Situation: In recent weeks, we’ve seen how difficult it is for a stockpicker to beat the S&P 500 Index. But by selecting a number of stocks from a high quality list of 30 stocks with good and growing dividends, i.e., “The 2 and 8 Club” (see Week 329), you might meet that goal.
The downside is that you have to worry about risk-adjusted returns. After all, a low-cost S&P 500 Index fund has transaction costs of less than 0.2%/yr, and doesn’t confront you with capital gains taxes until you after you retire (when you’ll be in a lower tax bracket). As a stockpicker, your transaction costs will be at least 1% of Net Asset Value (NAV) each year. And, if you’re diligent about selling stocks whenever their 5-Yr dividend growth rate drops below 8%/yr, you’ll face a capital gains tax of ~1% of NAV because you’ll have real gains after almost every sale. That means you have to pick a discount rate (to project likely returns) that is 2%/yr higher than the discount rate for the S&P 500 Index, which is 7.0%/yr, since the 20-Yr total return for SPY (the SPDR S&P 500 Index ETF) is 7.0%/yr. That’s why we use a 9% Discount Rate when calculating Net Present Value (NPV) for columns V through Y in our Tables.
You’re chances of beating the S&P 500 Index in a risk-adjusted manner come down to two options: 1) pick only those stocks that have less volatility than the S&P 500 Index (see companies without red highlights in Column M in any of our Tables); 2) pick stocks issued by companies that have the most volatile earnings because those will outperform the S&P 500 Index by the widest margin when their industry is in a Bull Market. This week we’ll look at Commodity Producers, since that’s the highest risk industry outside real estate. Note: Real Estate stocks are excluded from our baseline index for “The 2 and 8 Club”, which is the FTSE High Dividend Yield Index.
Mission: Set up a spreadsheet limited to Commodity Producers in “The 2 and 8 Club”, because almost all of those have shown higher price volatility over the past 16 years than the S&P 500 Index per the BMW Method.
Execution: see the 12 companies in this week’s Table.
Administration: Starting with Commodity Producers in the FTSE High Dividend Yield Index that are also in the 2017 Barron’s 500 List, we exclude any that do not have an S&P credit rating of BBB (or better) and an S&P stock rating of B/M (or better). We also exclude any that do not have the 16 years of price data required for statistical analysis by the BMW Method.
Bottom Line: Commodity Producers have one thing in common. They’re inefficient deployers of capital (see Columns Z and AA in the Table). In other words, these companies fail to meet the standard metric for efficiency, which is that Return on Invested Capital (ROIC) is more than twice the Weighted Average Cost of Capital (WACC). Pulling stuff out of the ground almost always wastes capital at some point, unless there is an opportunity for combining a) Economies of Scale with b) oversight of each worksite by a Funds Administrator.
Note that 3 companies (ADM, APD, PX) in the 30-stock Extended Version of “The 2 and 8 Club” (see Week 329) are among the 12 companies that pass this week’s screen of Commodity Producers (see Table). Those 3 are the best place to start your research.
Risk Rating = 9, where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10.
Full Disclosure: I dollar-cost average into XOM and also own shares of CAT.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
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Sunday, November 26
Sunday, November 19
Week 333 - $175/wk For An IRA That Uses DRIPs Backed By Savings Bonds
Situation: If you don’t have a workplace retirement plan, then you most likely have concerns that you won’t have enough savings to support retirement. You should be able to replace at least 85% of your final year’s salary by withdrawing 4%/yr from your retirement savings, which amount is increased in subsequent years to allow for inflation. But the median Social Security payout only replaces 46% of median household income. If you don’t have a workplace retirement plan, you’ll have to set savings goals, eliminate non-mortgage debt, and start cutting costs long before retiring. For example, move to an apartment after your children finish high school.
Most of us don’t think about allocating money to Savings Bonds and an IRA until we’re 50. So, let’s be realistic. How much could you augment your retirement income by contributing the maximum $6500/yr starting at age 50 to an IRA consisting of Dividend ReInvestment Plans (DRIPs) for stocks, and backing that up by contributing $2600/yr to tax-deferred Inflation-protected Savings Bonds (ISBs). You’d be saving $175/wk ($9100/yr), which is 15% of median household income for 2016 ($59,039). This plan is approximately one part Treasury Bonds and 2 parts stocks. Over the past 20 years, the lowest-cost S&P 500 Index fund has returned 7.0%/yr. The lowest-cost intermediate-term investment-grade bond index fund (composed mainly of the same 7-10 year US Treasury Bonds used for ISBs) has returned 5.4%/yr. Overall return for the 2:1 private retirement plan would have been 6.5%/yr, but 2.1%/yr of that would have been lost to inflation.
Starting at age 50, IRA contributions of $6500/yr to stocks in a DRIP IRA, and ISB contributions of $2600/yr, would have built up a private retirement account worth $314,101 by the time you retire at age 67. Spending 4% of that in your first year of retirement would add $1047/mo to the $2260/mo provided by Social Security, if you and your spouse have a the 2016 median household income of $59,039. A complicated formula will determine your exact benefit, so start learning the basics.
Mission: Develop our standard spreadsheet for 6 DRIPs using stocks issued by companies in the FTSE High Dividend Yield Index, specifically those that grow dividends 8% or more per year. In other words, pick stocks from the Extended Version of “The 2 and 8 Club” (see Week 327 and Week 329).
Execution: (see Table).
Administration: To augment your Social Security income by using a private retirement account, you’ll need to build an IRA for stocks that is backed by Inflation-protected Savings Bonds (ISBs). Make sure your accountant declares to the Internal Revenue Service that 6 DRIPs above represent your IRA, noting that annual contributions to those will not exceed $6500/yr unless the US Treasury raises the contribution limit.
We have used high-quality stocks instead of index funds in our example above, given that index funds are now thought to carry the same risks as other derivatives.
Bottom Line: It is practically impossible for you to fund your retirement without contributing at least 15%/yr to a workplace retirement plan for 25+ years. The private retirement plan outlined above envisions contributing the maximum amount allowed for an IRA, supplemented by Savings Bonds, to channel 15% of your income into tax-deferred savings for the 17 years after you turn 50, which is when you can start making the largest annual contributions to your IRA. But if you’d started that plan 17 years ago (when you were 50), you’d now receive ~$1050/mo in your first year of retirement, which is less than half your Social Security check.
Risk Rating: 5 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold = 10).
Full Disclosure: I dollar-average into all 6 stocks, as well as ISBs.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Most of us don’t think about allocating money to Savings Bonds and an IRA until we’re 50. So, let’s be realistic. How much could you augment your retirement income by contributing the maximum $6500/yr starting at age 50 to an IRA consisting of Dividend ReInvestment Plans (DRIPs) for stocks, and backing that up by contributing $2600/yr to tax-deferred Inflation-protected Savings Bonds (ISBs). You’d be saving $175/wk ($9100/yr), which is 15% of median household income for 2016 ($59,039). This plan is approximately one part Treasury Bonds and 2 parts stocks. Over the past 20 years, the lowest-cost S&P 500 Index fund has returned 7.0%/yr. The lowest-cost intermediate-term investment-grade bond index fund (composed mainly of the same 7-10 year US Treasury Bonds used for ISBs) has returned 5.4%/yr. Overall return for the 2:1 private retirement plan would have been 6.5%/yr, but 2.1%/yr of that would have been lost to inflation.
Starting at age 50, IRA contributions of $6500/yr to stocks in a DRIP IRA, and ISB contributions of $2600/yr, would have built up a private retirement account worth $314,101 by the time you retire at age 67. Spending 4% of that in your first year of retirement would add $1047/mo to the $2260/mo provided by Social Security, if you and your spouse have a the 2016 median household income of $59,039. A complicated formula will determine your exact benefit, so start learning the basics.
Mission: Develop our standard spreadsheet for 6 DRIPs using stocks issued by companies in the FTSE High Dividend Yield Index, specifically those that grow dividends 8% or more per year. In other words, pick stocks from the Extended Version of “The 2 and 8 Club” (see Week 327 and Week 329).
Execution: (see Table).
Administration: To augment your Social Security income by using a private retirement account, you’ll need to build an IRA for stocks that is backed by Inflation-protected Savings Bonds (ISBs). Make sure your accountant declares to the Internal Revenue Service that 6 DRIPs above represent your IRA, noting that annual contributions to those will not exceed $6500/yr unless the US Treasury raises the contribution limit.
We have used high-quality stocks instead of index funds in our example above, given that index funds are now thought to carry the same risks as other derivatives.
Bottom Line: It is practically impossible for you to fund your retirement without contributing at least 15%/yr to a workplace retirement plan for 25+ years. The private retirement plan outlined above envisions contributing the maximum amount allowed for an IRA, supplemented by Savings Bonds, to channel 15% of your income into tax-deferred savings for the 17 years after you turn 50, which is when you can start making the largest annual contributions to your IRA. But if you’d started that plan 17 years ago (when you were 50), you’d now receive ~$1050/mo in your first year of retirement, which is less than half your Social Security check.
Risk Rating: 5 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold = 10).
Full Disclosure: I dollar-average into all 6 stocks, as well as ISBs.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 12
Week 332 - Defensive Companies in “The 2 and 8 Club”
Situation: The Dow Jones Industrial Average keeps making new highs, “confirmed” by new highs in the Dow Jones Transportation Average. According to Dow Theory, we are in a “primary” Bull Market. That is a period when investors should be paying off their debts and/or building up cash reserves. It is also a period when stocks in “growth” companies become overpriced, and stocks in “defensive” companies become reasonably priced (after having been overpriced). It’s a good time to research high-quality companies in “defensive” industries: Consumer Staples, Health Care, Utilities, and Communication Services.
Mission: Develop our standard spreadsheet for companies in “The 2 and 8 Club” (see Week 327) that are in defensive industries (see Week 327), and add any companies that are close to qualifying.
Execution: (see Table)
Administration: We’ll use the Extended Version of “The 2 and 8 Club”, which simply matches companies on two lists: The Barron’s 500 List and the 400+ companies in the FTSE High Dividend Yield Index. The Barron’s 500 List is published annually in May, and ranks companies by their 1 & 3 year Cash Flows from Operations, as well as their past year’s Revenues. The FTSE High Dividend Yield Index lists US companies that pay more than a market yield (~2%) and are thought unlikely to reduce dividends during a Bear Market. Companies that appear on both lists but do not have a 5-Yr Compound Annual Growth Rate (CAGR) of at least 8% for their quarterly dividend payout are excluded, as are any companies that carry an S&P Rating lower than A- for their bonds or lower than B+/M for their stocks.
Note the inclusion of Costco Wholesale (COST) at Line 4 in the Table. Although it has an annual yield lower than the required 2% for its quarterly dividend, the company has also issued a supplementary dividend every other year for the past 5 years. In those years, the dividend yield exceeds 5%. In calculating Net Present Value (see Column Y in the Table), we have used adjusted values for Dividend Yield (5.4%) and 5-Yr Dividend Growth (2.1%) in an effort to present an assessment closer to reality. That boosts NPV 42% over what it would be had supplemental dividends been ignored.
Note the inclusion of Coca-Cola (KO) at Line 9 in the Table. Although it has a 5-year dividend CAGR of 7.7%, which is slightly lower than our 8% cut-off, KO is a “mega-capitalized” company that has a major influence on prospects for the Consumer Staples industry.
Bottom Line: Experienced stock-pickers can usually look forward to a decent night’s sleep, if experience has taught them to overweight their portfolio in high-quality “defensive” stocks that pay a good and growing dividend. By restricting our Watch List to companies in “The 2 and 8 Club”, we’ve found that there are only 10 defensive stocks you need to consider during this opportune time, i.e, when valuations are lower for “defensive” stocks because “growth” stocks become the overcrowded trade in a primary Bull Market.
Risk Rating: 6 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold = 10)
Full Disclosure: I dollar-cost average into KO and NEE, and also own shares of COST, AMGN, MO, and HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Develop our standard spreadsheet for companies in “The 2 and 8 Club” (see Week 327) that are in defensive industries (see Week 327), and add any companies that are close to qualifying.
Execution: (see Table)
Administration: We’ll use the Extended Version of “The 2 and 8 Club”, which simply matches companies on two lists: The Barron’s 500 List and the 400+ companies in the FTSE High Dividend Yield Index. The Barron’s 500 List is published annually in May, and ranks companies by their 1 & 3 year Cash Flows from Operations, as well as their past year’s Revenues. The FTSE High Dividend Yield Index lists US companies that pay more than a market yield (~2%) and are thought unlikely to reduce dividends during a Bear Market. Companies that appear on both lists but do not have a 5-Yr Compound Annual Growth Rate (CAGR) of at least 8% for their quarterly dividend payout are excluded, as are any companies that carry an S&P Rating lower than A- for their bonds or lower than B+/M for their stocks.
Note the inclusion of Costco Wholesale (COST) at Line 4 in the Table. Although it has an annual yield lower than the required 2% for its quarterly dividend, the company has also issued a supplementary dividend every other year for the past 5 years. In those years, the dividend yield exceeds 5%. In calculating Net Present Value (see Column Y in the Table), we have used adjusted values for Dividend Yield (5.4%) and 5-Yr Dividend Growth (2.1%) in an effort to present an assessment closer to reality. That boosts NPV 42% over what it would be had supplemental dividends been ignored.
Note the inclusion of Coca-Cola (KO) at Line 9 in the Table. Although it has a 5-year dividend CAGR of 7.7%, which is slightly lower than our 8% cut-off, KO is a “mega-capitalized” company that has a major influence on prospects for the Consumer Staples industry.
Bottom Line: Experienced stock-pickers can usually look forward to a decent night’s sleep, if experience has taught them to overweight their portfolio in high-quality “defensive” stocks that pay a good and growing dividend. By restricting our Watch List to companies in “The 2 and 8 Club”, we’ve found that there are only 10 defensive stocks you need to consider during this opportune time, i.e, when valuations are lower for “defensive” stocks because “growth” stocks become the overcrowded trade in a primary Bull Market.
Risk Rating: 6 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, and gold = 10)
Full Disclosure: I dollar-cost average into KO and NEE, and also own shares of COST, AMGN, MO, and HRL.
"The 2 and 8 Club" (CR) 2017 Invest Tune Retire.com
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Sunday, November 5
Week 331 - Barron’s 500 Stocks in Berkshire Hathaway’s Portfolio
Situation: There are 43 publicly-traded companies in Berkshire Hathaway’s $180B stock portfolio, 29 of which are in the 2017 Barron’s 500 List. The 10 largest holdings are Kraft-Heinz (KHC - $28B), Wells Fargo (WFC - $23B), Apple (AAPL - $19B), American Express (AXP - $12B), Coca-Cola (KO -$17B), Bank of America (BAC - $17B), IBM - $14B), Phillips 66 (PSX - $7B), US Bancorp (USB - $4B), and Wal-Mart Stores (WMT - $4B). Warren Buffett often speaks of the importance of investing in large and well-established companies, particularly those at the top of their peer group that have long trading records. We’d like to know more about those stocks he’s picked for Berkshire Hathaway’s portfolio.
Mission: Run our standard spreadsheet on the 29 companies in the 2017 Barron’s 500 List, taking care to exclude any that do not have the 16+ year trading history that is required for quantitative analysis per the BMW Method.
Execution: 20 companies fit the bill (see Table).
Administration: The list is dominated by 9 companies in the two highest-risk industries among the 10 standard S&P industries. He has picked 7 companies from Financial Services (AXP, WFC, BAC, USB, MTB, BK, GS) and two from Information Technology (AAPL, IBM). Taken together, the 20 companies have risk parameters that are higher than those for the S&P 500 Index. For example, returns during the recent two-year Bear Market for commodities were 3.8%/yr vs. 6.6%/yr for the S&P 500 Index (see Column D in the Table). The extent of loss (at -2 standard deviations from trendline) in the next Bear Market is predicted to average 38% vs. 30% for the S&P 500 Index (see Column M in the Table).
Bottom Line: Warren Buffett is “all-in” on his long-standing bet that the US economy will do well going forward. Financial Services stand to gain the most in that event, and 7 of the 20 companies in the Table are in that industry, where he is the unchallenged expert when it comes to pricing their brands and analyzing their black-box financial reports. If you’re like me and hold stock in Berkshire Hathaway, you should be happy that he is sticking to basics, i.e., invest in what you know. The downside is that Warren Buffett is one of a kind. We’re left to hope that he will indeed leave the company in good hands.
Risk Rating: 7 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-cost average into KO, JNJ, MON, and IBM. I also own shares of AAPL, COST, and WMT.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
Mission: Run our standard spreadsheet on the 29 companies in the 2017 Barron’s 500 List, taking care to exclude any that do not have the 16+ year trading history that is required for quantitative analysis per the BMW Method.
Execution: 20 companies fit the bill (see Table).
Administration: The list is dominated by 9 companies in the two highest-risk industries among the 10 standard S&P industries. He has picked 7 companies from Financial Services (AXP, WFC, BAC, USB, MTB, BK, GS) and two from Information Technology (AAPL, IBM). Taken together, the 20 companies have risk parameters that are higher than those for the S&P 500 Index. For example, returns during the recent two-year Bear Market for commodities were 3.8%/yr vs. 6.6%/yr for the S&P 500 Index (see Column D in the Table). The extent of loss (at -2 standard deviations from trendline) in the next Bear Market is predicted to average 38% vs. 30% for the S&P 500 Index (see Column M in the Table).
Bottom Line: Warren Buffett is “all-in” on his long-standing bet that the US economy will do well going forward. Financial Services stand to gain the most in that event, and 7 of the 20 companies in the Table are in that industry, where he is the unchallenged expert when it comes to pricing their brands and analyzing their black-box financial reports. If you’re like me and hold stock in Berkshire Hathaway, you should be happy that he is sticking to basics, i.e., invest in what you know. The downside is that Warren Buffett is one of a kind. We’re left to hope that he will indeed leave the company in good hands.
Risk Rating: 7 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)
Full Disclosure: I dollar-cost average into KO, JNJ, MON, and IBM. I also own shares of AAPL, COST, and WMT.
Post questions and comments in the box below or send email to: irv.mcquarrie@InvestTuneRetire.com
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