Situation: Utilities, including communication services companies like AT&T, have such high fixed costs that they’re mainly capitalized by loans. Their stock investors are compensated for this impairment by being awarded high dividend payouts. That places share prices in direct competition with corporate bonds, meaning that newly issued bonds will have higher interest rates than legacy bonds. The price paid for legacy bonds will fall, putting downward pressure on the price paid for utility stocks. Now that the Federal Reserve is determined to raise short-term interest rates we can expect this to occur. The highest quality utility stocks will see only a temporary effect, since earnings growth will continue unabated.
Mission: Identify the highest quality utility stocks in the Barron’s 500 List by picking out the Dividend Achievers, i.e., those that have paid a larger dividend every year for at least the past 10 yrs. Exclude any companies that have an S&P bond rating less than BBB+ and/or an S&P stock rating lower than B+/M. Assess the long-term value of owning these stocks by collecting 25-yr data on price appreciation and risk of loss at the BMW Method website.
Execution: Eight companies are identified as meeting our criteria (see Table).
Bottom Line: Over the long term, this group of 8 companies shows a materially higher total return/yr than the S&P 500 Index, along with a materially lower risk of loss. Over the past 3 yrs, their performance with respect to key metrics of cash flow and revenue has improved, as demonstrated by the data collected for Barron’s 500 rankings in 2015.
Risk Rating: 4
Full Disclosure: I dollar average into NEE and own shares of T.
NOTE: Metrics are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Column C in the Table lists the total return/yr on a stock purchase made 9/28/92, the first day of trading for VBINX.
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Sunday, December 27
Sunday, December 20
Week 233 - Barron’s 500 “Industrials” That Are Dividend Achievers
Situation: The US dollar is outperforming all other major currencies, which decreases demand for goods shipped from the US to world markets. As a result, earnings for US industrial companies that gain most of their sales overseas have fallen 20-50%. This weighs on their stock prices but creates an opportunity for investors, provided the management of those companies is aggressively preparing for the day when other currencies recover.
Mission: Take a close look at large industrial companies and their performance over the past 3 yrs, as detailed in the 2015 Barron’s 500 List. Then determine which of those have a long history of relatively steady growth, as expressed by having a 10+ yr history of raising their dividend annually. S&P calls such companies Dividend Achievers.
Execution: All of the “industrials” that appear on both lists are found in the accompanying Table, except those that have an S&P bond rating lower than BBB+ or an S&P stock rating lower that B+/M. Information on price appreciation (over the past 25 yrs) and risk of loss, per the BMW Method, is found in Columns M through O of the Table. Four companies did not have 25-yr price appreciation data and are not included in the Table.
Bottom Line: Industrial companies, as a group, carry almost 10% higher risk of loss than the S&P 500 Index. That is offset by price appreciation that is almost twice as great. If you’re going to invest in this sector, you have to be in it for the long term and expect some rough years.
Risk Rating: 7
Full Disclosure: I own stock in UTX, ITW, MMM, and DE.
NOTE: Metrics are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Column C in the Table lists the total return/yr on a stock purchase made 9/28/92, the first day of trading for VBINX.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Take a close look at large industrial companies and their performance over the past 3 yrs, as detailed in the 2015 Barron’s 500 List. Then determine which of those have a long history of relatively steady growth, as expressed by having a 10+ yr history of raising their dividend annually. S&P calls such companies Dividend Achievers.
Execution: All of the “industrials” that appear on both lists are found in the accompanying Table, except those that have an S&P bond rating lower than BBB+ or an S&P stock rating lower that B+/M. Information on price appreciation (over the past 25 yrs) and risk of loss, per the BMW Method, is found in Columns M through O of the Table. Four companies did not have 25-yr price appreciation data and are not included in the Table.
Bottom Line: Industrial companies, as a group, carry almost 10% higher risk of loss than the S&P 500 Index. That is offset by price appreciation that is almost twice as great. If you’re going to invest in this sector, you have to be in it for the long term and expect some rough years.
Risk Rating: 7
Full Disclosure: I own stock in UTX, ITW, MMM, and DE.
NOTE: Metrics are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Column C in the Table lists the total return/yr on a stock purchase made 9/28/92, the first day of trading for VBINX.
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Sunday, December 13
Week 232 - Safe and Effective Stocks for Trying to Beat the S&P 500 Index Long-Term
Situation: As a general rule, you should use index funds to build a retirement portfolio. Why? Because you can’t beat the market on a risk-adjusted basis (after allowing for transaction costs) unless you apply the art of buying low and selling high. A reasonable alternative to index funds is to “buy and hold” high quality stocks. The growth in their dividend payouts often beats inflation by a wider margin than payouts from a low-cost S&P 500 Index fund like the Vanguard 500 Index Fund (VFINX) or its bond-hedged version--the Vanguard Balanced Index Fund (VBINX) which we use as our benchmark. You’ll want to look for companies that have a Durable Competitive Advantage, i.e., those that have doubled their Tangible Book Value over the past decade. Nonetheless, you’ll need to have rules that give you a chance to beat the S&P 500 Index on a total return basis long-term. Otherwise, you’d be better off investing in VFINX or VBINX.
Mission: Set up rules that allow an investor to take calculated risks in order to buy high quality stocks that have a reasonable chance of beating the S&P 500 Index long-term.
Execution: Rule #1 is to buy stocks that have demonstrated improving fundamentals over the most recent 3 yrs, as determined by the stock’s Barron’s 500 Rank this year compared to last year. Rule #2 is to buy stocks that have a Durable Competitive Advantage (see Week 227 for further elaboration on Rules #1 and #2). Rule #3 is to find out which of those stocks have a price appreciation history that beats the S&P 500 Index over the past 2-3 market cycles while having less risk of loss, as determined by the BMW Method. Rule #4 is to not overpay for the stock, i.e., EV/EBITDA needs to be no greater than that for the S&P 500 Index, which is rarely higher than 11. Finally, you don’t want to buy stock in companies that have sustainability issues, meaning the S&P stock rating is lower than B+/M or the S&P bond rating is lower than BBB+ (see Table).
By adhering to this algorithm, you’re focus will be on building a position in companies that are out-of-favor, companies that are preparing to outperform when current headwinds lose their strength. Warren Buffett has often addressed this point: “Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.“ The trick is to see through the headwinds that are holding down a company’s stock. No one knows when that will occur, but it is not hard to find out if a company’s management is preparing for that day.
Bottom Line: Given that the US stock market is currently overpriced, we are able to come up with only 6 candidate stocks for purchase. Four of those 6 are electric utilities. Utilities pay high dividends. So, utility stocks are expected to fall in price as the Federal Reserve raises interest rates. In other words, that fall in price compensates for the eroded value of their dividends compared interest payouts on newly-issued bonds.
Risk Rating: 6
Full Disclosure: I dollar-average into NEE.
NOTE: Metrics are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Column C in the Table lists the total return/yr on a stock purchase made 9/28/92, the first day of trading for VBINX.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Set up rules that allow an investor to take calculated risks in order to buy high quality stocks that have a reasonable chance of beating the S&P 500 Index long-term.
Execution: Rule #1 is to buy stocks that have demonstrated improving fundamentals over the most recent 3 yrs, as determined by the stock’s Barron’s 500 Rank this year compared to last year. Rule #2 is to buy stocks that have a Durable Competitive Advantage (see Week 227 for further elaboration on Rules #1 and #2). Rule #3 is to find out which of those stocks have a price appreciation history that beats the S&P 500 Index over the past 2-3 market cycles while having less risk of loss, as determined by the BMW Method. Rule #4 is to not overpay for the stock, i.e., EV/EBITDA needs to be no greater than that for the S&P 500 Index, which is rarely higher than 11. Finally, you don’t want to buy stock in companies that have sustainability issues, meaning the S&P stock rating is lower than B+/M or the S&P bond rating is lower than BBB+ (see Table).
By adhering to this algorithm, you’re focus will be on building a position in companies that are out-of-favor, companies that are preparing to outperform when current headwinds lose their strength. Warren Buffett has often addressed this point: “Whether we’re talking about socks or stocks, I like buying quality merchandise when it is marked down.“ The trick is to see through the headwinds that are holding down a company’s stock. No one knows when that will occur, but it is not hard to find out if a company’s management is preparing for that day.
Bottom Line: Given that the US stock market is currently overpriced, we are able to come up with only 6 candidate stocks for purchase. Four of those 6 are electric utilities. Utilities pay high dividends. So, utility stocks are expected to fall in price as the Federal Reserve raises interest rates. In other words, that fall in price compensates for the eroded value of their dividends compared interest payouts on newly-issued bonds.
Risk Rating: 6
Full Disclosure: I dollar-average into NEE.
NOTE: Metrics are current for the Sunday of publication; metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Column C in the Table lists the total return/yr on a stock purchase made 9/28/92, the first day of trading for VBINX.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, December 6
Week 231 - Can the 4% Rule Sustain You in Retirement Without Eroding Principal?
Situation: You don’t want to outlive your money. So, you’ll need a retirement plan that is robust enough to stay on track until you’re 100. Monthly payments from Social Security, plus Required Minimal Distributions from a 401(k) Plan, should see you through. However, a fixed-income private annuity or a workplace pension plan won’t keep up with inflation. After age 50, you’re allowed to add $6,500/yr to your IRA, which can contain stocks, bonds and mutual funds of your own choosing. To spend from your “Nest Egg” in retirement, most advisors recommend some variation of the “4% Rule." Its originator, Bill Bengen, back-tested the math (assuming an even split between bonds and stocks) and “found that retirees who withdrew 4 percent of their initial retirement portfolio balance, and then adjusted that dollar amount for inflation each year thereafter, would have created a paycheck that lasted for 30 years”. Nowadays, interest rates are being held at artificially low levels by almost every Central Bank. So, you’d better start your retirement with an appropriate adjustment (~60% stocks and ~40% bonds).
Mission: Find out if a new retiree who has stocks and bonds in a 60:40 mix can follow the 4% rule without drawing down principal (the initial retirement balance adjusted for inflation). Given that retirement savings are defensive by definition, those bonds should be 10-yr US Treasury Notes and/or a low-cost intermediate-term investment-grade bond fund like the Vanguard Interm-Term Bond Index (VBINX in the Table). Those stocks should be issued by 6 or 7 large-capitalization companies (i.e., those in the S&P 100 Index) selected from the list of Dividend Achievers representative of the 4 defensive S&P industries (HealthCare, Utilities, Communication Services, and Consumer Staples).
Execution: The Table reflects a 20 yr period of analysis using our standard spreadsheet. The assumption is that retirement began 20 yrs ago, and that each line item had the same value as every other line item at that time. No additional funds have been added. PLAN A represents my approach, i.e., to invest in 7 stocks that are collateralized with 10-yr US Treasury Notes (reinvested upon reaching maturity). PLAN B uses a bond fund instead of 10-yr Treasuries and stocks that are more growth-oriented (see Column L in the Table). Overall, there are 12 stocks in the S&P 100 Index that qualify by having Dividend Achiever status, an S&P stock rating of B+/M or better, and an S&P bond rating of BBB+ or better. NOTE: NextEra Energy (NEE) meets all criteria for inclusion in the S&P 100 and will likely be added soon, making a total of 13 stocks that are suitable for inclusion in a conservative retirement plan.
Bottom Line: Inflation averaged ~2.2%/yr over the past 20 yrs, so the 4% rule would fail to maintain principal if the average total return/yr for Plan A or Plan B were less than 4.0% + 2.2%. Plan A returned over 7%/yr and Plan B returned approximately 10%/yr. So, the value of the original investment, corrected for inflation, remained intact over the first 20 yrs of retirement. The same is true for the past 5 yrs (shown in Column F of the Table) when inflation averaged ~1.5%/yr. There is no material difference between PLAN A and PLAN B, given the slightly higher risk profile of PLAN B (see Columns J through L in the Table).
Risk Ratings: 4 (PLAN A) and 5 (PLAN B)
Full Disclosure: I have stock in KO, JNJ and WMT, and dollar-average into NEE, T, PEP and ABT as well as 10-yr T-Notes.
Note: Metrics highlighted in red denote underperformance vs. our benchmark (VBINX). 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
Mission: Find out if a new retiree who has stocks and bonds in a 60:40 mix can follow the 4% rule without drawing down principal (the initial retirement balance adjusted for inflation). Given that retirement savings are defensive by definition, those bonds should be 10-yr US Treasury Notes and/or a low-cost intermediate-term investment-grade bond fund like the Vanguard Interm-Term Bond Index (VBINX in the Table). Those stocks should be issued by 6 or 7 large-capitalization companies (i.e., those in the S&P 100 Index) selected from the list of Dividend Achievers representative of the 4 defensive S&P industries (HealthCare, Utilities, Communication Services, and Consumer Staples).
Execution: The Table reflects a 20 yr period of analysis using our standard spreadsheet. The assumption is that retirement began 20 yrs ago, and that each line item had the same value as every other line item at that time. No additional funds have been added. PLAN A represents my approach, i.e., to invest in 7 stocks that are collateralized with 10-yr US Treasury Notes (reinvested upon reaching maturity). PLAN B uses a bond fund instead of 10-yr Treasuries and stocks that are more growth-oriented (see Column L in the Table). Overall, there are 12 stocks in the S&P 100 Index that qualify by having Dividend Achiever status, an S&P stock rating of B+/M or better, and an S&P bond rating of BBB+ or better. NOTE: NextEra Energy (NEE) meets all criteria for inclusion in the S&P 100 and will likely be added soon, making a total of 13 stocks that are suitable for inclusion in a conservative retirement plan.
Bottom Line: Inflation averaged ~2.2%/yr over the past 20 yrs, so the 4% rule would fail to maintain principal if the average total return/yr for Plan A or Plan B were less than 4.0% + 2.2%. Plan A returned over 7%/yr and Plan B returned approximately 10%/yr. So, the value of the original investment, corrected for inflation, remained intact over the first 20 yrs of retirement. The same is true for the past 5 yrs (shown in Column F of the Table) when inflation averaged ~1.5%/yr. There is no material difference between PLAN A and PLAN B, given the slightly higher risk profile of PLAN B (see Columns J through L in the Table).
Risk Ratings: 4 (PLAN A) and 5 (PLAN B)
Full Disclosure: I have stock in KO, JNJ and WMT, and dollar-average into NEE, T, PEP and ABT as well as 10-yr T-Notes.
Note: Metrics highlighted in red denote underperformance vs. our benchmark (VBINX). 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
Sunday, November 29
Week 230 - Bet with the House
Situation: Government regulation now limits pricing power in 3 sub-industries: electric utilities, long-distance railroad and truck transportation, and money-center banks. First it was electric utilities, then railroads and trucking. The purpose of this regulation was to ensure that these companies with high fixed costs would be able to maintain their networks. That meant customers had to be charged enough to keep Return on Equity at around 10%. Railroads and electric utilities are essentially monopolies, so regulators also prevent them from overcharging. Then the Great Recession came along, and the few investment banking firms that had existed prior to the Lehman Panic couldn’t remain solvent. To gain access to Federal protection, they applied to become commercial banks. That had the down-side of welcoming Federal auditors into their offices on a full-time basis. When the “other shoe dropped” (The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010), legislation imposed additional regulation on the riskier (and more lucrative) financial products that money center banks prefer to promote. The danger is that these interconnected megabanks would simultaneously lose a great deal of money, i.e., precipitate a global economic crisis. Dodd-Frank calls those banks “SIFIs” or “Systemically Important Financial Institutions." The point is that most of the levers controlling finance are no longer located near Wall Street. They’re in Washington. So, there may be more safety in investing with companies in those 3 sub-industries that fall under Federal protection. Think of them as government protected companies.
Mission: We take the gambler’s saying seriously, i.e., “when possible, bet with the house.” The House is now the US Treasury, which has controlled short-term interest rates through the Federal Open Market Committee since the Banking Act of 1933. That’s one key variable that controls stock prices. The other key variable is earnings growth, which is supposed to be a function of the private economy. But, pricing power of 3 sub-industries is now under oversight of the US Treasury or government agencies answerable to the US Treasury. To “bet with the house” we need to assess a sample of companies in those 3 sub-industries.
Execution: We look at the 65-stock Dow Jones Composite Index (^DJA) to find a representative sample of companies. This week’s Table has every company in those 3 sub-industries that is large enough to appear in the 2015 Barron’s 500 List, as long as it has an S&P bond rating of BBB+ or better and an S&P stock rating of B+/M.
Bottom Line: These 11 companies operate under close government regulation. As a group, they have done well compared to the lowest-cost S&P 500 Index fund (compare Lines 13, 22 and 26 under Columns C, E and N in the Table). This outperformance apparently comes with no additional risk (see the same Lines under Columns D, I and O in the Table), So, betting with the House looks like a good idea. Specifically, this 11-stock sample performs better than the 65-stock Dow Jones Composite Index (compare Lines 13, 20 and 25 in Columns C through F of the Table) which, in turn, performs better than VFINX (the lowest-cost S&P 500 Index fund at Line 22 of the Table).
Risk Rating: 6
Full Disclosure: I dollar-average into NEE, UNP and JPM.
Note: Metrics are current for the Sunday of publication; metrics in red denote underperformance relative to our key benchmark, the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: We take the gambler’s saying seriously, i.e., “when possible, bet with the house.” The House is now the US Treasury, which has controlled short-term interest rates through the Federal Open Market Committee since the Banking Act of 1933. That’s one key variable that controls stock prices. The other key variable is earnings growth, which is supposed to be a function of the private economy. But, pricing power of 3 sub-industries is now under oversight of the US Treasury or government agencies answerable to the US Treasury. To “bet with the house” we need to assess a sample of companies in those 3 sub-industries.
Execution: We look at the 65-stock Dow Jones Composite Index (^DJA) to find a representative sample of companies. This week’s Table has every company in those 3 sub-industries that is large enough to appear in the 2015 Barron’s 500 List, as long as it has an S&P bond rating of BBB+ or better and an S&P stock rating of B+/M.
Bottom Line: These 11 companies operate under close government regulation. As a group, they have done well compared to the lowest-cost S&P 500 Index fund (compare Lines 13, 22 and 26 under Columns C, E and N in the Table). This outperformance apparently comes with no additional risk (see the same Lines under Columns D, I and O in the Table), So, betting with the House looks like a good idea. Specifically, this 11-stock sample performs better than the 65-stock Dow Jones Composite Index (compare Lines 13, 20 and 25 in Columns C through F of the Table) which, in turn, performs better than VFINX (the lowest-cost S&P 500 Index fund at Line 22 of the Table).
Risk Rating: 6
Full Disclosure: I dollar-average into NEE, UNP and JPM.
Note: Metrics are current for the Sunday of publication; metrics in red denote underperformance relative to our key benchmark, the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 22
Week 229 - Stocks with 5-30 Years of Risk vs. Reward Data That Beat the S&P 500 Index
Situation: In last week’s blog (see Week 228), we turned up 6 “unicorns” (stocks with above-market returns and below market risk) over 5-16 yr holding periods. This week we’ve extended the holding period out to 30 yrs. Once again we turned up 6 unicorns (see Table) but 3 of those weren’t on last week’s list. In other words, only 3 companies in the 2015 Barron’s 500 List have outperformed the S&P 500 Index over 5, 16 and 30 yr periods while presenting the investor with a less risk than the S&P 500 Index. Those companies are Kimberly-Clark (KMB), NextEra Energy (NEE), and DTE Energy (DTE). Aside from investing in such minimally risky “defensive” stocks, you would do better by investing in the broad diversification of a low-cost S&P 500 Index fund like the Vanguard 500 Index Fund (VFINX). Or, you can seek higher returns by taking on more risk!
Mission: Develop a logical plan to have your stock portfolio outperform the S&P 500 Index by taking on more risk.
Execution: Academic studies of this problem have shown that you have two options:
1) pick stocks issued by 40+ large-capitalization companies that represent all 10 S&P industries, while avoiding those with long-term debt (see Week 158);
2) pick a low-cost stock index fund that represents the next most risky layer of the market, i.e., mid-capitalization companies covered by the S&P 400 Index. There is an exchange-traded fund that will do that for you, the SPDR MidCap 400 ETF Trust (MDY at Line 16 in the Table).
Bottom Line: If you want to beat the S&P 500 Index, you’ll have to take on more risk. Why? Because there are only 3 stocks that have had better risk-adjusted performance than the S&P 500 Index over the past 5, 16 and 30 yrs (KMB, NEE, DTE). That’s not enough! Academic studies have shown that you need to diversify your holdings across all 10 S&P industries in order to spread out risk that occurs in downturns. This means you need to hold upwards of 40 stocks in your portfolio to avoid “concentration” risk. Or, you can pick a mid-capitalization stock index fund (e.g. MDY) and save yourself a lot of trouble. Over the past 5-yr holding period, that choice would have given you better returns than the Vanguard S&P 500 Index fund (VFINX) but with a greater risk of loss (compare Lines 15 and 16 at Columns C, D and I of the Table). Over a 30-yr holding period (with regular additions through dollar-cost averaging), the returns are again greater for the Mid-Cap fund (see Lines 19 & 20 at Column M in the Table) but the risk of loss is significantly lower (see Column O at Lines 19 & 20 in the Table). This is a logical way to beat the S&P 500 Index without taking on more risk. Holding periods of 16, 20 and 25 yrs will also do that for you, per the BMW Method. Why does a Mid-Cap stock index carry less long-term risk than the S&P 500 Index? Because smaller companies have less access to long-term financing through bond sales. In other words, Mid-Cap companies have choppier earnings growth than S&P 500 companies, and are still establishing their brands. So, they are less able to attract a syndicate of banks that will back the issuance of a long-term bond with an interest rate that is lower than the company’s ROA (Return on Assets). Having no long-term debt means there is little chance of a company going bankrupt (or being acquired by another company for less than book value).
Risk Rating: 6 (because MDY will always have a higher 5-yr Beta than VFINX, which has a Risk Rating of 5, as will any broadly diversified collection of 40+ stocks).
Full Disclosure: I dollar-average into NEE.
Note: Metrics are brought current for the Sunday of publication; metrics highlighted in red denote underperformance vs. the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Develop a logical plan to have your stock portfolio outperform the S&P 500 Index by taking on more risk.
Execution: Academic studies of this problem have shown that you have two options:
1) pick stocks issued by 40+ large-capitalization companies that represent all 10 S&P industries, while avoiding those with long-term debt (see Week 158);
2) pick a low-cost stock index fund that represents the next most risky layer of the market, i.e., mid-capitalization companies covered by the S&P 400 Index. There is an exchange-traded fund that will do that for you, the SPDR MidCap 400 ETF Trust (MDY at Line 16 in the Table).
Bottom Line: If you want to beat the S&P 500 Index, you’ll have to take on more risk. Why? Because there are only 3 stocks that have had better risk-adjusted performance than the S&P 500 Index over the past 5, 16 and 30 yrs (KMB, NEE, DTE). That’s not enough! Academic studies have shown that you need to diversify your holdings across all 10 S&P industries in order to spread out risk that occurs in downturns. This means you need to hold upwards of 40 stocks in your portfolio to avoid “concentration” risk. Or, you can pick a mid-capitalization stock index fund (e.g. MDY) and save yourself a lot of trouble. Over the past 5-yr holding period, that choice would have given you better returns than the Vanguard S&P 500 Index fund (VFINX) but with a greater risk of loss (compare Lines 15 and 16 at Columns C, D and I of the Table). Over a 30-yr holding period (with regular additions through dollar-cost averaging), the returns are again greater for the Mid-Cap fund (see Lines 19 & 20 at Column M in the Table) but the risk of loss is significantly lower (see Column O at Lines 19 & 20 in the Table). This is a logical way to beat the S&P 500 Index without taking on more risk. Holding periods of 16, 20 and 25 yrs will also do that for you, per the BMW Method. Why does a Mid-Cap stock index carry less long-term risk than the S&P 500 Index? Because smaller companies have less access to long-term financing through bond sales. In other words, Mid-Cap companies have choppier earnings growth than S&P 500 companies, and are still establishing their brands. So, they are less able to attract a syndicate of banks that will back the issuance of a long-term bond with an interest rate that is lower than the company’s ROA (Return on Assets). Having no long-term debt means there is little chance of a company going bankrupt (or being acquired by another company for less than book value).
Risk Rating: 6 (because MDY will always have a higher 5-yr Beta than VFINX, which has a Risk Rating of 5, as will any broadly diversified collection of 40+ stocks).
Full Disclosure: I dollar-average into NEE.
Note: Metrics are brought current for the Sunday of publication; metrics highlighted in red denote underperformance vs. the Vanguard Balanced Index Fund (VBINX).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 15
Week 228 - Barron’s 500 Stocks with 5-16 Yrs of Below-Market Volatility and Above-Market Returns
Situation: You don’t want to lose sleep worrying about your stock portfolio, but you also don’t want to depend entirely on index funds for retirement planning. Most readers of this blog have decided to supplement their retirement income with dividend checks that grow 2-5 times faster than inflation. The stockpicker’s goal is to get risk-adjusted returns that meet or beat S&P 500 Index returns. That takes a lot of time and requires understanding how markets work, meaning a steep learning curve extending over 10 or more years. And, it is almost impossible to find stocks that will perform for you at the high level over the long term (as this week’s blog makes clear). To get that result you would need to become a short-term trader of stocks that are not widely followed by analysts (Google “Peter Lynch” to see what I mean). If you’re not willing to become that kind of trader, then a better choice is to invest in the lowest-cost S&P 500 Index fund, the Vanguard 500 Index Fund (VFINX), or its bond-hedged version, the Vanguard Balanced Index Fund (VBINX). Or, accept that fact that few of your long-term stock picks are going to have total returns that out-perform the S&P 500 Index on a risk-adjusted basis over 2-3 market cycles.
Mission: Find stocks that have better risk-adjusted returns than the S&P 500 Index over 2-3 market cycles. Start by looking at the largest companies in the US and Canada using the Barron’s 500 List to gain information about key fundamentals. Specifically, we want to find those that have had below-market volatility over the past 5 and 16 years and returns that have beat the S&P 500 Index over the past 5 and 16 years. Eliminate any stocks that have S&P bond ratings lower than BBB+ or S&P stock ratings lower than B+/M.
Execution: We have been able to identify only 6 stocks that satisfy our criteria (see Table). If you have been reading our blog regularly, you’ll know that we call such stocks unicorns. Four of these 6 unicorn stocks pay an above-market dividend, and the other one (Nike) increases its dividend more by than 20% a year. Our list has turned up “bond substitutes” of high quality but all bond substitutes are in great demand. Why? Because the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 has eliminated the ability of banks to trade bonds for their own account. In other words, the principal market for bonds has dried up. It is going to be a long time before bonds again become a place where you can park money in anticipation of interest payments that more than compensate for inflation.
And now, a word about the method we use to find unicorns in the Barron’s 500 List. To find companies with Below-market volatility over the past 5 yrs, we use 5-yr Beta, and at 16 yrs we use the predicted loss that would be incurred if the stock’s price dropped 2 Standard Deviations below trendline, per the BMW Method. To find companies with above-market returns at 5-yrs, and since the S&P 500 Index peaked on 9/1/00, we use the Buyupside total return stock calculator. To assess the past 16 years of price appreciation, we use the BMW Method. All comparisons are to either the S&P 500 Index or the lowest-cost stock mutual fund that mimics that index (VFINX).
Bottom Line: We’re looking for “unicorn” stocks and found 6 (see Table). The method we use will probably never turn up more than 10 stocks, given that outperformance is almost always accompanied by greater volatility. The problem for you, the reader, is that we’ve used historical data. In other words, there’s no way of knowing whether these 6 stocks will continue to outperform while exhibiting below-market volatility.
Risk Rating: 4
Full Disclosure: I dollar-average into NKE, UNP and NEE.
Note: Metrics highlighted in red denote underperformance vs. our key benchmark (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Find stocks that have better risk-adjusted returns than the S&P 500 Index over 2-3 market cycles. Start by looking at the largest companies in the US and Canada using the Barron’s 500 List to gain information about key fundamentals. Specifically, we want to find those that have had below-market volatility over the past 5 and 16 years and returns that have beat the S&P 500 Index over the past 5 and 16 years. Eliminate any stocks that have S&P bond ratings lower than BBB+ or S&P stock ratings lower than B+/M.
Execution: We have been able to identify only 6 stocks that satisfy our criteria (see Table). If you have been reading our blog regularly, you’ll know that we call such stocks unicorns. Four of these 6 unicorn stocks pay an above-market dividend, and the other one (Nike) increases its dividend more by than 20% a year. Our list has turned up “bond substitutes” of high quality but all bond substitutes are in great demand. Why? Because the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 has eliminated the ability of banks to trade bonds for their own account. In other words, the principal market for bonds has dried up. It is going to be a long time before bonds again become a place where you can park money in anticipation of interest payments that more than compensate for inflation.
And now, a word about the method we use to find unicorns in the Barron’s 500 List. To find companies with Below-market volatility over the past 5 yrs, we use 5-yr Beta, and at 16 yrs we use the predicted loss that would be incurred if the stock’s price dropped 2 Standard Deviations below trendline, per the BMW Method. To find companies with above-market returns at 5-yrs, and since the S&P 500 Index peaked on 9/1/00, we use the Buyupside total return stock calculator. To assess the past 16 years of price appreciation, we use the BMW Method. All comparisons are to either the S&P 500 Index or the lowest-cost stock mutual fund that mimics that index (VFINX).
Bottom Line: We’re looking for “unicorn” stocks and found 6 (see Table). The method we use will probably never turn up more than 10 stocks, given that outperformance is almost always accompanied by greater volatility. The problem for you, the reader, is that we’ve used historical data. In other words, there’s no way of knowing whether these 6 stocks will continue to outperform while exhibiting below-market volatility.
Risk Rating: 4
Full Disclosure: I dollar-average into NKE, UNP and NEE.
Note: Metrics highlighted in red denote underperformance vs. our key benchmark (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 8
Week 227 - Established Companies with a Durable Competitive Advantage and Improving Fundamentals
Situation: Government and corporate credit woes are building up around the world, instead of receding. We’ve pointed out in several blogs that the root cause of the Great Recession was overuse of credit. We’ve also pointed out that the world had apparently learned its lesson and was gradually deleveraging. That trend stopped in 2014 and a reversal is now underway. Why did deleveraging stop? Because the Federal Reserve maintained its “free money” policy too long. How should we respond? Stocks are widely understood to have been inflated in value as a result of that Federal Reserve policy, since low interest rates made bonds an unattractive alternative. Until the Federal Reserve actually raises rates to traditional levels relative to inflation, that leaves you with the same two investment choices you’ve had for the past 5 years: risky stocks vs. “bond-like” stocks. Bond-like stocks are issued by established companies, have an above-market dividend yield, and have a history of growing dividends twice as fast as inflation. To pick the best bond-like stocks during this period of global economic uncertainty, focus on companies that have what Warren Buffett calls a “Durable Competitive Advantage”, particularly those with improving fundamentals.
Mission: Make a list of Barron’s 500 companies that have trading records extending back at least 16 yrs and have a Barron’s rank this year that is higher than last year’s rank, i.e., companies with improving fundamentals. Determine which have a Durable Competitive Advantage (see Week 30). That means Tangible Book Value (TBV) has grown at least 7-10% a year for the past 10 yrs, and there have been no more than two down years. If TBV is positive in any given year, that means tangible assets exceed liabilities. Most companies have a negative TBV because of being capitalized mainly by loans. That exposes the company to the risk of insolvency during periods when loans are difficult to renew, unless the company agrees to pay an interest rate that exceeds the company’s rate of return on assets. By focusing on TBV, we bypass such companies. Next, we eliminate companies with below-market dividend yields, or dividend growth that is less than twice the inflation rate. Finally, we calculate the Buffett Buy Analysis for each company that remains.
Execution: This week’s Table lays out metrics that fit the mission. Calculation of the Buffett Buy Analysis (see Columns S thru Z in the Table) requires some explanation. It is a “discounted cash flow” method wherein earnings growth over the past 10 yrs (Column T) is projected 10 yrs into the future (Column U), then multiplied by the lowest P/E seen over the past 10 yrs (Column V). That gives a conservative estimate of the stock’s price 10 yrs from now, unless a dividend is paid. If a dividend is paid, there is a conservative assumption that the dividend won’t be increased any time in the next 10 yrs. The current annual dividend is multiplied by 10 (Column W) and added to the price estimate dictated by the projected growth in earnings (Column X). To conduct a Buffett Buy Analysis, we start with the current price (see Column Y) and calculate the Compound Annual Growth Rate (CAGR) over the next 10 yrs that would be needed to arrive at the predicted price (see Column X) 10 yrs from now. The result is given in Column Z. That CAGR is the Buffett Buy Analysis (BBA). That rate of stock price appreciation should be in line with the rate of TBV appreciation rate over the past 10 yrs (see Column R). It will be lower if the stock is currently overpriced, since the “runway” to reach the projected price 10 yrs from now is shorter.
Bottom Line: By taking an objective approach to stock-picking, we’ve managed to eliminate 99% of the companies on the Barron’s 500 List (see Table). Partly that’s because the market has become overpriced, since the Federal Reserve’s easy money policy takes attention away from owning bonds, and partly because those same policies have made money so cheap that most companies have come to rely more heavily on debt financing than they normally would. Debt financing is also cheaper because interest payments are tax-deductible. The 5 companies in this week’s Table offer objective value: 1) growing TBV; 2) improving fundamentals. They all have returns that have far exceeded S&P 500 Index’s returns since that index peaked on 9/1/00 (see Columns C and L in the Table), and none are currently overpriced (see Column K). The main caveat for owning such bond-like stocks is that their price is likely to drop for a period after the Federal Reserve starts raising interest rates, because new bonds pay more interest than old bonds.
Risk Rating: 5
Full Disclosure: I dollar-average into NEE, and also own shares of CMI and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our main benchmark, the Vanguard Balanced Index Fund (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Make a list of Barron’s 500 companies that have trading records extending back at least 16 yrs and have a Barron’s rank this year that is higher than last year’s rank, i.e., companies with improving fundamentals. Determine which have a Durable Competitive Advantage (see Week 30). That means Tangible Book Value (TBV) has grown at least 7-10% a year for the past 10 yrs, and there have been no more than two down years. If TBV is positive in any given year, that means tangible assets exceed liabilities. Most companies have a negative TBV because of being capitalized mainly by loans. That exposes the company to the risk of insolvency during periods when loans are difficult to renew, unless the company agrees to pay an interest rate that exceeds the company’s rate of return on assets. By focusing on TBV, we bypass such companies. Next, we eliminate companies with below-market dividend yields, or dividend growth that is less than twice the inflation rate. Finally, we calculate the Buffett Buy Analysis for each company that remains.
Execution: This week’s Table lays out metrics that fit the mission. Calculation of the Buffett Buy Analysis (see Columns S thru Z in the Table) requires some explanation. It is a “discounted cash flow” method wherein earnings growth over the past 10 yrs (Column T) is projected 10 yrs into the future (Column U), then multiplied by the lowest P/E seen over the past 10 yrs (Column V). That gives a conservative estimate of the stock’s price 10 yrs from now, unless a dividend is paid. If a dividend is paid, there is a conservative assumption that the dividend won’t be increased any time in the next 10 yrs. The current annual dividend is multiplied by 10 (Column W) and added to the price estimate dictated by the projected growth in earnings (Column X). To conduct a Buffett Buy Analysis, we start with the current price (see Column Y) and calculate the Compound Annual Growth Rate (CAGR) over the next 10 yrs that would be needed to arrive at the predicted price (see Column X) 10 yrs from now. The result is given in Column Z. That CAGR is the Buffett Buy Analysis (BBA). That rate of stock price appreciation should be in line with the rate of TBV appreciation rate over the past 10 yrs (see Column R). It will be lower if the stock is currently overpriced, since the “runway” to reach the projected price 10 yrs from now is shorter.
Bottom Line: By taking an objective approach to stock-picking, we’ve managed to eliminate 99% of the companies on the Barron’s 500 List (see Table). Partly that’s because the market has become overpriced, since the Federal Reserve’s easy money policy takes attention away from owning bonds, and partly because those same policies have made money so cheap that most companies have come to rely more heavily on debt financing than they normally would. Debt financing is also cheaper because interest payments are tax-deductible. The 5 companies in this week’s Table offer objective value: 1) growing TBV; 2) improving fundamentals. They all have returns that have far exceeded S&P 500 Index’s returns since that index peaked on 9/1/00 (see Columns C and L in the Table), and none are currently overpriced (see Column K). The main caveat for owning such bond-like stocks is that their price is likely to drop for a period after the Federal Reserve starts raising interest rates, because new bonds pay more interest than old bonds.
Risk Rating: 5
Full Disclosure: I dollar-average into NEE, and also own shares of CMI and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our main benchmark, the Vanguard Balanced Index Fund (VBINX). Metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 1
Week 226 - Grocery and Drug Stores, Restaurants and Their Suppliers
Situation: Food-related businesses supply an “essential good.” In the US, families spend approximately 10% of their income on food. Today’s blog is the last of a 4-part series covering food-related companies in the 2015 Fortune 500 list, which ranks 1000 companies by revenue and provides specific information about each company’s relation to the marketplace. Week 210 covered Agronomy and Food Production Companies; Week 218 covered Food Consumer Products, and Week 219 covered Agricultural Production Equipment.
Mission: Provide details related to investment metrics for companies at the final stop in the food supply chain. Those companies are grocery and drug stores, restaurants, and specialized trucking companies serving those establishments. Our second focus is to reach conclusions about the benefits and risks that stockpickers need to consider when buying stock in these companies, particularly as a long-term holding for a retirement portfolio.
Execution: The prosperity of any company is determined, in part, by input costs. For food-related companies, the key inputs are cereal grains and soybeans, whether used to make food directly or indirectly (by feeding animals). Prices paid for those raw materials will depend on the economics of production at farms and ranches worldwide. As with other commodities, the up-front “fixed costs” of food production are very high. That large investment will be capitalized mainly with borrowed money. Therefore, a farmer faces major uncertainties on two fronts: interest rates and the weather. When interest rates are low and weather is optimal in major food-producing regions, there will be an overabundance of food commodities and prices will fall 30-50%. That leaves farmers with little or no money after servicing mortgages on their land and equipment, and buying seed and fertilizer for next year’s crop.
Bottom Line: Food-related businesses are speculative enterprises. Of the 13 in this week’s Table, only one can be considered suitable for inclusion in a retirement portfolio: Sysco (SYY). That is a trucking company which delivers food (in various stages of readiness for consumption) to grocery stores, restaurants, and institutions.
Risk Rating: 6
Full Disclosure: I own stock in McDonald’s (MCD).
Note: Metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Metrics are brought current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Provide details related to investment metrics for companies at the final stop in the food supply chain. Those companies are grocery and drug stores, restaurants, and specialized trucking companies serving those establishments. Our second focus is to reach conclusions about the benefits and risks that stockpickers need to consider when buying stock in these companies, particularly as a long-term holding for a retirement portfolio.
Execution: The prosperity of any company is determined, in part, by input costs. For food-related companies, the key inputs are cereal grains and soybeans, whether used to make food directly or indirectly (by feeding animals). Prices paid for those raw materials will depend on the economics of production at farms and ranches worldwide. As with other commodities, the up-front “fixed costs” of food production are very high. That large investment will be capitalized mainly with borrowed money. Therefore, a farmer faces major uncertainties on two fronts: interest rates and the weather. When interest rates are low and weather is optimal in major food-producing regions, there will be an overabundance of food commodities and prices will fall 30-50%. That leaves farmers with little or no money after servicing mortgages on their land and equipment, and buying seed and fertilizer for next year’s crop.
Bottom Line: Food-related businesses are speculative enterprises. Of the 13 in this week’s Table, only one can be considered suitable for inclusion in a retirement portfolio: Sysco (SYY). That is a trucking company which delivers food (in various stages of readiness for consumption) to grocery stores, restaurants, and institutions.
Risk Rating: 6
Full Disclosure: I own stock in McDonald’s (MCD).
Note: Metrics highlighted in red denote underperformance vs. our key benchmark, the Vanguard Balanced Index Fund (VBINX). Metrics are brought current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 25
Week 225 - How are the 20 Largest AgriBusiness Companies Doing?
Situation: Commodities have fallen steadily in value since the Lehman Panic. A recent further decline is related to a slowing in the pace of modernization in China, where 40% of commodity production had gone for the past 20 yrs. This has greatly compounded the problem because the rapid pace of modernization there had required remarkable growth in the production of all commodities. Now that China’s infrastructure buildout is largely complete, those upgraded mining and exploration assets in Australia, Brazil, Chile, and South Africa have been idled, and over a dozen billion dollar projects have been aborted. But those aren’t the only commodities out there. What about agricultural products? Demand for soybeans and cereal grains (e.g. barley, corn, oats, rice, rye, wheat, sorghum) is different because close to 20 million people emerge from poverty each year and are able to afford better food, which translates into a protein intake of at least 60 gm/d. The volumes of food involved in meeting that increased demand make it necessary to combine the “green revolution” with “factory farms.” That combination has come to be called “AgriBusiness.” AgriBusiness is focused on efficiently getting water to soil that has been prepared to support the germination of designer seeds through “agronomy.” Agronomy is shorthand for the scientific use of fertilizers, insecticides, and fungicides to optimize plant growth around weather patterns and irrigation systems that meet water needs.
Mission: Assemble data on stocks representing the 20 largest AgriBusiness companies, and compare their aggregate performance with broad commodity indices--as well as narrower indices that reflect the performance of farming, mining, and energy companies.
Execution: AgriBusiness companies are high risk investments, and each has only a small piece of the pie. In order to compete against one another, each has to maintain a market for its goods and services in dozens of countries. Only 4 of the 20 identified AgriBusinesses are stable enough to warrant inclusion in a retirement portfolio by even the most basic criteria (see Table). These criteria are 1) Dividend Achiever status, 2) an S&P bond rating of at least BBB+, and 3) an S&P stock rating of at least B+/M. The 4 companies that make the cut are: Monsanto (MON), Deere (DE), Hormel Foods (HRL), and Archer Daniels Midland (ADM).
Bottom Line: If you think your portfolio requires exposure to commodities, then you’re in for a rough ride. But “long cycle” investments such as commodities can be quite rewarding if held for two or more market cycles. The safest approach is to own stock in a few of the larger AgriBusiness companies, as opposed to owning stock in mining or energy companies (see Week 221). This week’s blog takes a closer look at those agricultural producers. Be aware, however, that overproduction to meet China’s needs over the past decade has expanded agricultural production capacity along with that for oil, natural gas, coal, iron ore, bauxite, and copper. This is being reversed now that China’s “buildout” has begun to plateau.
Risk Rating: 8
Full Disclosure: I own stock in CF, HRL, MON, DD, DE, and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our key benchmark (VBINX); 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
Mission: Assemble data on stocks representing the 20 largest AgriBusiness companies, and compare their aggregate performance with broad commodity indices--as well as narrower indices that reflect the performance of farming, mining, and energy companies.
Execution: AgriBusiness companies are high risk investments, and each has only a small piece of the pie. In order to compete against one another, each has to maintain a market for its goods and services in dozens of countries. Only 4 of the 20 identified AgriBusinesses are stable enough to warrant inclusion in a retirement portfolio by even the most basic criteria (see Table). These criteria are 1) Dividend Achiever status, 2) an S&P bond rating of at least BBB+, and 3) an S&P stock rating of at least B+/M. The 4 companies that make the cut are: Monsanto (MON), Deere (DE), Hormel Foods (HRL), and Archer Daniels Midland (ADM).
Bottom Line: If you think your portfolio requires exposure to commodities, then you’re in for a rough ride. But “long cycle” investments such as commodities can be quite rewarding if held for two or more market cycles. The safest approach is to own stock in a few of the larger AgriBusiness companies, as opposed to owning stock in mining or energy companies (see Week 221). This week’s blog takes a closer look at those agricultural producers. Be aware, however, that overproduction to meet China’s needs over the past decade has expanded agricultural production capacity along with that for oil, natural gas, coal, iron ore, bauxite, and copper. This is being reversed now that China’s “buildout” has begun to plateau.
Risk Rating: 8
Full Disclosure: I own stock in CF, HRL, MON, DD, DE, and ADM.
Note: Metrics in the Table that are highlighted in red denote underperformance relative to our key benchmark (VBINX); 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
Sunday, October 18
Week 224 - Growing Perpetuity Index, v2.0
Situation: We started publishing this weekly blog over 4 years ago, believing that investors can safely profit by dollar-averaging online into stocks of strong companies. To simplify matters, we defined strong companies as those in the 65-stock Dow Jones Composite Average (^DJA) with a record of increasing their dividend each year for at least the past 10 yrs. S&P calls such companies Dividend Achievers, and there are 28 in the ^DJA. We call ^DJA the “Stockpicker’s Secret Fishing Hole” because it outperforms the S&P 500 Index (^GSPC) over two or more market cycles (compare Lines 30 and 32 in Column C of the Table) but contains only 1/8th as many stocks.
Mission: For v1.0 of the Growing Perpetuity Index, we set up 4 criteria to find the highest quality companies in the ^DJA (see Week 4). Each selected company had to fit the following criteria:
a) has a dividend yield that is no less than the yield for the S&P 500 Index (VFINX);
b) is a Dividend Achiever;
c) has an S&P stock rating of A-/M or better;
d) has an S&P bond rating of BBB+ or better.
There were 14 companies that met our criteria. We wanted a Growing Perpetuity Index of no more than 12 stocks, so Southern Company (SO) and Caterpillar (CAT) were excluded from v1.0 (see Week 4).
Execution: In the 4 years since that blog was published, two additional companies have come to meet our criteria: Microsoft (MSFT) and a railroad, CSX (CSX). Now we’re setting up version 2.0 of the Growing Perpetuity Index to include all 16 qualifying companies (see Table).
Bottom Line: A perpetuity is a bond that never matures (i.e., it pays interest indefinitely). A growing perpetuity is a bond that pays more interest each year. Our Growing Perpetuity Index does that. It is a unique reference tool for retirement planning, a safe and effective tactic to have a source of income (quarterly dividend checks) that will grow faster than inflation (see Column H in the Table). Inflation has grown 2.1%/yr since the S&P 500 Index peaked on 9/1/00 (see Column C in the Table), but dividends for v2.0 of the Growing Perpetuity Index have grown ~5 times faster (see Line 18 under Column H). Looking at price appreciation over the past 20 yrs using the BMW Method, the aggregate of 16 stocks (see Line 18 under Column L) has appreciated 3 times faster than the S&P 500 Index (see Line 32 in the Table). All 16 companies have outperformed the S&P 500 Index over the past 20 yrs (see Column L in the Table). However, outperformance always comes with greater risk: The BMW Method’s analysis of price performance over the past 20 yrs predicts that the extent of loss for those 16 companies in a future bear market will be 10% greater than for the S&P 500 Index (compare Lines 18 and 32 in Column N of the Table).
Risk Rating: 4
Full Disclosure: I dollar-average into JNJ, NEE, WMT, MSFT and XOM, and also own shares of MCD, IBM, KO, UTX, and MMM.
Note: Metrics highlighted in red indicate underperformance relative to our benchmark (VBINX); metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: For v1.0 of the Growing Perpetuity Index, we set up 4 criteria to find the highest quality companies in the ^DJA (see Week 4). Each selected company had to fit the following criteria:
a) has a dividend yield that is no less than the yield for the S&P 500 Index (VFINX);
b) is a Dividend Achiever;
c) has an S&P stock rating of A-/M or better;
d) has an S&P bond rating of BBB+ or better.
There were 14 companies that met our criteria. We wanted a Growing Perpetuity Index of no more than 12 stocks, so Southern Company (SO) and Caterpillar (CAT) were excluded from v1.0 (see Week 4).
Execution: In the 4 years since that blog was published, two additional companies have come to meet our criteria: Microsoft (MSFT) and a railroad, CSX (CSX). Now we’re setting up version 2.0 of the Growing Perpetuity Index to include all 16 qualifying companies (see Table).
Bottom Line: A perpetuity is a bond that never matures (i.e., it pays interest indefinitely). A growing perpetuity is a bond that pays more interest each year. Our Growing Perpetuity Index does that. It is a unique reference tool for retirement planning, a safe and effective tactic to have a source of income (quarterly dividend checks) that will grow faster than inflation (see Column H in the Table). Inflation has grown 2.1%/yr since the S&P 500 Index peaked on 9/1/00 (see Column C in the Table), but dividends for v2.0 of the Growing Perpetuity Index have grown ~5 times faster (see Line 18 under Column H). Looking at price appreciation over the past 20 yrs using the BMW Method, the aggregate of 16 stocks (see Line 18 under Column L) has appreciated 3 times faster than the S&P 500 Index (see Line 32 in the Table). All 16 companies have outperformed the S&P 500 Index over the past 20 yrs (see Column L in the Table). However, outperformance always comes with greater risk: The BMW Method’s analysis of price performance over the past 20 yrs predicts that the extent of loss for those 16 companies in a future bear market will be 10% greater than for the S&P 500 Index (compare Lines 18 and 32 in Column N of the Table).
Risk Rating: 4
Full Disclosure: I dollar-average into JNJ, NEE, WMT, MSFT and XOM, and also own shares of MCD, IBM, KO, UTX, and MMM.
Note: Metrics highlighted in red indicate underperformance relative to our benchmark (VBINX); metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, October 11
Week 223 - Pricing Power
Situation: Stock-picking does not appear to be difficult. There is but one task (estimate earnings growth for ~30 companies) and one scorecard (growth of the S&P 500 Index). The long-term price appreciation for each company’s stock is a simple function of earnings growth and short-term interest rates. The most efficient way to boost earnings is to raise prices, if it won't hurt sales. This can be done by convincing customers that a company’s product or service is superior to the competition’s. In that scenario, pricing power = brand power. Alternatively, a company’s managers can engage in “restraint of trade” practices. In that scenario, pricing power = monopoly power (which is illegal). But pricing power is such a strong driver of earnings growth that company managers will try to skirt the legalities “to get a leg up on the competition.” Companies discover pricing power when “Mr. Market” decides that one of its “brands” is superior to others like it. In other words, consumers may decide to pay more dearly for a particular product or service just because it is perceived as “cool.”
Mission: Determine which companies have brands that are strong enough to explain earnings growth “surprises.” In other words, which companies have the kind of stock price appreciation that comes from pricing power related to growing brand value, instead of pricing power related to “restraint of trade” practices.
Execution: We'll start with the list of brand values in the recently published “Global 500 2015.” Many of those brands denote whole companies but others denote separate product lines within a company. There are 87 US brands in that list with a higher dollar value in 2015 than in 2014. For analysis purposes, we’re only interested in companies (or the parent companies) having a publicly traded stock that has been around for at least 16 yrs and has a pricing pattern that roughly tracks that of the S&P 500 Index, as analyzed by the BMW Method. We find that 53 of those 87 companies meet those criteria and have revenues great enough to warrant inclusion in the Barron’s 500 List. Given that our stock-picking scorecard is the S&P 500 Index, we excluded the 6 companies that have had lower price appreciation over the past 16 yrs than the S&P 500 Index. Those are: Southwest Airlines (LUV), Sprint (S), Morgan Stanley (MS), Time Warner (TWX), Intel (INTC), Cisco Systems (CSCO). That leaves us with 47. An additional 17 were deleted because of having an S&P bond rating below BBB+ and/or an S&P stock rating below B+/M. This leaves us with 30 stocks to consider (see Table).
You want to have a stock-picking strategy that beats the S&P 500 Index. Failing that, you need to sell your stocks and dollar-average the proceeds into the lowest-cost S&P 500 Index fund (VFINX at Line 39 in the Table) or its bond-hedged version (VBINX at Line 37 in the Table). Over the past 20 and 30 yr periods, only 6 stocks have been able to track the S&P 500 Index and outperform it with less risk of loss in a future bear market, per the BMW Method. Those 6 stocks are Abbott Laboratories (ABT), Air Products and Chemicals (APD), 3M (MMM) and 3 utilities: American Electric Power (AEP), DTE Energy (DTE), and NextEra Energy (NEE). In other words, it is almost impossible to beat the S&P 500 Index unless you take on more risk (in the hope that price appreciation will outweigh the additional risk).
Bottom Line: We have found 30 companies that beat the S&P 500 Index over the past 16 yrs (see Table). All 30 have improving brand values. The pricing power conferred by that improvement likely contributed to the earnings growth that has driven their stock prices higher. Investors are justified in thinking that pricing power is a “necessary but not sufficient” explanation for the outperformance of these stocks. A stock-picking strategy founded on improvement in brand values may be the best strategy available to retail investors, i.e., those who work outside the finance industry.
Risk Rating: 7
Full Disclosure: I dollar-average into NKE, UNP, JPM, WMT and MSFT, and also own shares of KO, PEP and MCK.
Note: Red highlights in the Table denote underperformance vs. the bond-hedged S&P 500 Index (VBINX); metrics 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
Mission: Determine which companies have brands that are strong enough to explain earnings growth “surprises.” In other words, which companies have the kind of stock price appreciation that comes from pricing power related to growing brand value, instead of pricing power related to “restraint of trade” practices.
Execution: We'll start with the list of brand values in the recently published “Global 500 2015.” Many of those brands denote whole companies but others denote separate product lines within a company. There are 87 US brands in that list with a higher dollar value in 2015 than in 2014. For analysis purposes, we’re only interested in companies (or the parent companies) having a publicly traded stock that has been around for at least 16 yrs and has a pricing pattern that roughly tracks that of the S&P 500 Index, as analyzed by the BMW Method. We find that 53 of those 87 companies meet those criteria and have revenues great enough to warrant inclusion in the Barron’s 500 List. Given that our stock-picking scorecard is the S&P 500 Index, we excluded the 6 companies that have had lower price appreciation over the past 16 yrs than the S&P 500 Index. Those are: Southwest Airlines (LUV), Sprint (S), Morgan Stanley (MS), Time Warner (TWX), Intel (INTC), Cisco Systems (CSCO). That leaves us with 47. An additional 17 were deleted because of having an S&P bond rating below BBB+ and/or an S&P stock rating below B+/M. This leaves us with 30 stocks to consider (see Table).
You want to have a stock-picking strategy that beats the S&P 500 Index. Failing that, you need to sell your stocks and dollar-average the proceeds into the lowest-cost S&P 500 Index fund (VFINX at Line 39 in the Table) or its bond-hedged version (VBINX at Line 37 in the Table). Over the past 20 and 30 yr periods, only 6 stocks have been able to track the S&P 500 Index and outperform it with less risk of loss in a future bear market, per the BMW Method. Those 6 stocks are Abbott Laboratories (ABT), Air Products and Chemicals (APD), 3M (MMM) and 3 utilities: American Electric Power (AEP), DTE Energy (DTE), and NextEra Energy (NEE). In other words, it is almost impossible to beat the S&P 500 Index unless you take on more risk (in the hope that price appreciation will outweigh the additional risk).
Bottom Line: We have found 30 companies that beat the S&P 500 Index over the past 16 yrs (see Table). All 30 have improving brand values. The pricing power conferred by that improvement likely contributed to the earnings growth that has driven their stock prices higher. Investors are justified in thinking that pricing power is a “necessary but not sufficient” explanation for the outperformance of these stocks. A stock-picking strategy founded on improvement in brand values may be the best strategy available to retail investors, i.e., those who work outside the finance industry.
Risk Rating: 7
Full Disclosure: I dollar-average into NKE, UNP, JPM, WMT and MSFT, and also own shares of KO, PEP and MCK.
Note: Red highlights in the Table denote underperformance vs. the bond-hedged S&P 500 Index (VBINX); metrics 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, October 4
Week 222 - Food and Agriculture Companies: Brand Performance
Situation: How can we know whether a company is a “growth story”? Here at ITR, we depend on the fundamental performance of “metrics” from the previous 3 yrs, and the readout showing whether or not the company is moving ahead in terms of those metrics. The Barron’s 500 List provides that information, and also allows us to compare different companies within an industry. Usually, those findings correlate with the trend in “Tangible Book Value” or TBV, which Warren Buffett uses to identify companies with a Durable Competitive Advantage (see Week 158). Barron’s 500 data is more useful than TBV because it marks trends in Cash Flow and Return on Invested Capital (ROIC) regardless of a company’s degree of indebtedness, whereas, TBV is minimal or negative if a company is capitalized mainly by loans (which is unfortunately the case with most companies).
Another key metric is Intangible Book Value. That’s the amount of money a company pays over and above TBV when it buys another company. Accountants book that asset as “Goodwill.” Intangible Book Value represents the dollar value of a company’s brand. It is difficult to place a dollar value on a brand unless a company is sold. But the information is so important that there are now 3 companies that compile the marketing data needed to make “best estimates.” One of those companies is Brand Finance, which recently came out with its 2015 ranking of the 500 most valuable brands worldwide.
Here at ITR, we’re particularly interested in Food and Agriculture companies. Let’s see how those brands have performed, paying particular attention to companies that represent (or harbor) the top 7 growing brands: Coca-Cola (KO), PepsiCo (PEP), Nestle (NSRGY), Danone (DANOY), Diageo (DEO), Tyson Foods (TSN), and Kraft Heinz (KHC). This requires two spreadsheets. Table #1 ranks growing brands at the top of the table and declining brands at the bottom, assigning dollar values to each. Column D lists the parent company of each brand. Table #2 provides investment information for each of those 18 companies.
As an investor, you’re looking to find GARP (Growth at a Reasonable Price). Turning to Table #2, we see that all 18 companies beat the S&P 500 Index over the past 15 yrs (see Column C) and 16 yrs. 16-yr performance is measured by using statistical BMW Method data that is summarized in Columns L-N. So, growth is a foregone conclusion for these commodity-related stocks. That leaves two issues: 1) the price you pay for the stock relative to its operating earnings (EV/EBITDA in Column K); 2) the risk of loss that you take on by owning the stock (see Column D and Column N). Looking at the top 7 stocks with growing brands in Table #1, we see in Column K of Table #2 that Tyson Foods (TSN) is the only one that is not currently overpriced. With respect to the risk of loss, we see in Columns D & N of Table #2 that all except Coca-Cola (KO) and Pepsi (PEP) are overly risky, or carry currency risk because of not being priced in US dollars. For example, Nestle stock is priced in the world’s strongest currency: Swiss Francs.
Bottom Line: The value that comes from owning Food and Agriculture stocks ultimately depends on price trends for food commodities. That means these stocks will show greater price variance than the S&P 500 Index. However, food is a necessity and at least 10 million people a year emerge from poverty and can then afford to consume a 60 gm/d protein diet. So, we’re looking at risky investments that are remarkably rewarding if held over 2-3 market cycles; you have to be a “risk-on” investor to benefit from owning these stocks. The only exceptions are PepsiCo (PEP) and Coca-Cola (KO), which are sufficiently stable to be included in a retirement portfolio .
Risk Rating: 6/7
Full Disclosure: I own stock in KO, PEP, and DE.
Note: metrics highlighted in red denote underperformance vs. our key benchmark (VBINX); metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Another key metric is Intangible Book Value. That’s the amount of money a company pays over and above TBV when it buys another company. Accountants book that asset as “Goodwill.” Intangible Book Value represents the dollar value of a company’s brand. It is difficult to place a dollar value on a brand unless a company is sold. But the information is so important that there are now 3 companies that compile the marketing data needed to make “best estimates.” One of those companies is Brand Finance, which recently came out with its 2015 ranking of the 500 most valuable brands worldwide.
Here at ITR, we’re particularly interested in Food and Agriculture companies. Let’s see how those brands have performed, paying particular attention to companies that represent (or harbor) the top 7 growing brands: Coca-Cola (KO), PepsiCo (PEP), Nestle (NSRGY), Danone (DANOY), Diageo (DEO), Tyson Foods (TSN), and Kraft Heinz (KHC). This requires two spreadsheets. Table #1 ranks growing brands at the top of the table and declining brands at the bottom, assigning dollar values to each. Column D lists the parent company of each brand. Table #2 provides investment information for each of those 18 companies.
As an investor, you’re looking to find GARP (Growth at a Reasonable Price). Turning to Table #2, we see that all 18 companies beat the S&P 500 Index over the past 15 yrs (see Column C) and 16 yrs. 16-yr performance is measured by using statistical BMW Method data that is summarized in Columns L-N. So, growth is a foregone conclusion for these commodity-related stocks. That leaves two issues: 1) the price you pay for the stock relative to its operating earnings (EV/EBITDA in Column K); 2) the risk of loss that you take on by owning the stock (see Column D and Column N). Looking at the top 7 stocks with growing brands in Table #1, we see in Column K of Table #2 that Tyson Foods (TSN) is the only one that is not currently overpriced. With respect to the risk of loss, we see in Columns D & N of Table #2 that all except Coca-Cola (KO) and Pepsi (PEP) are overly risky, or carry currency risk because of not being priced in US dollars. For example, Nestle stock is priced in the world’s strongest currency: Swiss Francs.
Bottom Line: The value that comes from owning Food and Agriculture stocks ultimately depends on price trends for food commodities. That means these stocks will show greater price variance than the S&P 500 Index. However, food is a necessity and at least 10 million people a year emerge from poverty and can then afford to consume a 60 gm/d protein diet. So, we’re looking at risky investments that are remarkably rewarding if held over 2-3 market cycles; you have to be a “risk-on” investor to benefit from owning these stocks. The only exceptions are PepsiCo (PEP) and Coca-Cola (KO), which are sufficiently stable to be included in a retirement portfolio .
Risk Rating: 6/7
Full Disclosure: I own stock in KO, PEP, and DE.
Note: metrics highlighted in red denote underperformance vs. our key benchmark (VBINX); metrics are current for the Sunday of publication.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, September 27
Week 221 - Status of Commodity-Related Barron’s 500 Companies
Situation: Since 2009, China has contributed twice as much to world economic growth as the US. China has also purchased ~40% of all commodities sold worldwide. One commodity in particular, copper, is used as a measure of the health of commodity demand in emerging markets because it plays an important role in building electrical grids. Copper has recently reached new lows. China is slowing down its investment machine mainly because its total debt load has reached 300% of GDP. To put China’s woes in context for the US economy, the CEOs of several corporations have recently provided specific examples of how China’s economic decline impacts their businesses.
What does this mean for investors? Basically, for the next one or two years, traders of all asset classes will be in a “risk-off” mode while governments, corporations, and individuals struggle to bring down their debt loads and develop ideas for growth. This cautionary stance will coincide with a bottoming of commodity prices as demand recovers while supplies moderate. The global “oil glut” is a special case, only marginally related to falling demand in China. Instead, it is due to a global “price war” triggered by an oversupply of oil related to improvements in technology, namely horizontal drilling into oil-rich shale deposits combined with hydraulic fracturing. And, oil prices may have further to fall.
Mission: Assess the effect on commodity-related companies of oversupply of commodities. Do this by evaluating all 56 such companies in the 2015 Barron’s 500 List that have at least 16 yrs of trading records.
Execution: This week’s spreadsheet (see Table) shows the carnage. Note the abundance of red highlights denoting underperformance relative to our key benchmark (VBINX at Line 73). Let’s start with a “thought experiment.” You’re looking for GARP (growth at a reasonable price), which will allow you to take advantage of sharply falling stock prices (see Column F in the Table). Let’s start by listing the companies that have moved up in rank compared to the 2014 Barron’s 500 List. Those are the ones with green highlights in Columns P and Q of the Table. Then pick those stocks that aren’t overpriced, i.e., the ones with an EV/EBITDA that is no greater than the EV/EBITDA for the S&P 500 Index (which is an EV/EBITDA of 11).
There are 10 candidates in the “oil & gas” group: HES, DVN, TSO, CAM, CHK, NOV, VLO, HAL, WFT, NBR. Two of those have been labelled “potentially underpriced” per the BMW Method (see Week 193): CHK and NOV (see Column O in the Table). There are 5 more candidates in the “basic materials” group: NUE, SCCO, CMC, X, AA and 6 candidates in the agriculture production group (ADM, POT, MOS, TSN, DOW, PPC). POT is another “potentially underpriced” stock. That totals 21 stocks. However, three of those failed to outperform the S&P 500 Index over the past 16 yrs (per the BMW Method: NBR, AA, PPC (see Column L in the Table). Eliminating those leaves 18 candidates.
So far, so good. Most of the 18 have fallen hard in recent quarters and now have prices that are 1-2 Standard Deviations below trendline (see Column M in the Table). The BMW Method sorts out “risk” statistically by predicting the extent of loss below trendline that you can expect in a bear market (see Column N in the Table). The abundance of red highlights in that Column denotes stocks predicted to exhibit a greater loss below trendline than the S&P 500 Index faces, which is 32%. Every one of the 18 candidate stocks is highlighted in red, so they’re all unsuitable for a retirement portfolio. But what if you’re a speculator and willing to accept a loss of 40%? That’s a 25% greater loss than you’d suffer by owning an S&P 500 Index fund like VFINX. Even allowing for the added extra risk, only one of the 18 qualifies (ADM at Line 54 in the Table).
Given that commodity-related companies compose at least 10% of a balanced stock (or stock mutual fund) portfolio, we’ll need to dig deeper. For example, 23 of 56 such stocks listed in the Table are already in a bear market (see Column M), i.e., down 2 Standard Deviations (2SD) below their 16-yr trendline. Three of those companies have raised their dividend annually for at least the past 10 yrs (see a list of such Dividend Achievers in Column R of the Table) and have a statistical risk of loss in a bear market that is less than that for the S&P 500 Index (see Column N in the Table): CVX, XOM, PX. The odds that you’d lose money by starting to dollar-average into those stocks now are low.
Another approach is to dollar-average into low-cost mutual funds that reflect commodity investment, including emerging market index funds. There are 3 listed in the Benchmark section of the Table: 1) GSG, the exchange-traded fund for collateralized commodity futures; 2) PRNEX, the T Rowe Price New Era Fund that invests in natural resource stocks, and 3) VEIEX, the Vanguard index fund for emerging markets.
Bottom Line: The global economy faces a difficult period now that China’s fast growth phase has ended. Commodity-related assets are the first to crash, and that means commodity markets and commodity-related companies will be the first to recover. We’ve evaluated 56 commodity-related companies in the 2015 Barron’s 500 List to come up with 4 that are candidates for speculative investment: Archer Daniels Midland (ADM), Exxon Mobil (XOM), Chevron (CVX), and Praxair (PX).
Risk Rating: 8
Full Disclosure: Commodity-related stocks are “long-cycle” investments that I tend to favor, particularly those that are related to agricultural production. I dollar-average into XOM and also own shares of CVX, AA, HRL, ADM, DE, and DD.
Note: metrics highlighted in red denote underperformance relative to our key benchmark (VBINX); 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
What does this mean for investors? Basically, for the next one or two years, traders of all asset classes will be in a “risk-off” mode while governments, corporations, and individuals struggle to bring down their debt loads and develop ideas for growth. This cautionary stance will coincide with a bottoming of commodity prices as demand recovers while supplies moderate. The global “oil glut” is a special case, only marginally related to falling demand in China. Instead, it is due to a global “price war” triggered by an oversupply of oil related to improvements in technology, namely horizontal drilling into oil-rich shale deposits combined with hydraulic fracturing. And, oil prices may have further to fall.
Mission: Assess the effect on commodity-related companies of oversupply of commodities. Do this by evaluating all 56 such companies in the 2015 Barron’s 500 List that have at least 16 yrs of trading records.
Execution: This week’s spreadsheet (see Table) shows the carnage. Note the abundance of red highlights denoting underperformance relative to our key benchmark (VBINX at Line 73). Let’s start with a “thought experiment.” You’re looking for GARP (growth at a reasonable price), which will allow you to take advantage of sharply falling stock prices (see Column F in the Table). Let’s start by listing the companies that have moved up in rank compared to the 2014 Barron’s 500 List. Those are the ones with green highlights in Columns P and Q of the Table. Then pick those stocks that aren’t overpriced, i.e., the ones with an EV/EBITDA that is no greater than the EV/EBITDA for the S&P 500 Index (which is an EV/EBITDA of 11).
There are 10 candidates in the “oil & gas” group: HES, DVN, TSO, CAM, CHK, NOV, VLO, HAL, WFT, NBR. Two of those have been labelled “potentially underpriced” per the BMW Method (see Week 193): CHK and NOV (see Column O in the Table). There are 5 more candidates in the “basic materials” group: NUE, SCCO, CMC, X, AA and 6 candidates in the agriculture production group (ADM, POT, MOS, TSN, DOW, PPC). POT is another “potentially underpriced” stock. That totals 21 stocks. However, three of those failed to outperform the S&P 500 Index over the past 16 yrs (per the BMW Method: NBR, AA, PPC (see Column L in the Table). Eliminating those leaves 18 candidates.
So far, so good. Most of the 18 have fallen hard in recent quarters and now have prices that are 1-2 Standard Deviations below trendline (see Column M in the Table). The BMW Method sorts out “risk” statistically by predicting the extent of loss below trendline that you can expect in a bear market (see Column N in the Table). The abundance of red highlights in that Column denotes stocks predicted to exhibit a greater loss below trendline than the S&P 500 Index faces, which is 32%. Every one of the 18 candidate stocks is highlighted in red, so they’re all unsuitable for a retirement portfolio. But what if you’re a speculator and willing to accept a loss of 40%? That’s a 25% greater loss than you’d suffer by owning an S&P 500 Index fund like VFINX. Even allowing for the added extra risk, only one of the 18 qualifies (ADM at Line 54 in the Table).
Given that commodity-related companies compose at least 10% of a balanced stock (or stock mutual fund) portfolio, we’ll need to dig deeper. For example, 23 of 56 such stocks listed in the Table are already in a bear market (see Column M), i.e., down 2 Standard Deviations (2SD) below their 16-yr trendline. Three of those companies have raised their dividend annually for at least the past 10 yrs (see a list of such Dividend Achievers in Column R of the Table) and have a statistical risk of loss in a bear market that is less than that for the S&P 500 Index (see Column N in the Table): CVX, XOM, PX. The odds that you’d lose money by starting to dollar-average into those stocks now are low.
Another approach is to dollar-average into low-cost mutual funds that reflect commodity investment, including emerging market index funds. There are 3 listed in the Benchmark section of the Table: 1) GSG, the exchange-traded fund for collateralized commodity futures; 2) PRNEX, the T Rowe Price New Era Fund that invests in natural resource stocks, and 3) VEIEX, the Vanguard index fund for emerging markets.
Bottom Line: The global economy faces a difficult period now that China’s fast growth phase has ended. Commodity-related assets are the first to crash, and that means commodity markets and commodity-related companies will be the first to recover. We’ve evaluated 56 commodity-related companies in the 2015 Barron’s 500 List to come up with 4 that are candidates for speculative investment: Archer Daniels Midland (ADM), Exxon Mobil (XOM), Chevron (CVX), and Praxair (PX).
Risk Rating: 8
Full Disclosure: Commodity-related stocks are “long-cycle” investments that I tend to favor, particularly those that are related to agricultural production. I dollar-average into XOM and also own shares of CVX, AA, HRL, ADM, DE, and DD.
Note: metrics highlighted in red denote underperformance relative to our key benchmark (VBINX); 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
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