What Principles Govern My Investment Policies? I've never claimed to be a guru when it comes to investments and I have often said that there is no one approach that works all the time for everyone. Still, I have several principles which strongly influence the decisions I make. Here are some of them.
1. Cash Is Not King. Never has been. The real king can be seen in the title to this blog: Cash flow. I'm sure none of my regular readers will be surprised to hear this. You can generate cash flow from a stock portfolio in several ways but the main two are dividends and capital gains. Of the two, dividends are the most reliable; however, it depends on your station in life. If you need the cash flow to sustain your lifestyle, dividends are definitely preferred; however, if you are younger, with ample income to support your needs and a long time frame before you need the cash flow, you can depend more on capital gains. A friend of mine once said, "You can't eat growth."
2. You Can't Time the Market. Over the years, I've met advisors who use several different methods to get you in the market or out at appropriate times. Few, if any, are still around today. While there may be some who are successful at this, I have never met anyone who can deliver consistent results. Anyone who left the market last September and stayed out until the present is sitting on a bunch of cash they can use to re-invest. If you will look at my posts from last summer, you can see that I had some fears about the stability of the market. Still, I didn't have enough confidence to go totally out of the market.
3. You Cannot Not Forecast. I am reminded of Thomas Dewey who once forecast that he would be voted president of the United States. Before he went to bed on the night of the election he told his wife, "Tomorrow night you'll be sleeping with the president of the United States". The next morning, he and his wife heard the news and his wife asked, "Tom, will I be going to Washington or will Mr. Truman be coming here." (I must give credit to my friend Steve Goodier of lifesupport.com for that story). Even if you have no intrinsic forecast in mind, every financial decision you make involves a forecast. For example, if you choose a lower interest rate adjustable mortgage over a 30 year fixed rate, you have forecast that interest rates are unlikely to go though the roof and the current lower payment will be less than with a fixed rate for some time. I would encourage everyone who doesn't have a set of assumptions about what you think will happen in the future, to write some down. These should have an influence over your current decisions and you should always ask yourself if a decision you are making is consistent with your assumptions. You might be surprised at how often they are not.
4, Price is What You Pay, Value is What You Get. The Motley Fool website gets credit for that little slogan. What it really means is that the market may "misunderestimate" the value of a stock. A stock may drop for a number of reasons, not all of which are indicative of the fundamental value of the underlying business. An example in recent times is the large drop in the price of all oil service sector stocks right after Slumberger reported disappointing earnings. Stocks in a given sector often advance or decline based on some event that influences the price of an industry leader. While this isn't always irrelevant, it often is.
5. Watch The Business Not The Stock. I have mentioned before that you are buying into a business any time you buy a stock. Instead of becoming enthralled with the fluctuations in the market price of the stock, watch the business fundamentals and management action. Base your buy/sell decisions on these rather than price changes.
6. Patience Is Genius. It's OK to bail out of a stock if you change your mind about the prospects of an investment but if the company you buy is still fundamentally sound, have patience even if the price drops. I have been advised by a close friend to use "stop losses." which are automatic sell orders if a stock drops to a certain price. Granted, these can be invaluable when a stock drops before the news about the fundamentals come out but I have found it preferable to base my decisions on fundamentals not price. In the late 90's I bought real estate investment trusts, even though the rest of the market thought they were less valuable than the high tech stocks that were all the rage. I chose to stay with them and buy more, a strategy which allows me to work on my own schedule now rather than being chained to my office every day.
These Are Trying Times. High home foreclosures, volatile stock prices, falling home values, and inflation worries are rampant. I know astute investors who have made the decision to get out of the market entirely. My approach is as it has always been. Stay informed and act accordingly.
Monday, March 24, 2008
Monday, March 17, 2008
EXCESS CONSUMPTION
I Try To Stay Away From Sugar. That's because I have diabetes. Fortunately, they make everything from Hershey's chocolate to Jello Pudding without sugar. Sometimes they use a substance called "sugar alcohols" which are chemically altered sugars that have a sweetening effect without causing an increase in blood sugar. If you read the label carefully, you will see a warning that says: "Excess Consumption may have a laxative effect. As one who has experienced excess consumption of sugar alcohols, I am here to tell you not to ignore that warning.
We Can Extend That Warning To The Economy. A natural consequence of excess consumption causes considerable discomfort in our economy. That's why the Fed and JP Morgan had to bail out Bear Stearns. The Bear got in trouble because they were stuck in the sub-prime mire. The sub-prime fiasco was started to allow borrowers with no down payment and marginal income to buy houses they couldn't really afford (excess consumption). During the past five years, virtually anyone who could fog a mirror could buy a house. Lenders who originally made sub-prime mortgages cashed in big time. Because few lenders offered these loans, they had little competition and could charge high enough interest rates to offset the projected higher delinquency rates. Because of property appreciation and a high demand for housing, the projected high delinquency rate didn't happen. Because of the high profit margins, more and more lenders got into the business and competition forced lenders to lower their rates and relax their qualification standards. The Fed didn't help when they lowered the fed funds rate to 1%. The yield on savings accounts went through the floor and investors had to utilize a more speculative approach to get higher investment returns. We are now experiencing the "laxative effect" that the labels on sugar free foods warn us of.
So Now What Do We Do? The Fed is trying. They even took time yesterday (Sunday) to lower the fed funds rate by a quarter per cent. Another cut is expected on Tuesday. This is the same practice that caused the present fiasco, only now some other unintended consequences are taking place. The dollar has lost much of its value. In Europe, oil prices are up over 100% as opposed to 200% in the US. This is because of the weak dollar. I may sound like the people I complain about, those who love to point out problems but have few solutions to offer. Here are some of the more obvious measures you can take.
1. Raise cash. I don't mean to imply that you should sell everything and go to cash; however, instead of re-investing your interest and dividend payments, leave them in cash. This will allow you to withdraw money for emergencies without having to sell assets into the current soft market.
2. Avoid excess consumption. Don't use credit cards if you can't pay the balance monthly. Don't borrow on your home to buy depreciating assets (cars, furniture, etc). Before making a major purchase ask yourself if you really need it and make sure you can afford it. If you aren't willing to pay cash or write a check, you probably are better off foregoing the purchase.
3. Diversify. Don't put all your money into any asset class. While I recommend emphasizing certain market sectors to fit what you want to accomplish, don't overdo it, especially in this volatile market.
4. Don't quit your day job. Unless you are absolutely certain you will have adequate cash flow to replace your employment income, don't quit working just yet. If you've already retired, look for new employment, at least part time. This income can help you weather some tough times and may even be better for your mental health than a life of leisure.
Reflections on Turning 70. I guess I am now one of the "elderly" but I am not retired. I still have clients and I still manage money and consult for my former company, "Westmont." Frankly, I am as retired as I want to be. I am reminded of the 103 year old skycap at the Beaumont airport who considered himself extremely fortunate to have such a fine job at his age. He called in sick on a Friday and passed away the following Monday. A much better fate than being "warehoused" in a nursing home waiting for death to set you free.
We Can Extend That Warning To The Economy. A natural consequence of excess consumption causes considerable discomfort in our economy. That's why the Fed and JP Morgan had to bail out Bear Stearns. The Bear got in trouble because they were stuck in the sub-prime mire. The sub-prime fiasco was started to allow borrowers with no down payment and marginal income to buy houses they couldn't really afford (excess consumption). During the past five years, virtually anyone who could fog a mirror could buy a house. Lenders who originally made sub-prime mortgages cashed in big time. Because few lenders offered these loans, they had little competition and could charge high enough interest rates to offset the projected higher delinquency rates. Because of property appreciation and a high demand for housing, the projected high delinquency rate didn't happen. Because of the high profit margins, more and more lenders got into the business and competition forced lenders to lower their rates and relax their qualification standards. The Fed didn't help when they lowered the fed funds rate to 1%. The yield on savings accounts went through the floor and investors had to utilize a more speculative approach to get higher investment returns. We are now experiencing the "laxative effect" that the labels on sugar free foods warn us of.
So Now What Do We Do? The Fed is trying. They even took time yesterday (Sunday) to lower the fed funds rate by a quarter per cent. Another cut is expected on Tuesday. This is the same practice that caused the present fiasco, only now some other unintended consequences are taking place. The dollar has lost much of its value. In Europe, oil prices are up over 100% as opposed to 200% in the US. This is because of the weak dollar. I may sound like the people I complain about, those who love to point out problems but have few solutions to offer. Here are some of the more obvious measures you can take.
1. Raise cash. I don't mean to imply that you should sell everything and go to cash; however, instead of re-investing your interest and dividend payments, leave them in cash. This will allow you to withdraw money for emergencies without having to sell assets into the current soft market.
2. Avoid excess consumption. Don't use credit cards if you can't pay the balance monthly. Don't borrow on your home to buy depreciating assets (cars, furniture, etc). Before making a major purchase ask yourself if you really need it and make sure you can afford it. If you aren't willing to pay cash or write a check, you probably are better off foregoing the purchase.
3. Diversify. Don't put all your money into any asset class. While I recommend emphasizing certain market sectors to fit what you want to accomplish, don't overdo it, especially in this volatile market.
4. Don't quit your day job. Unless you are absolutely certain you will have adequate cash flow to replace your employment income, don't quit working just yet. If you've already retired, look for new employment, at least part time. This income can help you weather some tough times and may even be better for your mental health than a life of leisure.
Reflections on Turning 70. I guess I am now one of the "elderly" but I am not retired. I still have clients and I still manage money and consult for my former company, "Westmont." Frankly, I am as retired as I want to be. I am reminded of the 103 year old skycap at the Beaumont airport who considered himself extremely fortunate to have such a fine job at his age. He called in sick on a Friday and passed away the following Monday. A much better fate than being "warehoused" in a nursing home waiting for death to set you free.
Saturday, March 08, 2008
POLITICS AND YOUR PORTFOLIO
Your Check Will Soon Be In the Mail. Hey! Let's send everyone six hundred dollars. That will solve our economic problems. It's doubtful that many investors believe that. If the stimulus package is an example of how the government is going to solve our problems, I prefer the problems. In my last post, I was critical of those who believe the declining value of our homes and our 401k plans is more important than international conflicts. One of my readers reminded me that a lot of folks are in "survival mode" and are so worried about their financial situation, they have little energy left to worry about anything else. I can understand that. I've been there. In reality, it is difficult to separate what's going on in the political arena from what's taking place in the financial markets. The government has little power to control the markets and their attempts to try have consequences that are often different from those intended.
We've Been On A Binge. In an attempt to encourage home ownership and full employment, as well as mitigate the economic consequences of 9/11, the FED lowered interest rates to unrealistic levels. Investors seeking high yields bought sub-prime mortgages. This allowed borrowers, who could barely afford to pay rent, to buy homes they couldn't possibly afford long-term. Buyers who needed a 1500 square foot home bought 3000 square feet with adjustable mortgages and low initial interest rates. The party is over but no one wants to go home. How can we prolong the party? Sending everyone 600 dollars that we borrow from China will only add a few hours and we will still have to go home and sober up. Allowing congress to change the terms of existing mortgages might save a few homeowners from the horror of foreclosure but it will also discourage lenders from making new loans without higher profits. The bottom line is that we will have to solve our own problems and not depend on the government for solutions. Betty and I will donate our $1,200 to Wounded Warriors and pledge to make sure we live within our means. We will continue to practice prudent investment strategies that emphasize cash flow over capital appreciation. We will keep an eye on the markets and government policies in an effort to preserve capital and obtain a reasonable rate of return.
It's A Cold, Clear Day In East Texas. Looking out my window I see Azaleas blooming, green grass, and Magnolia trees with glossy green leaves. I am indeed fortunate to have survived 70 years on this beautiful planet. I know I can't predict what tomorrow will bring but I am extremely thankful for this day.
We've Been On A Binge. In an attempt to encourage home ownership and full employment, as well as mitigate the economic consequences of 9/11, the FED lowered interest rates to unrealistic levels. Investors seeking high yields bought sub-prime mortgages. This allowed borrowers, who could barely afford to pay rent, to buy homes they couldn't possibly afford long-term. Buyers who needed a 1500 square foot home bought 3000 square feet with adjustable mortgages and low initial interest rates. The party is over but no one wants to go home. How can we prolong the party? Sending everyone 600 dollars that we borrow from China will only add a few hours and we will still have to go home and sober up. Allowing congress to change the terms of existing mortgages might save a few homeowners from the horror of foreclosure but it will also discourage lenders from making new loans without higher profits. The bottom line is that we will have to solve our own problems and not depend on the government for solutions. Betty and I will donate our $1,200 to Wounded Warriors and pledge to make sure we live within our means. We will continue to practice prudent investment strategies that emphasize cash flow over capital appreciation. We will keep an eye on the markets and government policies in an effort to preserve capital and obtain a reasonable rate of return.
It's A Cold, Clear Day In East Texas. Looking out my window I see Azaleas blooming, green grass, and Magnolia trees with glossy green leaves. I am indeed fortunate to have survived 70 years on this beautiful planet. I know I can't predict what tomorrow will bring but I am extremely thankful for this day.
Wednesday, March 05, 2008
MAKE LOVE NOT WAR.
Hell No...We Won't Go. War is not healthy for children and other living things. What would happen if they gave a war and nobody came? Remember those statements? I sure do. They were part of a fierce anti-war campaign brought forth during the Viet Nam era, almost 40 years ago. These protests were certainly a major factor in our decision to abandon the war effort. Almost 10 years of effort, 50,000 American lives wasted, and hundreds of thousands of Asians were down the drain after we left. We didn't lose the war because of our military, we lost it because the folks at home lost the will to fight. Should we have been in that war? Two democratic and one republican president thought it was worth trying to win. They had huge brain trusts of military and diplomatic advisors who thought so. Looking back, I can't imagine why so many thought they knew more than the commanders in chief and their legions of advisors.
How Does This Relate To The Current Conflict? One similarity stands out. We have more than a hundred thousand of our young people with their lives on the line while the rest of us go about our daily business. In the Viet Nam era, the "sex, drugs, and rock and roll" crowd marched the streets, attended events like Woodstock, and smoked dope on the streets of San Francisco while our troops were sleeping in the mud and rain if they were lucky enough to survive the day. What are we doing while our soldiers are being killed and maimed? The vast majority of us are more more worried about the value of our homes and our 401k accounts than we are about our kids. Don't take my word for this. Look at all the polls taken during this primary season. They show that the economy is by far the main concern of the voters.
Should We Have Gone To War In The First Place? My position is that I don't consider myself qualified to out-guess those who began this venture. They had access to far more information than I. Most everyone blames President Bush. How can we possibly believe he made this decision by himself? Prior to the invasion, I heard politicians from both parties proclaiming the danger from weapons of mass destruction that were proven to be present in Iraq at one time. Most of those politicians conveniently forgot these statements and place all the blame on Bush.
What Should We Do Now? It's too late to dwell on the question of whether or not we should be in Iraq. The real question is whether or not we should beat a hasty retreat. I tend to think that would be the worst strategy. We can ill afford to leave that area to those who who want destroy us. I'm tired of those who complain about what is going on without offering a solution. Want to close down Gitmo? What do we do with those who are detained? Don't tell me we shouldn't have established the facility in the first place. It's too late to change what has occurred. I could support any solution that made sense.
One Serious Question Is Whether Or Not You Will Read This. I have tried to stay away from politics on this blog and I am tempted to erase this entire post before anyone gets a chance to see it. I know much of what I have said sounds partisan but the main point is that we need to make this conflict our main concern and we need to work together to find an honorable solution.
How Does This Relate To The Current Conflict? One similarity stands out. We have more than a hundred thousand of our young people with their lives on the line while the rest of us go about our daily business. In the Viet Nam era, the "sex, drugs, and rock and roll" crowd marched the streets, attended events like Woodstock, and smoked dope on the streets of San Francisco while our troops were sleeping in the mud and rain if they were lucky enough to survive the day. What are we doing while our soldiers are being killed and maimed? The vast majority of us are more more worried about the value of our homes and our 401k accounts than we are about our kids. Don't take my word for this. Look at all the polls taken during this primary season. They show that the economy is by far the main concern of the voters.
Should We Have Gone To War In The First Place? My position is that I don't consider myself qualified to out-guess those who began this venture. They had access to far more information than I. Most everyone blames President Bush. How can we possibly believe he made this decision by himself? Prior to the invasion, I heard politicians from both parties proclaiming the danger from weapons of mass destruction that were proven to be present in Iraq at one time. Most of those politicians conveniently forgot these statements and place all the blame on Bush.
What Should We Do Now? It's too late to dwell on the question of whether or not we should be in Iraq. The real question is whether or not we should beat a hasty retreat. I tend to think that would be the worst strategy. We can ill afford to leave that area to those who who want destroy us. I'm tired of those who complain about what is going on without offering a solution. Want to close down Gitmo? What do we do with those who are detained? Don't tell me we shouldn't have established the facility in the first place. It's too late to change what has occurred. I could support any solution that made sense.
One Serious Question Is Whether Or Not You Will Read This. I have tried to stay away from politics on this blog and I am tempted to erase this entire post before anyone gets a chance to see it. I know much of what I have said sounds partisan but the main point is that we need to make this conflict our main concern and we need to work together to find an honorable solution.
Saturday, March 01, 2008
MANAGING YOUR RISK
What Can We Do To Lower Our Risk? Just when you think your portfolio is coming back, we have a day like yesterday when the Dow Jones average lost more than 300 points. Retail stocks, financial stocks, and even energy stocks were hit hard. The sub-prime mortgage debacle and lousy housing markets are spilling over into a number of other sectors. Oil at $100 a barrel has resulted in consumers spending much of their discretionary money on gasoline to get to work and the grocery store. None of this adds up to a favorable economic environment. As I have said before, much of this correction is a healthy payback for the excesses of the previous 5 years when people bought bigger houses than they need and borrowed on their home equity to finance purchases they didn't really have to make. Stocks and real estate have dropped because they were driven to unrealistic levels by easy money. Everything became over-priced and now a correction is necessary. All this is an attempt to explain that which really can't be explained. The real question is in the first sentence of this paragraph. What is an investor to do? Here are some suggestions.
Get Out of The Markets. This is what happened in the late 70's and early 80's. (See my last month's post entitled, Turn Around and Run Like Hell). To a certain extent this worked in the 70's and 80's because people were able to get 8-12% on insured bank CD's. The trouble was that they saw these rates drop to 2-3% over the years that followed as inflationary excesses were wrung out of the economy. With rates already down to 3-4%, it is difficult to settle for returns that low. Despite my encouragement to stay with the markets, I have reduced my and many of my clients exposure to the markets by increasing cash reserves. A radical change to 100% cash is nothing I would recommend, so here is another approach.
Stop Worrying. Suppose you bought 1000 shares of 3M in August of 2007 at the high for that month of $91,000. Six months later the "value" of your investment is $78,000. That's a loss of $13,000. Or is it? What you bought was a share of an operating business. The market thought that business was worth $91 per share. A scant six months later, the market thought that business was worth $78 per share. Has the business really changed that much? Not to my way of thinking. Worrying about daily market fluctuations is like planting carrots and pulling them up every day to see if there are carrots forming yet. My philosophy is to buy great businesses like 3M and stay with them unless the fundamentals of the business change. The market is a manic-depressive. Don't let it make you one. There is another criteria I use .
Look For Cash Flow. I bet you knew this was coming. Using 3M as an example, in August of 2007 3M was paying a $480 quarterly dividend. Not a huge yield, but its close to what you would get in a bank. In addition, your tax rate is only 15%, less than half of what a high income investor would pay on a CD. Recently, 3M raised this payout to $500 per quarter. They have raised this dividend each year for several years (in 2003, the payout was $330 per quarter). Statistically, dividend paying stocks have been proven to be less risky than those who don't pay dividends. Using Dow Jones statistics, their are three times as many dividend paying stocks in the below average risk category than non-dividend paying stocks. Even if you earn more than enough money to fund your living expenses, the lower risk category of dividend stocks make them a must for virtually any portfolio.
I Spend Several Hours Each Day Studying The Markets. If you are one of my clients, remember I do it so you don't have to. That doesn't mean I encourage you to stick your head in the sand. If it is as much fun for you as it is for me, by all means do it. If not, spend your time doing things you enjoy. The main thing is not to spend it worrying.
Get Out of The Markets. This is what happened in the late 70's and early 80's. (See my last month's post entitled, Turn Around and Run Like Hell). To a certain extent this worked in the 70's and 80's because people were able to get 8-12% on insured bank CD's. The trouble was that they saw these rates drop to 2-3% over the years that followed as inflationary excesses were wrung out of the economy. With rates already down to 3-4%, it is difficult to settle for returns that low. Despite my encouragement to stay with the markets, I have reduced my and many of my clients exposure to the markets by increasing cash reserves. A radical change to 100% cash is nothing I would recommend, so here is another approach.
Stop Worrying. Suppose you bought 1000 shares of 3M in August of 2007 at the high for that month of $91,000. Six months later the "value" of your investment is $78,000. That's a loss of $13,000. Or is it? What you bought was a share of an operating business. The market thought that business was worth $91 per share. A scant six months later, the market thought that business was worth $78 per share. Has the business really changed that much? Not to my way of thinking. Worrying about daily market fluctuations is like planting carrots and pulling them up every day to see if there are carrots forming yet. My philosophy is to buy great businesses like 3M and stay with them unless the fundamentals of the business change. The market is a manic-depressive. Don't let it make you one. There is another criteria I use .
Look For Cash Flow. I bet you knew this was coming. Using 3M as an example, in August of 2007 3M was paying a $480 quarterly dividend. Not a huge yield, but its close to what you would get in a bank. In addition, your tax rate is only 15%, less than half of what a high income investor would pay on a CD. Recently, 3M raised this payout to $500 per quarter. They have raised this dividend each year for several years (in 2003, the payout was $330 per quarter). Statistically, dividend paying stocks have been proven to be less risky than those who don't pay dividends. Using Dow Jones statistics, their are three times as many dividend paying stocks in the below average risk category than non-dividend paying stocks. Even if you earn more than enough money to fund your living expenses, the lower risk category of dividend stocks make them a must for virtually any portfolio.
I Spend Several Hours Each Day Studying The Markets. If you are one of my clients, remember I do it so you don't have to. That doesn't mean I encourage you to stick your head in the sand. If it is as much fun for you as it is for me, by all means do it. If not, spend your time doing things you enjoy. The main thing is not to spend it worrying.
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