Situation: Most of us are of two minds when we invest. Sometimes we might speculate with “pin money” but mostly we make prudent decisions. Seasoned investors know when they’ve crossed that border (“here be dragons”). In the 19th century, the designation of “capitalist” was a synonym for “gambler”, and that idea still has a following.
Here we need to be more specific, since it is clearly imprudent to gamble with retirement savings. That is why we start most of our blogs by focusing on Dividend Achievers, companies that have increased their dividend annually for at least the past 10 yrs. Those “shareholder friendly” companies are constrained by having to always pay a good and growing dividend. (Any company run by someone as astute as Warren Buffett wouldn’t want to liquidate itself a little at a time.) But the shareholder is better served by having her capital returned piecemeal, rather than in a lump sum 10 yrs later when she sells her stock. For an explanation of why it is better to record 20-30% of your gains early on, read up on Net Present Value.
So, our definition of gambling is to invest in a company whose stock shows greater volatility than the S&P 500 Index over at least 16 yrs. Those stocks are denoted by a red highlight in Column M of our tables.
Mission: Develop a spreadsheet of growth companies that are high-quality Dividend Achievers with clean Balance Sheets, yet their stock has been more volatile than the S&P 500 Index over the past 16 yrs, as determined by a “least squares” distribution of their weekly price points (see Table).
Execution: Column M denotes the statistically predicted loss that would occur if prices fall 2 Standard Deviations below trendline. If the predicted loss for a particular company’s stock is more than the predicted loss for the S&P 500 Index (currently 30%), we highlight that number in red. Most of the Dividend Achievers from the 4 S&P Defensive Industries are not highlighted in red, whereas, most Dividend Achievers in the 6 S&P Growth Industries are, indicating that a greater loss is likely in the next Bear Market. Those industries are: Financial Services, Information Technology, Consumer Discretionary, Industrials, Basic Materials, and Energy.
Bottom Line: You don’t want to “get in over your head” when investing for retirement. So, you need a clear marker of when that is likely to happen. But if you’re like most investors, you want to gamble with a small fraction of your investments, i.e., those outside your retirement plan. Why? Because greater volatility is the source of high returns as well as deep losses. So, you don’t want to “buy and hold” these stocks. Instead, you’ll want to close out your position at some point. When would that be? There are no rules. You just have to decide when the market in that stock is becoming a “crowded trade." Then you should sell, or make a trade that offsets your risk. If you conclude that the company will prevail over competitors in the long run, you can offset the risk of a 50% collapse in the stock’s price by dollar-cost averaging, which is to invest a fixed amount each month online regardless of market fluctuations. That way, you get twice as many shares per dollar invested whenever the price falls by 50%. I learned that lesson the hard way, after I stopped dollar-averaging $200/mo into McDonald’s stock (MCD) in 2003 when the price fell below $10/sh.
Risk Rating: 8 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into MSFT and hold shares in ROST, TJX, and CAT.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 20 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 10-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 30 in the Table. The ETF for that index is MDY at Line 19.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 29
Sunday, January 22
Week 291 - Back-up Your Rainy Day Fund With A-rated Defensive Stocks That Are Dividend Achievers With Clean Balance Sheets
Situation: After retirement, you’ll have a stream of fixed income, ideally from several sources, namely annuities, a pension or Reverse Mortgage, Social Security, an IRA, a 401(k) or 403(b), and RMDs (Required Minimum Distributions) on any of those you haven’t converted to annuities. For 30-40% of you, Social Security and perhaps a Reverse Mortgage will be the extent of your retirement income. You’ll budget that income, perhaps with the help of Food Stamps. But also need to have an FDIC-insured Savings Account for emergencies. That Rainy Day Fund will be eroded by inflation, travel, and non-recurring capital expenditures, mainly co-payments and deductibles on your health insurance. To keep ahead of inflation, we recommend that you stuff your Rainy Day Fund with Inflation-Protected Savings Bonds (ISBs), which currently yield 2.76%. You can cash those bonds in after 5 yrs without incurring a penalty, but would lose only one interest payment if you were to cash in earlier.
The money you take out of your Rainy Day Fund has to be replaced, so as to have at least a one-year year buffer, i.e., in order to keep it from disappearing. Those replacement dollars will have to come from a part-time job, renting out a room in your house, or severe budgeting. But there is a better way, which is to arrange (before you retire) to have a growing income. To help achieve this, back up your Rainy Day Fund by investing in “defensive” stocks, using the cheapest way possible, which is to purchase shares online and use “dollar-cost averaging” via automatic withdrawals from your checking account--into stocks of one or two companies among S&P’s defensive industries. These are: Health Care, Utilities, Consumer Staples, and Telecommunication Services.
Mission: Set up a spreadsheet of A-rated Dividend Achievers in the 4 S&P defensive industries.
Administration: This week’s Table has 8 such Dividend Achievers, and the shares of all but Procter & Gamble (PG) and McCormick (MKC) can be purchased from Computershare; PG and MKC shares are offered by Wells & Fargo. The annual cost of investing $100/mo online in each is shown in Column AB of the Table. The average cost for investing $1200/yr in monthly installments is $8.00, giving an Expense Ratio of 0.67% (8/1200). There are also exchange-traded funds (ETFs) available for each S&P Industry but those would need to be purchased through a broker. The average dividend yield for all 8 is a little less than 3% (see Column G in the Table), and the average long-term price appreciation of the stocks is ~9.5% (see Column K in the Table). All 8 have less risk of loss in the next Bear Market than the S&P 500 Index (see Column M in the Table).
Bottom Line: After you retire, your only sources of income growth are Social Security and dividend-paying stocks. The best way to safely capture dividend growth is to invest in a low-cost managed mutual fund like Vanguard Wellesley Income Fund (VWINX), where the managers mainly use safe bonds but thread in dividend-paying stocks to represent 30-40% of assets. The next best way is to have a computer hold stocks at 60% and bonds at 40%, e.g. the Vanguard Balanced Index Fund (VBINX). Finally, if you have the time and interest, pick relatively safe “defensive” stocks on the basis of dividend growth (see Column H in the Table) and historically low volatility (see Column M in the Table). Today’s blog focuses on that option.
Risk Rating: 4 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into PG, JNJ and NEE, and also own shares of KO, WMT, ABT and MKC.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 17 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 16-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 31 in the Table. The ETF for that index is MDY at Line 17.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
The money you take out of your Rainy Day Fund has to be replaced, so as to have at least a one-year year buffer, i.e., in order to keep it from disappearing. Those replacement dollars will have to come from a part-time job, renting out a room in your house, or severe budgeting. But there is a better way, which is to arrange (before you retire) to have a growing income. To help achieve this, back up your Rainy Day Fund by investing in “defensive” stocks, using the cheapest way possible, which is to purchase shares online and use “dollar-cost averaging” via automatic withdrawals from your checking account--into stocks of one or two companies among S&P’s defensive industries. These are: Health Care, Utilities, Consumer Staples, and Telecommunication Services.
Mission: Set up a spreadsheet of A-rated Dividend Achievers in the 4 S&P defensive industries.
Administration: This week’s Table has 8 such Dividend Achievers, and the shares of all but Procter & Gamble (PG) and McCormick (MKC) can be purchased from Computershare; PG and MKC shares are offered by Wells & Fargo. The annual cost of investing $100/mo online in each is shown in Column AB of the Table. The average cost for investing $1200/yr in monthly installments is $8.00, giving an Expense Ratio of 0.67% (8/1200). There are also exchange-traded funds (ETFs) available for each S&P Industry but those would need to be purchased through a broker. The average dividend yield for all 8 is a little less than 3% (see Column G in the Table), and the average long-term price appreciation of the stocks is ~9.5% (see Column K in the Table). All 8 have less risk of loss in the next Bear Market than the S&P 500 Index (see Column M in the Table).
Bottom Line: After you retire, your only sources of income growth are Social Security and dividend-paying stocks. The best way to safely capture dividend growth is to invest in a low-cost managed mutual fund like Vanguard Wellesley Income Fund (VWINX), where the managers mainly use safe bonds but thread in dividend-paying stocks to represent 30-40% of assets. The next best way is to have a computer hold stocks at 60% and bonds at 40%, e.g. the Vanguard Balanced Index Fund (VBINX). Finally, if you have the time and interest, pick relatively safe “defensive” stocks on the basis of dividend growth (see Column H in the Table) and historically low volatility (see Column M in the Table). Today’s blog focuses on that option.
Risk Rating: 4 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into PG, JNJ and NEE, and also own shares of KO, WMT, ABT and MKC.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 17 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 16-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 31 in the Table. The ETF for that index is MDY at Line 17.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Week 290 - Farm Tractors
Situation: The “green revolution” started in the 1920s with the introduction of mechanization to agriculture. Tractors replaced mules, along with large cadres of farm workers. After 100 years of improvements, tractors have evolved into internet laboratories designed to optimize crop yields, and fitted-out like a home-office. Competition is fierce, with tricked-out models costing 10 times more than basic tractor models. Dealerships for those basic models, like the Mahindra Tractor made in India, are starting to pop up in the US. Remember that manufacturer’s name because it’s the top-selling tractor worldwide. However, there will soon be an even more stripped-down model coming to market, one built in Cuba by an American company (Cleber), named the Oggun 1.0, to be priced at $10,000.
Mission: Standard spreadsheet to lay out important metrics to consider before buying stock in one of the main tractor companies. Detail performance of commodity futures and the Dow Jones Commodity Index, and combine that with earnings projections for tractor and combine producers.
Execution: see Table.
Administration: Deere’s most recent quarterly results: year-over-year (y-o-y) declines in both profit and revenues but both beat projection and both are projected to be down less in 2017.
Caterpillar’s most recent quarterly results: y-o-y declines for both revenues and profit; missed projections for both; downgraded revenue and profit projections for FY16.
CNH Industrial’s most recent quarterly results: y-o-y decline in revenues but y-o-y increase in profit; full year guidance “reaffirmed.” Interestingly, I live near a CNH Industrial plant at Grand Island, NE, that produces New Holland combines. The plant has been idled for the past 2 yrs but recently started running one shift. New Holland combines are going onto flatbed trucks at the rate of several a day.
AGCO’s most recent quarterly results: showed slight improvement y-o-y in revenues but a 90% fall in profits: “Lower global demand for farm equipment is expected to continue to negatively impact AGCO’s sales and earnings in 2016.”
Kubota’s most recent results: revenue fell 5.9% in the first 9 months of 2016 vs. 2015.
Commodity futures (see Lines 19-22 in the Table) document a strong negative trend in pricing for corn, soybean, wheat, and beef contracts over the past 5 yrs, likely due to overproduction that has resulted from favorable weather and the buildout of “precision agriculture” technology.
Bottom Line: Incomes for both farmers and ranchers have been falling worldwide because of an increase in the efficiency of production (“precision agriculture”), and favorable weather from “El Nino." El Nino will soon be replaced by La Nina, which will likely result in drier conditions. Farmers may then have the resources to buy up-to-date machinery. Actually, they’ve already started. And, the Dow Jones Commodity Index has resumed its upward trend after recently bouncing off the low set in 1999. But you should read the fine print!
caveat emptor: Five sectors support agricultural production: a) farm machinery (e.g. tractors and combines); b) fertilizers that replenish nitrogen, phosphorus, and potash in the soil; c) chemicals that insure a good crop yield, in terms of bushels per acre (herbicides, fungicides, and insecticides); d) transportation assets (trucks, highways, and railroads); e) financial services (short-term loans, mortgages, and commodity markets based on brokerages, which are regulated in the U.S. by the Commodity Futures Trading Commission). Worldwide weather patterns introduce an element of uncertainty that affects companies in all 5 sectors. When investors buy stocks issued by those companies, they have to allow for an extra dose volatility. So, which sectors are least impacted by weather? Probably the transportation sector, railroads in particular: Those monopolies are sanctioned and regulated by the government to be certain that their profits will be large enough to ensure adequate and safe maintenance of tracks and yards. Railroads also have clients other than commodity producers, which dilutes risk of loss from weather-related events.
Risk Rating: 7 (where 10-Yr Treasury Notes = 1, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I own shares of Caterpillar (CAT at Line 3 in the Table) and offset that risk by owning shares of Union Pacific (UNP at Line 9 in the Table).
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 13 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 16-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 26 in the Table. The ETF for that index is MDY at Line 12.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Standard spreadsheet to lay out important metrics to consider before buying stock in one of the main tractor companies. Detail performance of commodity futures and the Dow Jones Commodity Index, and combine that with earnings projections for tractor and combine producers.
Execution: see Table.
Administration: Deere’s most recent quarterly results: year-over-year (y-o-y) declines in both profit and revenues but both beat projection and both are projected to be down less in 2017.
Caterpillar’s most recent quarterly results: y-o-y declines for both revenues and profit; missed projections for both; downgraded revenue and profit projections for FY16.
CNH Industrial’s most recent quarterly results: y-o-y decline in revenues but y-o-y increase in profit; full year guidance “reaffirmed.” Interestingly, I live near a CNH Industrial plant at Grand Island, NE, that produces New Holland combines. The plant has been idled for the past 2 yrs but recently started running one shift. New Holland combines are going onto flatbed trucks at the rate of several a day.
AGCO’s most recent quarterly results: showed slight improvement y-o-y in revenues but a 90% fall in profits: “Lower global demand for farm equipment is expected to continue to negatively impact AGCO’s sales and earnings in 2016.”
Kubota’s most recent results: revenue fell 5.9% in the first 9 months of 2016 vs. 2015.
Commodity futures (see Lines 19-22 in the Table) document a strong negative trend in pricing for corn, soybean, wheat, and beef contracts over the past 5 yrs, likely due to overproduction that has resulted from favorable weather and the buildout of “precision agriculture” technology.
Bottom Line: Incomes for both farmers and ranchers have been falling worldwide because of an increase in the efficiency of production (“precision agriculture”), and favorable weather from “El Nino." El Nino will soon be replaced by La Nina, which will likely result in drier conditions. Farmers may then have the resources to buy up-to-date machinery. Actually, they’ve already started. And, the Dow Jones Commodity Index has resumed its upward trend after recently bouncing off the low set in 1999. But you should read the fine print!
caveat emptor: Five sectors support agricultural production: a) farm machinery (e.g. tractors and combines); b) fertilizers that replenish nitrogen, phosphorus, and potash in the soil; c) chemicals that insure a good crop yield, in terms of bushels per acre (herbicides, fungicides, and insecticides); d) transportation assets (trucks, highways, and railroads); e) financial services (short-term loans, mortgages, and commodity markets based on brokerages, which are regulated in the U.S. by the Commodity Futures Trading Commission). Worldwide weather patterns introduce an element of uncertainty that affects companies in all 5 sectors. When investors buy stocks issued by those companies, they have to allow for an extra dose volatility. So, which sectors are least impacted by weather? Probably the transportation sector, railroads in particular: Those monopolies are sanctioned and regulated by the government to be certain that their profits will be large enough to ensure adequate and safe maintenance of tracks and yards. Railroads also have clients other than commodity producers, which dilutes risk of loss from weather-related events.
Risk Rating: 7 (where 10-Yr Treasury Notes = 1, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I own shares of Caterpillar (CAT at Line 3 in the Table) and offset that risk by owning shares of Union Pacific (UNP at Line 9 in the Table).
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 13 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 3-Yr CAGR found at Column H. Price Growth Rate is the 16-Yr CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning shares in a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 26 in the Table. The ETF for that index is MDY at Line 12.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 15
Week 289 - Don't Leave Federal "Tax Expenditures" On The Table
Situation: There are 5 Federal government programs that can reduce your cost of living in retirement. You need to learn about these and take advantage of them whenever you are likely to benefit.
Program #1: The Social Security Act of 1935: You need to decide when to retire, because each year you delay results in an 8% larger Social Security check. You also need to brush up on other aspects of The Social Security Act that apply to you or your family. If you and your husband are divorced, and you’ve never remarried, you may still be eligible for some additional benefits. Check out the SSA website for answers to questions, and visit your nearest SSA office to get the help that you might need.
Program #2: Social Security Act Amendments of 1965 (Medicare): When you enroll in Medicare at age 65, you’ll have the option of taking out private “MediGap” insurance, which is supervised by your state government, or enrolling in Part C, which is a private “Medicare Advantage” plan that is a Federally-managed and “capped” supplement encompassing Parts A and B of Medicare.
Program #3: The Housing and Community Development Act of 1987 provides insurance for FHA Home Equity Conversion Mortgages (HECM), known as “reverse mortgages”. More than 3/4ths of the average retirees’ net worth is tied up in home equity, with other sources averaging ~$45,000 for Americans in the 65 to 69 year age group. By following the 4% Rule, the average American can only spend $150/mo of that “nest egg” to supplement her income from Social Security. To keep up with the myriad expenses of home ownership, she’ll have to decide whether to get a part-time job, sell her house, rent out part of it, or enter into a reverse mortgage. “Reverse mortgages are increasing in popularity with seniors who have equity in their homes and want to supplement their income. The only reverse mortgage insured by the U.S. Federal Government is called a Home Equity Conversion Mortgage or HECM, and is only available through an FHA approved lender.” But there is evidence that the average American is preparing better for retirement: As of 2015, those between the ages of 55 and 64 had saved an average of $104,000 according to the Government Accountability Office, which means $217/mo could be spent without eliminating that nest egg.
Program #4: The Cigar Excise Tax Extension Act of 1960 provides the legal framework for Real Estate Investment Trusts or REITs. This law does not create a tax expenditure (subsidy). Instead, it raises more revenue by creating an incentive for investors to move their money into real estate. That indirectly helps to reduce your cost of living at an extended care facility, when you can no longer live independently. Unless you are well off, you won’t be able to afford private long-term care insurance, and Federally subsidized long-term care insurance is only available to retired Federal employees. REITs are a partial solution, because they free real estate companies from paying Federal taxes, leaving investors with the obligation to pay that tax. REITs are similar to mutual funds except that they’re required to pay at least 90% of their income to investors, as dividends. Those dividends are attractive enough that REITs now have a large following among investors. Many “nursing homes” and extended care facilities are REITs. Retirees benefit from the capitalization structure of healthcare REITs, but investors who can tolerate a “roller-coaster ride” also come out ahead.
Program #5: The Food Stamp Act of 1964: Your next decision is whether or not to apply for food stamps. If you have no other source of income than Social Security, you are definitely eligible.
Mission: Set up a spreadsheet of ways an investor might invest in some of the public-private partnerships listed above, including health insurance companies that offer MediGap and Medicare Advantage plans. Pay particular attention to healthcare REITs.
Execution: see Table.
Bottom Line: Once you retire, your annual income will not keep up with inflation. With each passing year, you’ll become a little more watchful of spending and a little more likely to search out discounts. You’ll start to inquire about Federal programs that are particularly helpful to retirees, e.g. Food Stamps. We’ve listed 5 Federal programs that benefit retirees; you should become conversant in these before you retire. We have also listed 6 companies in the Table; 3 are healthcare REITs and 3 are large insurance companies with MediGap or Medicare Advantage plans. All 6 are high-risk high-reward businesses.
Risk Rating: 7 (where US Treasuries = 10, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I don’t own shares in any of the 6 companies listed in the Table, but am looking to buy shares in the only “blue chip” (Dow Jones Industrial Average company): UnitedHealth Group (UNH).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Program #1: The Social Security Act of 1935: You need to decide when to retire, because each year you delay results in an 8% larger Social Security check. You also need to brush up on other aspects of The Social Security Act that apply to you or your family. If you and your husband are divorced, and you’ve never remarried, you may still be eligible for some additional benefits. Check out the SSA website for answers to questions, and visit your nearest SSA office to get the help that you might need.
Program #2: Social Security Act Amendments of 1965 (Medicare): When you enroll in Medicare at age 65, you’ll have the option of taking out private “MediGap” insurance, which is supervised by your state government, or enrolling in Part C, which is a private “Medicare Advantage” plan that is a Federally-managed and “capped” supplement encompassing Parts A and B of Medicare.
Program #3: The Housing and Community Development Act of 1987 provides insurance for FHA Home Equity Conversion Mortgages (HECM), known as “reverse mortgages”. More than 3/4ths of the average retirees’ net worth is tied up in home equity, with other sources averaging ~$45,000 for Americans in the 65 to 69 year age group. By following the 4% Rule, the average American can only spend $150/mo of that “nest egg” to supplement her income from Social Security. To keep up with the myriad expenses of home ownership, she’ll have to decide whether to get a part-time job, sell her house, rent out part of it, or enter into a reverse mortgage. “Reverse mortgages are increasing in popularity with seniors who have equity in their homes and want to supplement their income. The only reverse mortgage insured by the U.S. Federal Government is called a Home Equity Conversion Mortgage or HECM, and is only available through an FHA approved lender.” But there is evidence that the average American is preparing better for retirement: As of 2015, those between the ages of 55 and 64 had saved an average of $104,000 according to the Government Accountability Office, which means $217/mo could be spent without eliminating that nest egg.
Program #4: The Cigar Excise Tax Extension Act of 1960 provides the legal framework for Real Estate Investment Trusts or REITs. This law does not create a tax expenditure (subsidy). Instead, it raises more revenue by creating an incentive for investors to move their money into real estate. That indirectly helps to reduce your cost of living at an extended care facility, when you can no longer live independently. Unless you are well off, you won’t be able to afford private long-term care insurance, and Federally subsidized long-term care insurance is only available to retired Federal employees. REITs are a partial solution, because they free real estate companies from paying Federal taxes, leaving investors with the obligation to pay that tax. REITs are similar to mutual funds except that they’re required to pay at least 90% of their income to investors, as dividends. Those dividends are attractive enough that REITs now have a large following among investors. Many “nursing homes” and extended care facilities are REITs. Retirees benefit from the capitalization structure of healthcare REITs, but investors who can tolerate a “roller-coaster ride” also come out ahead.
Program #5: The Food Stamp Act of 1964: Your next decision is whether or not to apply for food stamps. If you have no other source of income than Social Security, you are definitely eligible.
Mission: Set up a spreadsheet of ways an investor might invest in some of the public-private partnerships listed above, including health insurance companies that offer MediGap and Medicare Advantage plans. Pay particular attention to healthcare REITs.
Execution: see Table.
Bottom Line: Once you retire, your annual income will not keep up with inflation. With each passing year, you’ll become a little more watchful of spending and a little more likely to search out discounts. You’ll start to inquire about Federal programs that are particularly helpful to retirees, e.g. Food Stamps. We’ve listed 5 Federal programs that benefit retirees; you should become conversant in these before you retire. We have also listed 6 companies in the Table; 3 are healthcare REITs and 3 are large insurance companies with MediGap or Medicare Advantage plans. All 6 are high-risk high-reward businesses.
Risk Rating: 7 (where US Treasuries = 10, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I don’t own shares in any of the 6 companies listed in the Table, but am looking to buy shares in the only “blue chip” (Dow Jones Industrial Average company): UnitedHealth Group (UNH).
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 8
Week 288 - Don’t Leave Money On The Table
Situation: This phrase originated with poker players. It speaks volumes and quickly came to be adopted first by the financial community, and now the First Lady. It means that you need to become aware of all the available ways to meet your goals, then find a path forward that is most worthwhile and comes with the least risk of damaging your finances. Yes, that requires you to surf the web for hours and talk with experts. But if your daughter is college-bound, you’d better help her apply for available scholarships and teach her how to draw up a “term list” for available loans. Make an appointment with her high school guidance counselor, then visit colleges with her.
The risk:reward ratio for the stock market isn’t as good as the bond market’s, but the bond market is considerably more opaque to the retail investor, and can only teach you how to grow your money slowly. The transparency of publicly-traded corporate stocks, combined with their being the most rewarding asset class, means that stocks will have to dominate your retirement savings (if you start late). There is enough information available on the internet that you can try for a long-term return of 9% a year. How? By investing in A-rated stocks that have been appreciating that fast for the past 25 yrs. If you are afraid of owning stock in such companies, that’s understandable, given that most would lose more than an S&P 500 Index fund in a market crash (see Column N in the Table). You can likely achieve a 9%/yr return at less risk by doing something as simple as dollar-averaging into the S&P 400 MidCap Index ETF (MDY), or Berkshire Hathaway (BRK-B) which is an agglomeration of over 100 mostly Mid Cap companies.
Mission: Apply the 9% rule to the Dow Jones Composite Index (65 stocks) and the S&P 100 Index.
Execution: The companies we look at have a 9% trendline rate of price appreciation, meaning a Compound Annual Growth Rate (CAGR) calculated by the “least squares” method from weekly price points over the past 25 yrs. Stocks with a recent price trend that is two standard deviations above or below the trendline price are excluded, since there is no way to confidently predict that prices will return to the trendline. All companies are required to have at least an A- credit rating from S&P and at least an A-/M stock rating. The ratio of long-term debt to total assets cannot exceed 33% (see Column N in the Table). Tangible book value per share must be no less than -6%, which is the rate for Procter & Gamble (see Column O in the Table). Dividends over the past 6 months must have been paid from free cash flow (Div/FCF as noted in Column P of the Table).
Administration: The main competition that corporate stocks face comes from corporate bonds of similar risk, which are bonds rated at the lowest “investment grade” level, i.e., below Standard & Poor’s BBB+ rating or Moody’s Baa1 rating. But bonds (or bond funds) with that rating don’t pay even half the 9% you stand to gain from well-research stocks issued by the largest corporations. For example, the interest rate for the average Moody’s US Baa corporate bond on 11/15/16 was 4.36%. Paybacks to stock investors, in the form of dividends and/or share repurchases, tend to track that Baa rate. When you own such a bond, the interest payment is made every 6 months (i.e., 2.18% of the amount you invested) and that check will reliably show up in your mailbox until the bond matures.
Contrast that to the situation for high quality stocks in our Table, which have appreciated in price at least 9%/yr over the past 25 yrs (see Column K in the Table). Those had total returns of only 2.4%/yr during the 4.5 year Housing Crisis (see Column D in the Table), even though their total returns averaged ~10%/yr over the past 16 yrs, a period that included two severe recessions (see Column C in the Table). You get the picture, which is that you’ll have to own stocks and endure volatility if you waited until age 50 to start putting 15%/yr of your salary into a retirement plan. But if you had started saving that much at age 30, you could have taken a middle road, one where you would stand to double your money every 10 yrs (i.e., get a 7.2%/yr return), and do so with less risk, by investing in a low-cost bond-heavy mutual fund like the Vanguard Wellesley Income Fund (VWINX), which returned 4.9%/yr during the 4.5 year Housing Crisis (see Line 21 in the Table).
Bottom Line: Get out your pencil sharpener and green eyeshade, because making money from stocks is a lot of trouble. To simplify that task, stick with stocks issued by the largest corporations. Or, if you lack the time or interest to become a closet financier, invest in index funds that are composed of stocks issued by smaller corporations. Why a Mid Cap index fund? Because to get the 9%/yr price appreciation that is typical of Mid Cap growth stocks, without incurring their much greater risk of bankruptcy, you’ll need to hold positions in hundreds.
Risk Rating: 6 (where 10-yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into 6 stocks in the Table (UNP, NKE, JNJ, NEE, MSFT, PG), and own shares in 6 others (CAT, MMM, HON, GD, WMT, EMR).
NOTE: Net Present Value serves a valuable purpose, in that the calculation brings together the effects of dividend yield, dividend growth, and capital appreciation--while deducting 9%/yr from the dollars contributed by each of those cash flows. A positive NPV number means you’re not leaving money on the table--as long as you’re unable to find a safer investment that more reliably pays 10%/yr long-term. NPV is a retrospective analysis. If dividend growth were to fall below the trendline established over the past 10 years, NPV would go down. If price appreciation were to fall below the trendline established over the past 25 years, NPV would go down. But if increases were to develop in either, the Net Present Value of an investment made today would increase. The trick is to confine your attention to companies that have a clean Balance Sheet (see Columns N-P in the Table). But you also need to try balancing your stock picks across all 10 S&P Industries--to avoid the considerable risk that comes from selection bias.
Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 24 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H. Price Growth Rate is the 25-Yr trendline (“least squares”) CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 29 in the Table. The ETF for that index is MDY at Line 23.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
The risk:reward ratio for the stock market isn’t as good as the bond market’s, but the bond market is considerably more opaque to the retail investor, and can only teach you how to grow your money slowly. The transparency of publicly-traded corporate stocks, combined with their being the most rewarding asset class, means that stocks will have to dominate your retirement savings (if you start late). There is enough information available on the internet that you can try for a long-term return of 9% a year. How? By investing in A-rated stocks that have been appreciating that fast for the past 25 yrs. If you are afraid of owning stock in such companies, that’s understandable, given that most would lose more than an S&P 500 Index fund in a market crash (see Column N in the Table). You can likely achieve a 9%/yr return at less risk by doing something as simple as dollar-averaging into the S&P 400 MidCap Index ETF (MDY), or Berkshire Hathaway (BRK-B) which is an agglomeration of over 100 mostly Mid Cap companies.
Mission: Apply the 9% rule to the Dow Jones Composite Index (65 stocks) and the S&P 100 Index.
Execution: The companies we look at have a 9% trendline rate of price appreciation, meaning a Compound Annual Growth Rate (CAGR) calculated by the “least squares” method from weekly price points over the past 25 yrs. Stocks with a recent price trend that is two standard deviations above or below the trendline price are excluded, since there is no way to confidently predict that prices will return to the trendline. All companies are required to have at least an A- credit rating from S&P and at least an A-/M stock rating. The ratio of long-term debt to total assets cannot exceed 33% (see Column N in the Table). Tangible book value per share must be no less than -6%, which is the rate for Procter & Gamble (see Column O in the Table). Dividends over the past 6 months must have been paid from free cash flow (Div/FCF as noted in Column P of the Table).
Administration: The main competition that corporate stocks face comes from corporate bonds of similar risk, which are bonds rated at the lowest “investment grade” level, i.e., below Standard & Poor’s BBB+ rating or Moody’s Baa1 rating. But bonds (or bond funds) with that rating don’t pay even half the 9% you stand to gain from well-research stocks issued by the largest corporations. For example, the interest rate for the average Moody’s US Baa corporate bond on 11/15/16 was 4.36%. Paybacks to stock investors, in the form of dividends and/or share repurchases, tend to track that Baa rate. When you own such a bond, the interest payment is made every 6 months (i.e., 2.18% of the amount you invested) and that check will reliably show up in your mailbox until the bond matures.
Contrast that to the situation for high quality stocks in our Table, which have appreciated in price at least 9%/yr over the past 25 yrs (see Column K in the Table). Those had total returns of only 2.4%/yr during the 4.5 year Housing Crisis (see Column D in the Table), even though their total returns averaged ~10%/yr over the past 16 yrs, a period that included two severe recessions (see Column C in the Table). You get the picture, which is that you’ll have to own stocks and endure volatility if you waited until age 50 to start putting 15%/yr of your salary into a retirement plan. But if you had started saving that much at age 30, you could have taken a middle road, one where you would stand to double your money every 10 yrs (i.e., get a 7.2%/yr return), and do so with less risk, by investing in a low-cost bond-heavy mutual fund like the Vanguard Wellesley Income Fund (VWINX), which returned 4.9%/yr during the 4.5 year Housing Crisis (see Line 21 in the Table).
Bottom Line: Get out your pencil sharpener and green eyeshade, because making money from stocks is a lot of trouble. To simplify that task, stick with stocks issued by the largest corporations. Or, if you lack the time or interest to become a closet financier, invest in index funds that are composed of stocks issued by smaller corporations. Why a Mid Cap index fund? Because to get the 9%/yr price appreciation that is typical of Mid Cap growth stocks, without incurring their much greater risk of bankruptcy, you’ll need to hold positions in hundreds.
Risk Rating: 6 (where 10-yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into 6 stocks in the Table (UNP, NKE, JNJ, NEE, MSFT, PG), and own shares in 6 others (CAT, MMM, HON, GD, WMT, EMR).
NOTE: Net Present Value serves a valuable purpose, in that the calculation brings together the effects of dividend yield, dividend growth, and capital appreciation--while deducting 9%/yr from the dollars contributed by each of those cash flows. A positive NPV number means you’re not leaving money on the table--as long as you’re unable to find a safer investment that more reliably pays 10%/yr long-term. NPV is a retrospective analysis. If dividend growth were to fall below the trendline established over the past 10 years, NPV would go down. If price appreciation were to fall below the trendline established over the past 25 years, NPV would go down. But if increases were to develop in either, the Net Present Value of an investment made today would increase. The trick is to confine your attention to companies that have a clean Balance Sheet (see Columns N-P in the Table). But you also need to try balancing your stock picks across all 10 S&P Industries--to avoid the considerable risk that comes from selection bias.
Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 24 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H. Price Growth Rate is the 25-Yr trendline (“least squares”) CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 29 in the Table. The ETF for that index is MDY at Line 23.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, January 1
Week 287 - Learn To Earn 9%/yr From Stocks Long-term
Situation: It is not difficult to pick 6 defensive stocks that will earn 6%/yr long-term (see Week 269). But try to pick 6 diversified stocks that will earn 9%/yr long-term without scaring you half to death. That is an order of magnitude more difficult but can be accomplished. Along the way, you’ll learn how not to “leave money on the table.”
Mission: Produce a spreadsheet that incorporates key tactics for picking stocks, limiting the sample to stocks in the S&P 100 Index that 1) had total returns/yr of at least 9% over the past 16 and 25 yr stretches; 2) had total returns/yr of at least 0% during the Housing Crisis (4/07-10/11); 3) have at least a market yield (currently 1.9%); 4) have had dividend growth of at least 9%/yr over the past 5 yrs; 5) have had trendline (“least squares” method) price growth of at least 9%/yr over the past 25 yrs; 6) have a clean Balance Sheet, meaning that long-term debt is no greater than 1/3rd of total assets, the company has Tangible Book Value (barring temporary short-term indebtedness to complete an acquisition), and the company is able to pay dividends from Free Cash Flow; 7) the S&P rating on the company’s long-term debt is no lower than A-; 8) the S&P rating on the company’s stock is no lower than B+/M.
Execution: We find 6 companies that satisfy all requirements (see Table).
Administration: For efficacy, the key tools we use are to 1) select from a pool of “mega-cap” companies, specifically those in the S&P 100 Index because it has an important safety feature: efficient “price discovery” based on the requirement that listed companies actively trade put and call options at the Chicago Board Options Exchange (CBOE); 2) demonstrate that Net Present Value is a positive number when using a 9% Discount Rate and 10-yr Holding Period. For safety, our key tools are to 1) calculate 3 ratios for determining whether or not the company has a clean balance sheet, and 2) select from companies that have a market yield or better.
Bottom Line: Stock-picking at this level requires research time, focus, money, and enough discipline to avoid the two great dangers that Warren Buffett has identified: “I’ve seen more people fail because of liquor and leverage — leverage being borrowed money.” Getting a 9%/yr return over time is mainly about amortizing risk through diversification, which can be accomplished more safely and efficiently by dollar-averaging into a “Mid Cap Blend” index fund, like the SPDR MidCap 400 Index ETF (MDY), or Berkshire Hathaway (BRK-B) which is an agglomeration of 100 mostly Mid Cap companies. During the Housing Crisis (4/07-10/11), MDY and BRK-B had total returns/yr of -0.7% and -0.3%, respectively (see Column D in the Table).
Caveat: By “shooting for the moon” like this, you will hone your stock-picking skills but also lose a lot of money from time to time (at least on paper). In other words, you would be fully committing to market risk. So, start by regularly investing small amounts in MDY and BRK-B. Then pause to reassess. Move on to Blue Chip companies (i.e., the 30 companies in the Dow Jones Industrial Index) that carry low risk and almost meet our criteria, such as Procter & Gamble (PG at Line 11 in the Table), which only grows dividends 5.0%/yr. PG clears our other hurdles and has a positive NPV at the 9% discount rate (see Column Y in the Table).
Risk Rating: 6 (where 10-yr Treasuries = 1, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into UNP, PG, and NEE, and also own shares of AAPL, HON, CAT, and MMM.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 17 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years (no dividends collected in 10th year), Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 5-Yr CAGR found at Column H. Price Growth Rate is the 25-Yr trendline (“least squares”) CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 23 in the Table. The ETF for that index is MDY at Line 16.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Produce a spreadsheet that incorporates key tactics for picking stocks, limiting the sample to stocks in the S&P 100 Index that 1) had total returns/yr of at least 9% over the past 16 and 25 yr stretches; 2) had total returns/yr of at least 0% during the Housing Crisis (4/07-10/11); 3) have at least a market yield (currently 1.9%); 4) have had dividend growth of at least 9%/yr over the past 5 yrs; 5) have had trendline (“least squares” method) price growth of at least 9%/yr over the past 25 yrs; 6) have a clean Balance Sheet, meaning that long-term debt is no greater than 1/3rd of total assets, the company has Tangible Book Value (barring temporary short-term indebtedness to complete an acquisition), and the company is able to pay dividends from Free Cash Flow; 7) the S&P rating on the company’s long-term debt is no lower than A-; 8) the S&P rating on the company’s stock is no lower than B+/M.
Execution: We find 6 companies that satisfy all requirements (see Table).
Administration: For efficacy, the key tools we use are to 1) select from a pool of “mega-cap” companies, specifically those in the S&P 100 Index because it has an important safety feature: efficient “price discovery” based on the requirement that listed companies actively trade put and call options at the Chicago Board Options Exchange (CBOE); 2) demonstrate that Net Present Value is a positive number when using a 9% Discount Rate and 10-yr Holding Period. For safety, our key tools are to 1) calculate 3 ratios for determining whether or not the company has a clean balance sheet, and 2) select from companies that have a market yield or better.
Bottom Line: Stock-picking at this level requires research time, focus, money, and enough discipline to avoid the two great dangers that Warren Buffett has identified: “I’ve seen more people fail because of liquor and leverage — leverage being borrowed money.” Getting a 9%/yr return over time is mainly about amortizing risk through diversification, which can be accomplished more safely and efficiently by dollar-averaging into a “Mid Cap Blend” index fund, like the SPDR MidCap 400 Index ETF (MDY), or Berkshire Hathaway (BRK-B) which is an agglomeration of 100 mostly Mid Cap companies. During the Housing Crisis (4/07-10/11), MDY and BRK-B had total returns/yr of -0.7% and -0.3%, respectively (see Column D in the Table).
Caveat: By “shooting for the moon” like this, you will hone your stock-picking skills but also lose a lot of money from time to time (at least on paper). In other words, you would be fully committing to market risk. So, start by regularly investing small amounts in MDY and BRK-B. Then pause to reassess. Move on to Blue Chip companies (i.e., the 30 companies in the Dow Jones Industrial Index) that carry low risk and almost meet our criteria, such as Procter & Gamble (PG at Line 11 in the Table), which only grows dividends 5.0%/yr. PG clears our other hurdles and has a positive NPV at the 9% discount rate (see Column Y in the Table).
Risk Rating: 6 (where 10-yr Treasuries = 1, the S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-average into UNP, PG, and NEE, and also own shares of AAPL, HON, CAT, and MMM.
NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 17 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256: Briefly, Discount Rate = 9%, Holding Period = 10 years (no dividends collected in 10th year), Initial Cost = average stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 5-Yr CAGR found at Column H. Price Growth Rate is the 25-Yr trendline (“least squares”) CAGR found at Column K (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% approximates Total Returns/yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index at Line 23 in the Table. The ETF for that index is MDY at Line 16.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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