references an index of the 1000 largest companies. In other words, riskier mid-cap company stocks are included. Their high 5-yr Betas pull VBINX’s 5-yr Beta up to 0.91 from 0.6, which is where you’d expect for an index composed of 60% S&P 500 stocks and 40% high-grade bonds. That "balanced fund" strategy works because VBINX sank only 60% as far as the S&P 500 Index during the Lehman Panic (Column D in the Table), and has performed 50% better since 9/1/00, which is when the S&P 500 Index reached its inflation-adjusted high.
We also look for other metrics that are likely to prevent a hedge fund trader from betting against a company’s stock. These include: a dividend yield of at least 1.5%, outperformance relative to VBINX over both the short-term (5 yrs) and long-term, a P/E no greater than 22 (for the last 4 quarters of reported earnings), a Finance Value (Column E in the Table) that beats VBINX, a 5-yr Beta under 0.7, and an S&P bond rating of at “A-” or better. Metrics that underperform VBINX are highlighted in red.
Bottom Line: The value of owning a hedge stock is that you don’t need to hedge your downside risk by making an equivalent investment in a 10-yr Treasury Note or an inflation-protected Savings Bond. But our screen of S&P 500 companies turns up only 15 hedge stocks, even after bending our standards a little (Table). Twelve of the 15 are in “defensive” industries--utilities, consumer staples, and healthcare. Those 12 are what we call “Lifeboat Stocks” (see Week 106). McDonald’s (MCD), VF Corporation (VFC), and IBM are the only exceptions. If the market were not currently going through an overpriced moment, more companies would qualify. Of course, after a market collapse our search will become easier but that will also be when everyone (aside from Warren Buffett) is averse to investing. He has put a fine point on it: “Only when the tide goes out do you discover who's been swimming naked.”
Risk Rating: 4.
Full disclosure: I dollar-average into DRIPs at computershare.com for WMT, NEE, IBM, JNJ, and KO.
Post questions and 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, January 12
Week 132 - What kind of returns can you expect after taxes and inflation?
Situation: Here you are, constantly worrying about whether you’ll have enough retirement income. Here at ITR, we want to give you as many options to consider as possible, along with pluses and minuses for each. Since true profit is the net of “gains” minus “expenses” it’s very important to consider what various retirement options are costing you, in real time. These costs are something that mutual fund managers and TV "experts" are loath to discuss, to say nothing of those infamous hedge funds.
In this week’s blog, we want to boil this down to your likely “take home pay” for Plan A vs. Plan B vs. Plan C. We can start right up front by subtracting rates for taxes (25%) and inflation (2.4%) from Total Returns over the past 10 and 17 yr periods. Then we can subtract transaction costs, which better be a lot less than the 2%/yr spent by the average retail investor if you've been following our style of investing.
Plan A is the “plain vanilla” plan consisting of 50% in the lowest-cost S&P 500 Index fund (VFINX) and 50% in the lowest-cost intermediate-term investment-grade bond index fund (VBIIX). Looking at the Table, 17-yr returns for Plan A averaged 7%/yr and 10-yr returns averaged 6.1%/yr. (Note: you would have had to do some rebalancing every few years in order to maintain a 50:50 ratio.) The transaction costs or “expense ratio” for this plan are incorporated in the returns for each of the mutual funds, ~0.25%/yr. Subtracting 25% for taxes and 2.4% for inflation leaves you gaining an average of 2.9%/yr over the past 17 yrs, or 2.1%/yr over the past 10 yrs.
Plan B is the "balanced fund" plan, consisting of 100% in either the Vanguard Balanced Index Fund (VBINX, a computer-run fund kept at 60% stocks and 40% bonds) or the Vanguard Wellesley Income Fund (VWINX, a managed fund kept at ~60% bonds and ~40% stocks). Looking at the Table, 17-yr returns for VBINX averaged 7.4% and 10-yr returns averaged 6.8%. As in Plan A,transaction costs for these Vanguard funds are ~0.25%/yr. For VBINX, subtracting 25% for taxes and 2.4% for inflation leaves you gaining an average of 3.2% after 17 yrs and 2.7%/yr after 10 yrs. For VWINX, returns, net of all 3 costs are 3.7% after 17 yrs and 2.7% after 10 yrs.
Plan C is the do-it-yourself plan consisting 50% of Plan A and 50% of 8 large-capitalization “hedge stocks” (see Week 126). Turning to the Table, we see that those hedge stocks returned an average of 9.9%/yr over the most recent 17 yrs and 10.2%/yr over the most recent 10 yrs. The expense ratio (Column O) for building those DRIPs at computershare is 0.9%/yr. After subtracting 25% for taxes and 2.4% for inflation, average returns come to 5.0%/yr after 17 yrs and 5.3%/yr after 10 yrs; then subtract 0.9%/yr for transaction costs and you’re left with 4.1% and 4.4%. Combining those net returns 50:50 with the net returns from Plan A leaves you gaining 3.5%/yr after 17 yrs and 3.2%/yr after 10 yrs for Plan C.
In terms of reward, Plan C is superior but VWINX is a close second. In terms of risk, the three plans also differ. For example, note the losses sustained during the 18-month Lehman Panic (Column D in the Table): 20.3% for Plan A; 28% (VBINX) and 16% (VWINX) for Plan B; 16.2% for Plan C. Risk is also reflected by the 5-yr Beta values (Column I): 0.5 for Plan A; 0.94 for VBINX and 0.58 for VWINX in Plan B; 0.45 for Plan C. Note: Returns are as of 12/31/2013; red highlights denote metrics that underperform VBINX.
In terms of risk, Plan C is superior but VWINX is a close second. Plan C also fits well with your workplace retirement plan, since almost all such plans offer an investment-grade bond fund and a stock index fund as options from which to choose. Then you can use your IRA for investing in the hedge stocks.
Bottom Line: All 3 of these plans are conservative, in that they’re designed to conserve your resources through any but the worst of financial calamities (nuclear war, global pandemic). For example, all but one of the 8 hedge stocks in Plan C is a “Lifeboat Stock” (see Week 106). Risk has been avoided except in the case of the computer-run balanced fund (VBINX), which is 60% stocks. Over the past 5 yrs of remarkable growth in the stock market, that part of Plan B has outperformed the other options (see Column G). VBINX is our benchmark, referenced in every blog, because it is not subject to human error and is largely hedged anyway, given its 40% bond index component. Daily rebalancing prevents any momentum in either stocks or bonds from skewing the fund in either direction.
The most important message that we’d like to leave with you is that transaction costs need to be accounted for, and avoided where possible. Warren Buffett has made this clear on several occasions. For example, at the 2004 Annual Meeting of Berkshire Hathaway shareholders he said, when asked about the best way to invest for retirement:
“Among the various propositions offered to you, if you invested in a very low cost index fund -- where you don't put the money in at one time, but average in over 10 years -- you'll do better than 90% of people who start investing at the same time."
Risk Rating: 4
Full Disclosure: I own stock in all 8 of the companies at the top part of the Table.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
In this week’s blog, we want to boil this down to your likely “take home pay” for Plan A vs. Plan B vs. Plan C. We can start right up front by subtracting rates for taxes (25%) and inflation (2.4%) from Total Returns over the past 10 and 17 yr periods. Then we can subtract transaction costs, which better be a lot less than the 2%/yr spent by the average retail investor if you've been following our style of investing.
Plan A is the “plain vanilla” plan consisting of 50% in the lowest-cost S&P 500 Index fund (VFINX) and 50% in the lowest-cost intermediate-term investment-grade bond index fund (VBIIX). Looking at the Table, 17-yr returns for Plan A averaged 7%/yr and 10-yr returns averaged 6.1%/yr. (Note: you would have had to do some rebalancing every few years in order to maintain a 50:50 ratio.) The transaction costs or “expense ratio” for this plan are incorporated in the returns for each of the mutual funds, ~0.25%/yr. Subtracting 25% for taxes and 2.4% for inflation leaves you gaining an average of 2.9%/yr over the past 17 yrs, or 2.1%/yr over the past 10 yrs.
Plan B is the "balanced fund" plan, consisting of 100% in either the Vanguard Balanced Index Fund (VBINX, a computer-run fund kept at 60% stocks and 40% bonds) or the Vanguard Wellesley Income Fund (VWINX, a managed fund kept at ~60% bonds and ~40% stocks). Looking at the Table, 17-yr returns for VBINX averaged 7.4% and 10-yr returns averaged 6.8%. As in Plan A,transaction costs for these Vanguard funds are ~0.25%/yr. For VBINX, subtracting 25% for taxes and 2.4% for inflation leaves you gaining an average of 3.2% after 17 yrs and 2.7%/yr after 10 yrs. For VWINX, returns, net of all 3 costs are 3.7% after 17 yrs and 2.7% after 10 yrs.
Plan C is the do-it-yourself plan consisting 50% of Plan A and 50% of 8 large-capitalization “hedge stocks” (see Week 126). Turning to the Table, we see that those hedge stocks returned an average of 9.9%/yr over the most recent 17 yrs and 10.2%/yr over the most recent 10 yrs. The expense ratio (Column O) for building those DRIPs at computershare is 0.9%/yr. After subtracting 25% for taxes and 2.4% for inflation, average returns come to 5.0%/yr after 17 yrs and 5.3%/yr after 10 yrs; then subtract 0.9%/yr for transaction costs and you’re left with 4.1% and 4.4%. Combining those net returns 50:50 with the net returns from Plan A leaves you gaining 3.5%/yr after 17 yrs and 3.2%/yr after 10 yrs for Plan C.
In terms of reward, Plan C is superior but VWINX is a close second. In terms of risk, the three plans also differ. For example, note the losses sustained during the 18-month Lehman Panic (Column D in the Table): 20.3% for Plan A; 28% (VBINX) and 16% (VWINX) for Plan B; 16.2% for Plan C. Risk is also reflected by the 5-yr Beta values (Column I): 0.5 for Plan A; 0.94 for VBINX and 0.58 for VWINX in Plan B; 0.45 for Plan C. Note: Returns are as of 12/31/2013; red highlights denote metrics that underperform VBINX.
In terms of risk, Plan C is superior but VWINX is a close second. Plan C also fits well with your workplace retirement plan, since almost all such plans offer an investment-grade bond fund and a stock index fund as options from which to choose. Then you can use your IRA for investing in the hedge stocks.
Bottom Line: All 3 of these plans are conservative, in that they’re designed to conserve your resources through any but the worst of financial calamities (nuclear war, global pandemic). For example, all but one of the 8 hedge stocks in Plan C is a “Lifeboat Stock” (see Week 106). Risk has been avoided except in the case of the computer-run balanced fund (VBINX), which is 60% stocks. Over the past 5 yrs of remarkable growth in the stock market, that part of Plan B has outperformed the other options (see Column G). VBINX is our benchmark, referenced in every blog, because it is not subject to human error and is largely hedged anyway, given its 40% bond index component. Daily rebalancing prevents any momentum in either stocks or bonds from skewing the fund in either direction.
The most important message that we’d like to leave with you is that transaction costs need to be accounted for, and avoided where possible. Warren Buffett has made this clear on several occasions. For example, at the 2004 Annual Meeting of Berkshire Hathaway shareholders he said, when asked about the best way to invest for retirement:
“Among the various propositions offered to you, if you invested in a very low cost index fund -- where you don't put the money in at one time, but average in over 10 years -- you'll do better than 90% of people who start investing at the same time."
Risk Rating: 4
Full Disclosure: I own stock in all 8 of the companies at the top part of the Table.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, December 1
Week 126 - There are 7 “Hedge Stocks” in the S&P 100 Index
Situation: Here at ITR, we like to focus your attention on stocks issued by really big companies. That’s because those companies have the resources and flexibility needed to ride out a bear market. You don’t get as much bang for the buck as you do with small or mid-cap stocks (e.g. those found in the S&P 400 Index) but the risk of damage to your retirement nest egg just when you need it the most (at the beginning of retirement) is much less. Our latest list of “hedge stocks” (see Week 117) had only 16 companies but 7 of those are found in the S&P 100 Index of companies with market capitalizations over ~$35B.
We’ll look at the long and short term Finance Values of those seven. In addition, we’ll look at 3 more companies that are on the border for inclusion that august group: General Mills (GIS) and NextEra Energy (NEE) have ~$35B of market capitalization and are in our list of 16 hedge stocks; Procter & Gamble (PG) is already in the S&P 100 Index but fell just short of being a hedge stock. Why? Because during the Lehman Panic it lost slightly more than our benchmark, the Vanguard Balanced Index Fund (VBINX -- Column D in the Table). But PG is already used by investors around the world to hedge against the risk of their other investments, so we’ll sneak it into our list of S&P 100 hedge stocks.
These 10 stocks have superior long-term Finance Value (Column E in the Table), meaning that after subtracting losses during the Lehman Panic from long-term gains investors came out ahead of our benchmark (VBINX). We assess short-term Finance Value by referencing the Barron’s 500 list for 2013 vs. the 2012 list, to determine whether there has been recent growth in sales and cash flow (Columns L & M in the Table). Of the 3 companies that were in the top 200 in 2012 (ABT, MCD, GIS), only McDonald’s (MCD) slipped out of that group in 2013. Of the remaining 7 companies, only PepsiCo (PEP) had a significantly lower rank in 2013 than in 2012. That leaves us with 8 hedge stocks that have both long and short term Finance Value. Those are the ones you need to study closely. Then think about setting up a DRIP through computershare (which offers DRIPs for all 10).
What’s not to like? Let’s start with the fact that nobody really likes the idea of investing in a hedge fund or hedge stock, since those mainly make money for you by falling less during a bear market at the expense of rising less during a bull market like the one we’ve seen over the past 5 yrs (Column G). Half of those 10 companies failed to make as much money as our VBINX benchmark, which is itself hedged (40% invested in bonds). Returns for those laggards are highlighted in red, as are any other numbers in the Table denoting underperformance vs. VBINX. The S&P 500 Index (VFINX) did even better than VBINX, as you would expect in a bull market.
Now you see what’s not to like. Taken together, the 10 stocks underperformed VBINX over the past 5 yrs (Line 14 at Column G in the Table) and did even worse vs. the S&P 500 Index fund (VFINX): Lines 25 & 26 at Column G in the Table. Think of hedge stocks as ballast, deep in the hold of the ship taking you to retirement. The ship goes slower because the ballast is heavy, but the ship will rock less in a big storm instead of foundering. To give that ship some zip faster after the storm, put a large dollop of our retirement savings in Core Holdings (see Week 102). Those are growth companies that have to be hedged with bonds, but they’ll outperform the S&P 500 Index in a bull market. Note that our list of 10 hedge stocks in the S&P 100 Index has only one Core Holding (MCD). The other 9 are Lifeboat Stocks (see Week 106). No surprise there!
Bottom Line: Hedge stocks don’t need to be backed up with bonds. They’ll carry you through a bear market by losing ~40% less than the S&P 500 Index. Some, like Wal-Mart (WMT) and McDonald’s (MCD), will even gain in value. Why? Because people shop for the cheapest food they can find after they’ve lost their job. Over the past 100+ yrs, market cycles have lasted about 5 yrs and bear markets have accounted for a third of that; bull markets account for 2/3rds. However, the first half of a bull market only serves to get the S&P 500 Index back where it was at the beginning of the bear market. Since the market only makes new highs a third of the time, it is possible for a company’s stock to beat the market by losing less the other 2/3rds of the time. That’s the whole premise behind a hedge fund or hedge stock.
Large companies have a better chance of doing that than small companies, given that they have more product lines, pay lower interest on their loans, and maintain larger cash hoards relative to earnings. The 10 large capitalization stocks in the Table won’t, as a group, do as well as the S&P 500 Index in a bull market but they’ll serve you much better in a bear market. And we’ve had two of those since 3/24/00, when the market peaked just before the “dot.com recession.” Over the 13.5 yrs since then, those 10 stocks have kept more than 7% ahead of inflation (Column C) while the S&P 500 Index still struggles to beat inflation by 1%. You get the point.
Risk Rating: 3
Full Disclosure: I regularly add to DRIPs in 6 of these companies (WMT, PG, KO, JNJ, ABT, NEE), and also own stock in MCD and GIS.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
We’ll look at the long and short term Finance Values of those seven. In addition, we’ll look at 3 more companies that are on the border for inclusion that august group: General Mills (GIS) and NextEra Energy (NEE) have ~$35B of market capitalization and are in our list of 16 hedge stocks; Procter & Gamble (PG) is already in the S&P 100 Index but fell just short of being a hedge stock. Why? Because during the Lehman Panic it lost slightly more than our benchmark, the Vanguard Balanced Index Fund (VBINX -- Column D in the Table). But PG is already used by investors around the world to hedge against the risk of their other investments, so we’ll sneak it into our list of S&P 100 hedge stocks.
These 10 stocks have superior long-term Finance Value (Column E in the Table), meaning that after subtracting losses during the Lehman Panic from long-term gains investors came out ahead of our benchmark (VBINX). We assess short-term Finance Value by referencing the Barron’s 500 list for 2013 vs. the 2012 list, to determine whether there has been recent growth in sales and cash flow (Columns L & M in the Table). Of the 3 companies that were in the top 200 in 2012 (ABT, MCD, GIS), only McDonald’s (MCD) slipped out of that group in 2013. Of the remaining 7 companies, only PepsiCo (PEP) had a significantly lower rank in 2013 than in 2012. That leaves us with 8 hedge stocks that have both long and short term Finance Value. Those are the ones you need to study closely. Then think about setting up a DRIP through computershare (which offers DRIPs for all 10).
What’s not to like? Let’s start with the fact that nobody really likes the idea of investing in a hedge fund or hedge stock, since those mainly make money for you by falling less during a bear market at the expense of rising less during a bull market like the one we’ve seen over the past 5 yrs (Column G). Half of those 10 companies failed to make as much money as our VBINX benchmark, which is itself hedged (40% invested in bonds). Returns for those laggards are highlighted in red, as are any other numbers in the Table denoting underperformance vs. VBINX. The S&P 500 Index (VFINX) did even better than VBINX, as you would expect in a bull market.
Now you see what’s not to like. Taken together, the 10 stocks underperformed VBINX over the past 5 yrs (Line 14 at Column G in the Table) and did even worse vs. the S&P 500 Index fund (VFINX): Lines 25 & 26 at Column G in the Table. Think of hedge stocks as ballast, deep in the hold of the ship taking you to retirement. The ship goes slower because the ballast is heavy, but the ship will rock less in a big storm instead of foundering. To give that ship some zip faster after the storm, put a large dollop of our retirement savings in Core Holdings (see Week 102). Those are growth companies that have to be hedged with bonds, but they’ll outperform the S&P 500 Index in a bull market. Note that our list of 10 hedge stocks in the S&P 100 Index has only one Core Holding (MCD). The other 9 are Lifeboat Stocks (see Week 106). No surprise there!
Bottom Line: Hedge stocks don’t need to be backed up with bonds. They’ll carry you through a bear market by losing ~40% less than the S&P 500 Index. Some, like Wal-Mart (WMT) and McDonald’s (MCD), will even gain in value. Why? Because people shop for the cheapest food they can find after they’ve lost their job. Over the past 100+ yrs, market cycles have lasted about 5 yrs and bear markets have accounted for a third of that; bull markets account for 2/3rds. However, the first half of a bull market only serves to get the S&P 500 Index back where it was at the beginning of the bear market. Since the market only makes new highs a third of the time, it is possible for a company’s stock to beat the market by losing less the other 2/3rds of the time. That’s the whole premise behind a hedge fund or hedge stock.
Large companies have a better chance of doing that than small companies, given that they have more product lines, pay lower interest on their loans, and maintain larger cash hoards relative to earnings. The 10 large capitalization stocks in the Table won’t, as a group, do as well as the S&P 500 Index in a bull market but they’ll serve you much better in a bear market. And we’ve had two of those since 3/24/00, when the market peaked just before the “dot.com recession.” Over the 13.5 yrs since then, those 10 stocks have kept more than 7% ahead of inflation (Column C) while the S&P 500 Index still struggles to beat inflation by 1%. You get the point.
Risk Rating: 3
Full Disclosure: I regularly add to DRIPs in 6 of these companies (WMT, PG, KO, JNJ, ABT, NEE), and also own stock in MCD and GIS.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 3
Week 122 - Our Universe of 51 Companies
Situation: Stock selection comes down to assessing safety vs. efficacy. “Safety” means the company has effective defenses against having short sales consume more than 10% of its publicly-traded stock in a bear market, and effective defenses against bankruptcy. “Efficacy” means the company has a time-proven business plan that generates earnings growth over time. The problem is that many metrics are used to capture these values (safety & efficacy), and they only look backwards, amounting what the military calls “fighting the last war.” Our blog has carried on this tradition, be-laboring our readers with numbers that capture important information about safety & efficacy in the past. Simplification is needed, along with metrics that point to the future.
Safety is about having a stable return that grows over time with few hiccups. The main "hiccup" we want to avert is a serious drop in stock price because management then has to take measures (such as selling assets) to avert bankruptcy. To alleviate concerns like that, we won't consider any companies in this blog that have an S&P bond rating less than -A (Column N in the Table). When we invest for retirement we’re ultimately looking for retirement income that grows enough to beat inflation handily, i.e., dividend checks that arrive each quarter and get bigger each year. Remember: annuities and pensions don’t grow. Social Security is the only cost-effective exception to that rule. (At present, it more than keeps up with inflation but there is talk of having it merely keep up with inflation.) Going forward, stock ownership is likely to be the only way for investors to have a steady stream of income that more than keeps up with inflation. So what is the best way to find such stocks? You need start with the list of 200+ Dividend Achievers. Why? Because those are the only companies that will keep paying you more, year after year, and have done so for at least the past 10 yrs. Companies with a long record of increasing dividends irrespective of recessions are safe for retirement investment. You’re only looking at two metrics after you retire: a) dividend yield of the stocks you own (Column G in the Table), and b) dividend growth of the stocks you own (Column H in the Table). Adding those together approximates your future total return. What’s the catch? You need to be a little choosy in picking from the Dividend Achiever list because 1-2% of the names on that list will disappear each year. In other words, the company has discontinued annual dividend increases. This happened to Pfizer, General Electric, and Home Depot during the Lehman Panic. So you’ll need to pay particular attention to the next paragraph.
Efficacy means growth, and growth ultimately comes down to increasing sales and cash flow over time. The editors of Barron’s provide an important service to investors by publishing a 500-stock list each May that ranks companies by performance in those two key areas during the most recent 3 yrs, along with noting the previous year’s rank. Any company listed there has superior growth prospects, given that it has been chosen from the more than 6500 that are listed on US exchanges, plus those listed on the Toronto Stock Exchange.
Now we can define a “universe” of worthwhile companies for our blog to follow, by listing all of the Dividend Achievers that appear in the 2013 Barron’s 500 list. It turns out that there are 51 (see Table). At the top, you’ll see 12 Lifeboat Stocks (Week 106). Those are the companies from defensive industries (utilities, consumer staples, healthcare, and communication services) that have a Finance Value (Reward minus Risk; see Column E of the Table) superior to that of our benchmark--the Vanguard Balanced Index Fund (VBINX, which is 60% stock index and 40% bond index). Next are 7 additional defensive companies that have a Finance Value less than VBINX. The third group is most important: those are companies in non-defensive industries (energy, materials, industrials, financials, consumer discretionary, and information technology) that have a superior Finance Value compared to VBINX (see Column E in the Table). Companies in those industries do particularly well in a growing economy so you can think of them as “growth” companies. That’s where 2/3rds of your stock assets need to be. We call the best such companies Core Holdings (Week 102). The fourth group is for growth companies that didn’t have a Finance Value superior to VBINX. Benchmarks are at the bottom. Metrics are current as of close of business on October 30, 2013.
Bottom Line: Stock-picking is cumbersome but for future retirees it has a uniquely worthwhile feature. You’ll get substantial annual pay raises during your retirement (Column H of the Table). Over the past 20 yrs, dividend growth rates have far exceeded inflation for companies that have committed to annual dividend increases. All 51 of the companies in the Table have been growing dividends annually for over 10 yrs; S&P calls such companies “Dividend Achievers.” Those 51 include 34 companies that have been growing dividends annually for over 25 yrs; S&P calls such companies “Dividend Aristocrats” and there are only 54 names in that group. The Barron’s 500 List has given us a way to winnow down that list of safe companies for retirement investment (Dividend Achievers), so as to include only those that have demonstrated increasing sales and cash flow growth in recent years.
Risk Rating: 4
Full Disclosure: I make automatic monthly additions to DRIPs in ABT, JNJ, WMT, PG, KO, NEE, NKE, XOM, and IBM.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Safety is about having a stable return that grows over time with few hiccups. The main "hiccup" we want to avert is a serious drop in stock price because management then has to take measures (such as selling assets) to avert bankruptcy. To alleviate concerns like that, we won't consider any companies in this blog that have an S&P bond rating less than -A (Column N in the Table). When we invest for retirement we’re ultimately looking for retirement income that grows enough to beat inflation handily, i.e., dividend checks that arrive each quarter and get bigger each year. Remember: annuities and pensions don’t grow. Social Security is the only cost-effective exception to that rule. (At present, it more than keeps up with inflation but there is talk of having it merely keep up with inflation.) Going forward, stock ownership is likely to be the only way for investors to have a steady stream of income that more than keeps up with inflation. So what is the best way to find such stocks? You need start with the list of 200+ Dividend Achievers. Why? Because those are the only companies that will keep paying you more, year after year, and have done so for at least the past 10 yrs. Companies with a long record of increasing dividends irrespective of recessions are safe for retirement investment. You’re only looking at two metrics after you retire: a) dividend yield of the stocks you own (Column G in the Table), and b) dividend growth of the stocks you own (Column H in the Table). Adding those together approximates your future total return. What’s the catch? You need to be a little choosy in picking from the Dividend Achiever list because 1-2% of the names on that list will disappear each year. In other words, the company has discontinued annual dividend increases. This happened to Pfizer, General Electric, and Home Depot during the Lehman Panic. So you’ll need to pay particular attention to the next paragraph.
Efficacy means growth, and growth ultimately comes down to increasing sales and cash flow over time. The editors of Barron’s provide an important service to investors by publishing a 500-stock list each May that ranks companies by performance in those two key areas during the most recent 3 yrs, along with noting the previous year’s rank. Any company listed there has superior growth prospects, given that it has been chosen from the more than 6500 that are listed on US exchanges, plus those listed on the Toronto Stock Exchange.
Now we can define a “universe” of worthwhile companies for our blog to follow, by listing all of the Dividend Achievers that appear in the 2013 Barron’s 500 list. It turns out that there are 51 (see Table). At the top, you’ll see 12 Lifeboat Stocks (Week 106). Those are the companies from defensive industries (utilities, consumer staples, healthcare, and communication services) that have a Finance Value (Reward minus Risk; see Column E of the Table) superior to that of our benchmark--the Vanguard Balanced Index Fund (VBINX, which is 60% stock index and 40% bond index). Next are 7 additional defensive companies that have a Finance Value less than VBINX. The third group is most important: those are companies in non-defensive industries (energy, materials, industrials, financials, consumer discretionary, and information technology) that have a superior Finance Value compared to VBINX (see Column E in the Table). Companies in those industries do particularly well in a growing economy so you can think of them as “growth” companies. That’s where 2/3rds of your stock assets need to be. We call the best such companies Core Holdings (Week 102). The fourth group is for growth companies that didn’t have a Finance Value superior to VBINX. Benchmarks are at the bottom. Metrics are current as of close of business on October 30, 2013.
Bottom Line: Stock-picking is cumbersome but for future retirees it has a uniquely worthwhile feature. You’ll get substantial annual pay raises during your retirement (Column H of the Table). Over the past 20 yrs, dividend growth rates have far exceeded inflation for companies that have committed to annual dividend increases. All 51 of the companies in the Table have been growing dividends annually for over 10 yrs; S&P calls such companies “Dividend Achievers.” Those 51 include 34 companies that have been growing dividends annually for over 25 yrs; S&P calls such companies “Dividend Aristocrats” and there are only 54 names in that group. The Barron’s 500 List has given us a way to winnow down that list of safe companies for retirement investment (Dividend Achievers), so as to include only those that have demonstrated increasing sales and cash flow growth in recent years.
Risk Rating: 4
Full Disclosure: I make automatic monthly additions to DRIPs in ABT, JNJ, WMT, PG, KO, NEE, NKE, XOM, and IBM.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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