Archives for March 2018

To the uninitiated, investing can seem daunting. There are thousands of stocks, bonds, and mutual funds to choose from, and probably just as many opinions on which you should buy and which you should avoid. Even the most diligent novice can become overwhelmed by the number of decisions that must be made.

To get started, I have long advised a risk-first approach. That means a focus on fixed income.

For most investors, it’s a little hard to know where to even begin. So where do you begin? Tops on my list is your fixed income component. Most investors fail to maintain an adequate mix of fixed income. Ignore my warning at your peril. In today’s environment, it’s not how much you are going to make, but how much of your capital you will keep. Returns ahead are going to be meager. If you are retired, draw no more than 4% out of your portfolio annually. And my tendency is to reduce this already low number. Times are tougher than you may believe. The more than-two-decade decline in interest rates is fading into history. Could rates fall further? Sure rates could give a little more ground, but there just is not much running room left on the downside.

I advised investors of the above over a decade ago and it remains true today. In today’s environment, it’s not how much you are going to make, but how much capital you will keep. Returns ahead are likely to be meager. Think mid-single digits on the high-side.

Almost thirty years ago in 1989, I advised my readers on the ten worst bets for the year. Topping the list was overpriced real estate in New England, New York, and California followed by Japanese stocks and real estate.

My long-time followers may recall how real estate prices fared after that projection.  Housing prices cracked in all three regions and entered a severe downturn. Anybody levered and long in residential real estate took it in the neck.

According to the Case-Shiller real estate indices for Boston, New York, and L.A., the peak to trough decline in prices ranged from 15% to 27%. A 20% down payment on a house was wiped out in the crash. In L.A., it took more than a decade to get back to even after accounting for inflation.

How did Japanese stocks fare in 1989?

The Nikkei 225 index was up almost 30% for the year (in local currency terms).

That was a bad call…

Indeed it was, but only for the first 12 months.

The Nikkei peaked on December 29^th of 1989. Over the ensuing 14 years the Japanese shares lost 80% of their value. To this day, the index remains 45% below its all-time high.

My timing was off, but the direction was not.

I don’t mention these past projections to boast. I call them to your attention because both projections were based on a careful consideration of risk. For the prudent investor, risk must always come before return.

Things could have turned out differently for U.S. house prices and Japanese stocks, and that would have been fine. The point is that the risk one had to take to participate in those markets far outweighed the potential reward.

I see many pockets of unfavorable risk/reward relationships in today’s financial markets. Some of these assets may not fare as poorly as house prices and Japanese stocks did 30 years ago, but the prudent approach is to avoid them.

Caution, balance, and diligence remain the mandate for your serious money today.

Even after a mini-correction in the S&P 500, most stocks still aren’t cheap. So what should you buy?  In 1991 I wrote that utilities offered outstanding relative value compared to other securities.

Utilities Offer Outstanding Relative Value

Three industry groups should be emphasized for new purchases in your portfolio over the next few quarters: electric, gas and telephone utilities. My number one mutual fund portfolio manager (this month’s spotlight), Vanguard Equity Income Fund’s Roger Newell told me recently that electric utilities are now his top industry choice with 18% of his $450 million portfolio now in utilities. Roger Newell is buying electric utilities—18% of his $450 million portfolio—because he feels the 1991 run-up in growth stocks and cyclical stocks has drained money from the utilities, and they now offer compelling relative value.

Today, outstanding would be an overstatement when referring to utilities’ relative value, but there are some interesting opportunities to be had within the sector for the discerning investor. As always, a focus on dividends and dividend growth will serve you well over the long haul.

There are endless cliches about never giving up and quitting being the surest way to lose. Finishing a race is a prerequisite to winning it. My son-in-law, E.J. Smith, managing director of our family run investment council firm, recently explained some of the philosophy behind what it takes to develop a winning investment strategy on his blog Yoursurvivalguy.com. He wrote:

“E.J., Has Your Phone Been Ringing off the Hook?”
Well this was a fun month for the stock market with wild swings from high to low of around 2,000 points in the Dow Jones Industrial Average.

One question I’m asked on a consistent basis is “E.J., is your phone ringing off the hook?” and my answer is “no,” and I know why. Most of you have been educated by Dick Young that investment success is achieved over a lifetime, not a month or two. Investment success is about hitting singles and doubles, taking some walks here and there and sometimes getting hit by a pitch. Staying in the game is key. It’s a winning strategy because it puts compound interest into play. Spend a lifetime compounding money on a consistent basis and you’ll wake up one day and say “Wow, I have a pile of money.” It’s funny, when I ask investors how they achieved their success. They don’t talk about the stock market. They talk about working long hours, putting one foot in front of the other, showing up for work every day and s-a-v-i-n-g as much as they could save. Looking back 40-years, they know how tough it was to save $1,000. Compound that at 8% and it’s $21,725 today. Not a bad start.

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