Situation: Globally, water use is growing twice as fast as the population. This represents more intensive water use than in the past. For example, a recent study out of Columbia University notes that withdrawals from US municipal water systems increased 130% since 1950 while the population was increasing by 99%. Is exponential growth in water use sustainable? Not as long as water remains so cheap. If you use withdrawals under a regime of improved conservation measures to estimate sustainable water use, how many people can be supported going forward and still allow rainfall and snowpack to halt the depletion of our aquifers? About 5 Billion, which is 2 Billion fewer people than we have now and half the population the planet will have by 2060. Can desalination of ocean water make up the difference? Yes, but it is energy-intensive, expensive, and polluting. The new desalination plant at San Diego County has cost more than a billion dollars to build. The water it produces will have to be priced at twice the current rate, i.e., at $1,000 for a family of four for one year instead of $500. And, the pace of building desalination plants in the Western Hemisphere is much too slow to address the problem. In the Eastern Hemisphere, a wider acknowledgement of the problem has led to appropriate investment in desalination plants but the pace needs to pick up.
Most experts expect the pricing of water to increase rapidly, given the rate of population growth and the fact that 70-80% of water has historically been used for agriculture. The water distribution problem is compounded by global warming, and the fact that a billion people already live in regions undergoing desertification where water must be imported. A global water crisis can be expected in the next 10-15 yrs, unless the construction of desalination plants (and the expansion of water allocation regimes) “scale-up” much faster than is currently envisaged. For example, farmers in California have long prevented the legislature from imposing an allocation regime for groundwater use (wells), and resist metering.
Water utilities often take the form of municipal or regional cooperatives, using a clean water source combined with rate-based financing of the distribution system. However, the use of fertilizer by farmers can introduce excess nitrates into these water systems, necessitating the construction of water treatment plants. That requires financing, which may include issuance of common stock. Water rights can be expensive, which also requires upfront financing. This week’s blog looks at 7 water utilities that have increased their dividends annually for at least the past 10 yrs (see Table). Note: all values in the Table are current as of October 26, 2013. Red highlights denote values that are inferior to benchmark (VBINX) values. The main “takeaway” from the Table is in Column J, where you see that 5 of the 7 companies already have unsustainably high valuations. In other words, investors are well aware that water is undervalued and are betting that the dividends paid by these companies will grow faster.
Bottom Line: There aren’t many solid growth industries but water utilities certainly represent one. Clean water is destined to become more valuable than oil in our lifetimes. All 7 of the water utilities in this week’s blog represent worthwhile investments in terms of long-term Finance Value (Column E of the Table). In terms of dividend growth plus dividend yield, Aqua America (WTR) stands out. It is also a large enough company to have a Standard & Poors stock rating (A/L).
Risk Rating: 3
Full Disclosure: I don’t own any shares issued by these companies.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 27
Sunday, October 20
Week 120 - $150/wk for a Retirement Fund
Situation: You’ve heard a lot about saving for retirement, and you’ve probably heard that Social Security plus your workplace retirement plan probably won’t get you to a comfortable retirement any more. Why? Because people only reduce their spending by 15% after they retire, which means you will need a private savings plan to make up for the lost income. This savings plan can take the form of an IRA, payments into a low-cost annuity, proceeds from the sale of your home (if you move to smaller quarters), or perhaps even gold you’ve hidden away, and other choices. But when retirement is more than 5 years in the future, stocks remain your best bet.
We recommend that you minimize costs by using a stock index fund backed by a bond index fund. The Vanguard Balanced Index Fund (VBINX) provides both in one package, allocated 60% to stocks and 40% to bonds (see Table). It is rebalanced daily, so you won’t get burned if a stock market bubble bursts. (Most of those stock gains would already have been converted to bonds as part of daily rebalancing, and bonds typically increase in value when stocks crash.) Or, you can choose a low-cost managed fund that uses an excess of bonds to balance both the inherent risk of stocks and the difficulty managers have of knowing when to move away from stocks and into bonds. The Vanguard Wellesley Income Fund (VWINX) has the best record. It is bond-heavy and therefore has less volatility than VBINX but performs about as well. The third low-cost option is to study the markets yourself and invest in stocks online at computershare, and in bonds at treasurydirect. This third option allows you to pick only the most stable stocks and bonds. That hedging strategy will serve you well, even though it has less exposure to growth themes.
Why do we harp on buying and selling costs? Aside from “impulse buying”, the main reason retail investors make only half as much as they should (based on whatever asset allocations they’ve chosen) is their failure to control costs. (Company CEOs are no different.) It’s a human failing to like toys and spend too much for those. But retirement is dead serious. You won’t like it if you haven’t prepared your body, mind, and pocketbook ahead of time.
Our blog this week details one example of a personal retirement fund (mine). I dollar-average into 6 stocks and one bond (see Table). There are two Lifeboat Stocks (Week 106): Procter & Gamble (PG) and NextEra Energy (NEE), and two Core Holdings (Week 102): International Business Machines (IBM) and Nike (NKE). The remaining two stocks are Exxon Mobil (XOM) and Microsoft (MSFT), both of which have AAA credit ratings to make up for the fact that they don’t quite meet our standards for designation as Core Holdings.
In our Week 117 blog on hedge stocks, we identified 16 such stocks out of the 900 in the S&P 500 and S&P 400 mid-cap indexes. NextEra Energy (NEE) was one of those, meaning that an investment in NEE stock doesn’t need to be backed up with investment in a Treasury Note or a bond index fund. The “bonds” that I use to back up the $250 that I invest each month in the other 5 stocks are inflation-protected 10-yr US Treasury Notes ($750/qtr).
In the Table, we use red highlights to denote values that are lower than benchmark values (VBINX). All values are current through 10/18/13.
Bottom Line: Dividend Reinvestment Plans (DRIPs) take time to set up and sell but are on automatic pilot the rest of the time. Savings Bonds and Treasury Notes are even easier to manage (through treasurydirect), except that you have to remember to buy them. The key difficulty is deciding exactly which stocks you’d like to own for an extended period. If you want to eliminate that chore without incurring additional expense, it is best to take Warren Buffett’s advice and invest in low cost index funds.
This week’s blog shows one example of how you can build retirement savings with DRIPs for stocks issued by 6 highly rated and stable companies, balanced with inflation-protected 10-yr Treasury Notes. You can have your accountant designate up to $6500/yr as a standard IRA or Roth IRA.
Risk Rating: 4
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
We recommend that you minimize costs by using a stock index fund backed by a bond index fund. The Vanguard Balanced Index Fund (VBINX) provides both in one package, allocated 60% to stocks and 40% to bonds (see Table). It is rebalanced daily, so you won’t get burned if a stock market bubble bursts. (Most of those stock gains would already have been converted to bonds as part of daily rebalancing, and bonds typically increase in value when stocks crash.) Or, you can choose a low-cost managed fund that uses an excess of bonds to balance both the inherent risk of stocks and the difficulty managers have of knowing when to move away from stocks and into bonds. The Vanguard Wellesley Income Fund (VWINX) has the best record. It is bond-heavy and therefore has less volatility than VBINX but performs about as well. The third low-cost option is to study the markets yourself and invest in stocks online at computershare, and in bonds at treasurydirect. This third option allows you to pick only the most stable stocks and bonds. That hedging strategy will serve you well, even though it has less exposure to growth themes.
Why do we harp on buying and selling costs? Aside from “impulse buying”, the main reason retail investors make only half as much as they should (based on whatever asset allocations they’ve chosen) is their failure to control costs. (Company CEOs are no different.) It’s a human failing to like toys and spend too much for those. But retirement is dead serious. You won’t like it if you haven’t prepared your body, mind, and pocketbook ahead of time.
Our blog this week details one example of a personal retirement fund (mine). I dollar-average into 6 stocks and one bond (see Table). There are two Lifeboat Stocks (Week 106): Procter & Gamble (PG) and NextEra Energy (NEE), and two Core Holdings (Week 102): International Business Machines (IBM) and Nike (NKE). The remaining two stocks are Exxon Mobil (XOM) and Microsoft (MSFT), both of which have AAA credit ratings to make up for the fact that they don’t quite meet our standards for designation as Core Holdings.
In our Week 117 blog on hedge stocks, we identified 16 such stocks out of the 900 in the S&P 500 and S&P 400 mid-cap indexes. NextEra Energy (NEE) was one of those, meaning that an investment in NEE stock doesn’t need to be backed up with investment in a Treasury Note or a bond index fund. The “bonds” that I use to back up the $250 that I invest each month in the other 5 stocks are inflation-protected 10-yr US Treasury Notes ($750/qtr).
In the Table, we use red highlights to denote values that are lower than benchmark values (VBINX). All values are current through 10/18/13.
Bottom Line: Dividend Reinvestment Plans (DRIPs) take time to set up and sell but are on automatic pilot the rest of the time. Savings Bonds and Treasury Notes are even easier to manage (through treasurydirect), except that you have to remember to buy them. The key difficulty is deciding exactly which stocks you’d like to own for an extended period. If you want to eliminate that chore without incurring additional expense, it is best to take Warren Buffett’s advice and invest in low cost index funds.
This week’s blog shows one example of how you can build retirement savings with DRIPs for stocks issued by 6 highly rated and stable companies, balanced with inflation-protected 10-yr Treasury Notes. You can have your accountant designate up to $6500/yr as a standard IRA or Roth IRA.
Risk Rating: 4
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 13
Week 119 - $100/wk for a Rainy Day Fund
Situation: You'd like to sleep nights, so we suggest setting up a Rainy Day Fund, which we define as easily accessible money that doesn’t lose its value over time. That’s a hedging concept taken to the extreme, meaning that a perfect hedge will neither gain nor lose value in any market environment. In times past, we would have recommended using an FDIC-insured savings account for that purpose because it guaranteed your principal and paid enough interest to cover taxes and inflation. But currently we are reminded that the Federal Reserve has at times engaged in “financial repression” to prevent a 30s-style depression (see Week 76 and see Week 79). They did so after World War II, and again after the Lehman Panic. By “financial repression” we mean intervention by a central bank to drive down interest rates by "printing money" which allows investment to resume, preventing delation. The net result of this type of policy is that savings accounts lose money to inflation and taxes but the National Debt grows at a slower pace. Your Rainy Day Fund has to make enough money to absorb those losses! That means you'll have to accept some degree of risk. Inflation-protected US savings bonds and 10-yr Treasury Notes have zero transaction costs and zero inflation risk but (because of financial repression) don’t always pay enough interest to cover Federal taxes (state and municipal taxes are not applicable). Now you see why your Rainy Day Fund will need to contain a few "hedge" stocks (see Week 117).
There is one way to avoid resorting to hedge stocks, which is to invest in a short-to-intermediate term, investment-grade bond index. The least expensive one requires a minimum initial investment of $3000: the Vanguard Intermediate-Term Bond Index (VBIIX in the Table). You can dollar-average small amounts into that fund each month without paying transaction costs, and it has a very low expense ratio of 0.2%. It will gain only half as much value in a credit crisis as a 10-yr Treasury Note (Column D in the Table) but going forward it will pay out enough extra interest that you’ll have a 95% chance of being able to cover costs from both inflation and taxes. There is, however, the ever-present problem found with holding any bond fund (even a short-term fund). If interest rates were to increase by more than 2-3%/yr and you were to need that money for early retirement, you might get back less than you’d originally invested. That is because, in a rising interest rate environment, the bonds previously purchased by the fund’s managers will lose value, i.e., those bonds no longer have a competitive interest rate. Whereas, if you hold US Treasury Notes or Savings Bonds you can count on getting back your original investment whenever you need it. So we’re back where we started: you’ll need to take the risk of holding a few hedge stocks to have a good chance of making enough money to cover transaction costs, inflation, and taxes.
Academic surveys show that for the average investor risk is related to poorly thought-out decisions, i.e., one-off portfolio tweaks that are made as a knee-jerk response to current market activity. In other words, we’re only human. We lose by not having a plan and sticking to it. The plan that we recommend is to dollar-average a fixed amount of money into a rarely changing list of stocks and bonds on a monthly or quarterly basis. I think of it as setting aside $100 a week (see my Rainy Day Fund at the top of the Table; data are current through 10/11/13). The main takeaway is in Column E of the Table, where you can see that long-term Finance Value for our Rainy Day Fund is much better than for the best-managed bond-heavy balanced fund (VWINX), 4.4% vs. -8.8%. This is consistent with the difference in 5-yr Betas seen in Column I (0.36 vs. 0.56). This is a remarkable testimony to hedge stocks, given that those compose 75% of the Rainy Day Fund. VWINX is less safe (Column D) even though it is composed 60% of bonds. Nonetheless, VWINX represents convenient, one-stop shopping. And, you’ll make more money in the long run since VWINX is a good hedge fund. How good? It has only lost money in 3 of the last 20 years (1994, 1999, and 2008 when it lost 9.62%) while returning almost as much to investors as the Vanguard 500 Index Fund (VFINX): 8%/yr vs. 8.7%/yr.
The type of Rainy Day Fund shown in the Table can be set up at low cost by using a dividend reinvestment plan (DRIP) for monthly additions to each stock (at computershare) and quarterly purchases of Savings Bonds or Treasury Notes (at treasurydirect). Either way, the money is electronically swept from your checking account, and this can be scheduled to occur automatically for DRIPs. For Treasury issues, you’ll have to go to the website each time.
What's the catch? Two possible problems arise: 1) You'll need to pick 4 or more hedge stocks because even the most stable companies with the greatest brands face challenges that take time to overcome. You can’t “game” these events, since company insiders are likely to be the only ones to know when a serious challenge is about to generate an article in the business press that will hammer the stock. They can’t benefit from having that insider knowledge: the SEC won’t let them sell their own stock at such times because that becomes public information and might cause a run on the stock. 2) Taxes on DRIP sales require documentation of “cost basis.” That means you’ll have to fill in 16 lines of a spreadsheet for each year you’ve owned a stock and reinvested quarterly dividends.
So how do DRIPs and inflation-protected Treasury Notes save me money? Academic studies show that 2-4% of the average investor’s money will go toward commissions, advisory fees, and other trading costs. My cost for the $5200 I invest each year comes to $58 or 1.12% (Column N in the Table). Relative to net asset value (NAV), those trading costs will fall as the years go by and my NAV grows through price appreciation, annual dividend increases, and compound interest (i.e., stocks pay dividends on dividends, and Savings Bonds pay interest on interest).
Bottom Line: If you follow my logic, you’ll see that it boils down to placing an aggregate investment on automatic pilot at low cost. The trick is to hold stock in companies with strong corporate cultures that have developed over many years of learning how to produce superior returns on a consistent basis. You and I only need to have enough patience and fortitude to keep benefitting from their accomplishments. Bull and bear markets won’t matter as long as we stay the course and don’t follow the crowd.
Risk Rating: 3
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
There is one way to avoid resorting to hedge stocks, which is to invest in a short-to-intermediate term, investment-grade bond index. The least expensive one requires a minimum initial investment of $3000: the Vanguard Intermediate-Term Bond Index (VBIIX in the Table). You can dollar-average small amounts into that fund each month without paying transaction costs, and it has a very low expense ratio of 0.2%. It will gain only half as much value in a credit crisis as a 10-yr Treasury Note (Column D in the Table) but going forward it will pay out enough extra interest that you’ll have a 95% chance of being able to cover costs from both inflation and taxes. There is, however, the ever-present problem found with holding any bond fund (even a short-term fund). If interest rates were to increase by more than 2-3%/yr and you were to need that money for early retirement, you might get back less than you’d originally invested. That is because, in a rising interest rate environment, the bonds previously purchased by the fund’s managers will lose value, i.e., those bonds no longer have a competitive interest rate. Whereas, if you hold US Treasury Notes or Savings Bonds you can count on getting back your original investment whenever you need it. So we’re back where we started: you’ll need to take the risk of holding a few hedge stocks to have a good chance of making enough money to cover transaction costs, inflation, and taxes.
Academic surveys show that for the average investor risk is related to poorly thought-out decisions, i.e., one-off portfolio tweaks that are made as a knee-jerk response to current market activity. In other words, we’re only human. We lose by not having a plan and sticking to it. The plan that we recommend is to dollar-average a fixed amount of money into a rarely changing list of stocks and bonds on a monthly or quarterly basis. I think of it as setting aside $100 a week (see my Rainy Day Fund at the top of the Table; data are current through 10/11/13). The main takeaway is in Column E of the Table, where you can see that long-term Finance Value for our Rainy Day Fund is much better than for the best-managed bond-heavy balanced fund (VWINX), 4.4% vs. -8.8%. This is consistent with the difference in 5-yr Betas seen in Column I (0.36 vs. 0.56). This is a remarkable testimony to hedge stocks, given that those compose 75% of the Rainy Day Fund. VWINX is less safe (Column D) even though it is composed 60% of bonds. Nonetheless, VWINX represents convenient, one-stop shopping. And, you’ll make more money in the long run since VWINX is a good hedge fund. How good? It has only lost money in 3 of the last 20 years (1994, 1999, and 2008 when it lost 9.62%) while returning almost as much to investors as the Vanguard 500 Index Fund (VFINX): 8%/yr vs. 8.7%/yr.
The type of Rainy Day Fund shown in the Table can be set up at low cost by using a dividend reinvestment plan (DRIP) for monthly additions to each stock (at computershare) and quarterly purchases of Savings Bonds or Treasury Notes (at treasurydirect). Either way, the money is electronically swept from your checking account, and this can be scheduled to occur automatically for DRIPs. For Treasury issues, you’ll have to go to the website each time.
What's the catch? Two possible problems arise: 1) You'll need to pick 4 or more hedge stocks because even the most stable companies with the greatest brands face challenges that take time to overcome. You can’t “game” these events, since company insiders are likely to be the only ones to know when a serious challenge is about to generate an article in the business press that will hammer the stock. They can’t benefit from having that insider knowledge: the SEC won’t let them sell their own stock at such times because that becomes public information and might cause a run on the stock. 2) Taxes on DRIP sales require documentation of “cost basis.” That means you’ll have to fill in 16 lines of a spreadsheet for each year you’ve owned a stock and reinvested quarterly dividends.
So how do DRIPs and inflation-protected Treasury Notes save me money? Academic studies show that 2-4% of the average investor’s money will go toward commissions, advisory fees, and other trading costs. My cost for the $5200 I invest each year comes to $58 or 1.12% (Column N in the Table). Relative to net asset value (NAV), those trading costs will fall as the years go by and my NAV grows through price appreciation, annual dividend increases, and compound interest (i.e., stocks pay dividends on dividends, and Savings Bonds pay interest on interest).
Bottom Line: If you follow my logic, you’ll see that it boils down to placing an aggregate investment on automatic pilot at low cost. The trick is to hold stock in companies with strong corporate cultures that have developed over many years of learning how to produce superior returns on a consistent basis. You and I only need to have enough patience and fortitude to keep benefitting from their accomplishments. Bull and bear markets won’t matter as long as we stay the course and don’t follow the crowd.
Risk Rating: 3
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 6
Week 118 - Growing Perpetuity Index (Updated)
Situation: In one of our first blogs (see Week 4), we created the Growing Perpetuity Index (GPI). Our reason for doing so was because we needed a benchmark fund for comparison, one that embodies our investment theme. We have continued to follow the companies that were selected for the GPI and Total Returns were updated in Week 66. Since then, we have set a standard benchmark for use in comparison for all of the metrics used in our Tables, and that is the Vanguard Balanced Index Fund (VBINX) In the VBINX, 60% is allocated to a large-capitalization stock index and 40% to an investment-grade bond index. Its lowest value point occurred during the “dot.com” recession (10/9/02). For this week’s blog, we’ll use that date to calculate long-term total returns (Column C of the Table). Data are current through 10/4/13.
The Growing Perpetuity Index is composed of 12 companies that are listed in the 65-stock Dow Jones Composite Average (DJCA) and meet the following 4 criteria:
a) dividend yield no less than the yield on the lowest-cost mutual fund that mimics the S&P 500 Index--the Vanguard 500 Index Fund (VFINX);
b) 10 or more consecutive years of annual dividend increases;
c) S&P stock rating of A- or better;
d) S&P bond rating of BBB+ or better.
After analysis, we found there were 15 such companies, and we chose 12 for our Growing Perpetuity Index. Those 12 companies are listed at the top of the accompanying Table, ranked in order of Finance Value (long-term reward minus risk in Column E). That composition of companies will remain stable as a feature of our blog, even if one or more companies leave the DJCA. The 3 companies that we’ve left out (in order to limit the index to 12 companies) are Southern Company (SO), CH Robinson Worldwide (CHRW) and Caterpillar (CAT). Complete data for those companies is shown in the BENCHMARKS section at the bottom of the Table. We have also included data for Microsoft (MSFT) and Union Pacific (UNP) because these companies will soon meet GPI criteria.
Bottom Line: This 12 stock index has a remarkable history of outperformance, which was a key reason why we started this blog in the first place. Strong and stable companies that have multiple sources of income and clean balance sheets are simply in a better position to reward investors with annual dividend increases and stock buybacks.
Worried about your savings plan for retirement? History shows that you can set up 12 dividend reinvestment plans (DRIPs) to support equal and automatic monthly additions to each of these stocks then get on with your life. The chance that this portfolio won’t outperform the S&P 500 Index over rolling 5-yr periods is less than 50:50. AND it does so with less volatility (i.e., the index has a 5-yr Beta of 0.7 vs. the S&P 500 Index’s 1.00). AND it pays a higher dividend (2.5% vs. 1.9%).
Risk Rating: 4
Full Disclosure: I add to DRIPs in WMT, JNJ, KO, PG, NEE, IBM, and XOM each month.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
The Growing Perpetuity Index is composed of 12 companies that are listed in the 65-stock Dow Jones Composite Average (DJCA) and meet the following 4 criteria:
a) dividend yield no less than the yield on the lowest-cost mutual fund that mimics the S&P 500 Index--the Vanguard 500 Index Fund (VFINX);
b) 10 or more consecutive years of annual dividend increases;
c) S&P stock rating of A- or better;
d) S&P bond rating of BBB+ or better.
After analysis, we found there were 15 such companies, and we chose 12 for our Growing Perpetuity Index. Those 12 companies are listed at the top of the accompanying Table, ranked in order of Finance Value (long-term reward minus risk in Column E). That composition of companies will remain stable as a feature of our blog, even if one or more companies leave the DJCA. The 3 companies that we’ve left out (in order to limit the index to 12 companies) are Southern Company (SO), CH Robinson Worldwide (CHRW) and Caterpillar (CAT). Complete data for those companies is shown in the BENCHMARKS section at the bottom of the Table. We have also included data for Microsoft (MSFT) and Union Pacific (UNP) because these companies will soon meet GPI criteria.
Bottom Line: This 12 stock index has a remarkable history of outperformance, which was a key reason why we started this blog in the first place. Strong and stable companies that have multiple sources of income and clean balance sheets are simply in a better position to reward investors with annual dividend increases and stock buybacks.
Worried about your savings plan for retirement? History shows that you can set up 12 dividend reinvestment plans (DRIPs) to support equal and automatic monthly additions to each of these stocks then get on with your life. The chance that this portfolio won’t outperform the S&P 500 Index over rolling 5-yr periods is less than 50:50. AND it does so with less volatility (i.e., the index has a 5-yr Beta of 0.7 vs. the S&P 500 Index’s 1.00). AND it pays a higher dividend (2.5% vs. 1.9%).
Risk Rating: 4
Full Disclosure: I add to DRIPs in WMT, JNJ, KO, PG, NEE, IBM, and XOM each month.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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