September 28, 2015

Actual Case Study from September 21, 2015:

“Michelle” (we’ll call her), a retiring Portland area public school teacher, came to our office for a complimentary evaluation of her financial situation including two small variable annuities promising 5% and 6%. These had been purchased six years ago through a School District approved vendor.

At purchase Michelle had asked the agent what each annuity would cost her in fees and was assured the fees were “minimal.” We agreed to analyze all of her assets but began by calling the nationally-known annuity companies’ customer service lines to clarify her choices for annuity retirement income.

We discovered:

Annuity A-client paid $53,000; Internal fees client pays every year $1,272 (2.4%); Agent’s 5% commission = $2,600;

Annuity B-client paid $37,000; Internal fees client pays every year $1,295 (3.25%); Agent’s 6% commission = $2,220

Annuity A was purchased for over $53,000 and had earned only $88 total over the last six years.

Michelle’s money was going to be locked up for ten years. The policies limited the 5% and 6% promises to restricted time periods, did not cover the life of the contract, and would be canceled for early withdrawals. We counseled that there are many kinds of annuities and/or other products that may have had better or worse fees and returns. Being better informed now, Michelle is in a better place to make decisions about her future.

By Bruce Porter, co-owner and founder of Retirement Income Advisors.

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September 18, 2015

Rates & Debates 

Half way through the month now and the markets are thankfully quite a bit calmer than last month. After todays drop the S&P 500 and our accounts are down slightly for the month, on average approximately 1%. Year-to-date, however, the markets and our accounts continue to be negative.

While disappointed with the returns, we are still very comfortable at these levels and continue to hunt for deals while we wait for a better market. As mentioned previously, Cheniere Energy LNG, the nation’s first ever natural gas exporter appears to be a bargain again. We sold this position months ago for a small gain hoping we could buy it back at a lower price. The stock has now come down 30% and is a probable buy by the end of the month.

Interest Rate News

Big news this week was Janet Yellen and The Federal Reserve holding interest rates steady. The decision to raise rates will now be pushed out until October, December, or possibly after the first of the year.

This means companies that need to borrow a lot of money – think big utility companies, telecom companies and real estate – will keep their borrowing costs low for some time into the future.  This will help their stocks in the short run.

What kind of impact will rising interest rates have on our positions? Josh Peters, CFA of Morningstar has a long-term interest rate estimate close to double what interest rates are today. With this Peters believes he’s already factored in these higher rates into his fair value of these companies and is confident they will weather the storm and continue to pay and grow their dividends after rates are increased.

One company in the portfolio less affected by higher rates is Spectra Energy SEP. Peters believes this pipeline company to be one of the strongest in that industry. He recently profiled the company and believes the unit distribution (dividend) will grow 7% – 9% per year over the next 4 years. As you can see in the graph below, an increase in dividend has resulted in an increase in share price as well. 

The Debate

I hope some of you caught the presidential debate the other night. What a show! While the childish insults don’t affect the accounts, the limited discussions of government shutdowns, tax reform, debt, and entitlements could certainly impact the economy.  However, we feel we’re still so far from the election that these won’t have much impact for some time. We’re paying attention though and anxious to see how far the D.C. outsiders will make it.

As always, please call if you’d like to discuss further.

-Bruce & Tim

September 2, 2015

Persevering Through an Ugly Month

As August closes and September begins, it appears the volatility rolls on and our perseverance will continue to be tested. What can be learned from this last tumultuous month? And what does this mean for those interested in retirement income?

A Larger Problem?

Josh Peters, CFA from Morningstar had this to say last Friday, “…I don’t think we learned anything about the economy or corporate earnings that we didn’t already know. My best guess is that the market was simply playing catch-up: The S&P had traded in such a narrow range for such a long time that when that range broke, we experienced six months’ worth of pent-up volatility in less than two weeks.”

In other words, the economy doesn’t look much different on September 1 than it did on August 1, but the stock market looks very different. In the month of August the S&P 500 was down -6.5%. This should be contrasted with your account that was down significantly less. On average our accounts were down two-thirds this amount, or -4% for the same time period. This is still a very ugly month for investing, but we’re glad to see the more conservative accounts come out on top.

It’s important to remember that the stock market performance is not the same as our economy’s performance. The stock market measures corporate profitability on a daily basis and is subject to global news on a moment-by-moment basis. Our economy continues to be relatively strong for reasons we’ve outlined in some of our last letters and we anticipate the accounts will reflect the strength of the economy in the long run.

Dean Baker, an economist for The Center for Economic Policy and Research in D.C., wrote this just recently, “First and most importantly, the stock market is not the economy. The stock market has fluctuations all the time that have nothing to do with the real economy. The most famous was the 1987 crash, which did not correspond to any real-world bad event that anyone could identify.”

The philosophy of Josh Peters and Morningstar looks less at short-term volatility and more at the underlying profitability and the ability to pay and grow dividends. This approach uncovers the strongest companies and is why we feel so good about the portfolio in such volatile times.

Retirement Income Advisors – What’s Next?

Next up on the list of buys are three companies: Johnson and Johnson JNJ, a name almost everyone knows, National Grid NGG, a utility company, and Cheniere Energy LNG, a natural gas exporting company we owned earlier this year. If the market continues its emotional swings this month we look forward to picking these up for some incredibly low prices.

Lastly, we’ve gotten some very nice feedback on these letters so we’ve decided to make these a regular part of our business. Please let us know if you have any questions or if you’d like to discuss further.

-Tim & Bruce

August 24, 2015

The 10% Correction We’ve Been Waiting For

What does this 10% correction mean? With the markets down 2% on Thursday, 3% on Friday, and 4% today, we thought some (more) perspective might be in order.

It’s easy to be lulled into complacency regarding market volatility considering it’s been 46 months since the last 10% drop. So far in 2015 the S&P 500 has had the smallest trading range (least volatility) from tops to bottoms of any calendar year since 1927.

But now, our U.S. markets could be headed for the worst month since 2009. We, and many analysts believe, we’re overdue for this kind of volatility and, to be honest, have been surprised not to see it earlier.
 
Here are the reasons Bob Doll, CFA from Nuveen Investments says were in a downturn:

1. Slowing economic growth globally and specifically in China
2. Currency devaluations which are economic wars between nations trying to make their exports more competitive internationally
3. Uncertainty over Federal Reserve interest rate hikes
4. Investor nervousness after seven years of market expansion
5. Corporate earnings disappointments

Here are the Reasons Bob Doll, CFA says we’re NOT headed for a longer term downturn, called a bear market:

1. Improving U.S. economy in its seventh year of expansion
2. Low unemployment
3. Low interest rates
4. Positive housing market
5. Low fuel prices

We firmly believe this has been an emotional overreaction in the markets. A couple of days ago a financial commentator said, “The stock market is the only place where people run out the door when they have a sale.” We’re sticking around the store to find the bargains.

After months of watching companies trade at prices above what they were worth, the last two trading days brought the prices of two down to a more reasonable level. We bought Compass Minerals CMP and Paychex PAYX well below fair value for client accounts. Those two buys have amounted to ~$1 Million invested and we have additional buys ready if the market continues to sell off.

We’re excited for the dust to settle on this market and for prices to head higher on these stocks and the rest of the portfolio.

Please call us if you’d like to discuss further,

-Bruce & Tim

More thoughts by Josh Peters, CFA and Matthew Coffina, CFA from Morningstar on the companies mentioned…    

      

August 2015

The Effect of Low Oil Prices on Your Portfolio

Energy and energy distribution make up about 15% of many of our client portfolios. Let’s look at how the price of oil has dropped recently and how that has affected your assets.

In the fourth quarter of 2014 crude oil prices declined 41% from $91 per barrel to $53 per barrel according to a TransUnion study. In 2015 the price rebounded slightly only to decline again along with the number of active drilling rigs in our country to the lowest number in decades (see chart). Crude oil prices are volatile: Seven years ago oil topped out at $145 in July, 2008 and fell as low as $30 per barrel merely five months later.

We invest in energy companies for the same reason we invest in any company, energy is essential and used across many industries: transportation, manufacturing, power generation, and in the production of various plastic products. This is a great area to invest in, but is not without volatility due to crude oil prices. We believe the long-term benefit of these energy companies outweighs the volatility of crude.

As always, we remain focused on dividend and interest income (the golden eggs) and dividend growth that will encourage long-term capital appreciation (fattening the goose) in your portfolio. The last three months returns, however, have been disappointing and this is never fun. Josh Peters, CFA from Morningstar, someone we trust to help inform us on the positions in your account, had this to say recently, “For more than 10 years I’ve insisted that short-term relative performance would not (1) define our success or (2) affect the way we manage our strategy.” This has proven to be an excellent strategy when looking at his long-term market beating track record.

On a total-return basis that includes dividends, the S&P hit its most recent record on May 21, but the Morningstar Dividend Leaders index topped out several weeks earlier, and the Dow Jones U.S. Select Dividend index hasn’t set a new high-water mark since Dec. 29, 2014. The recent highs for your portfolio were reached in May and since then have declined ~5%, while the Dow is now negative for the year…again.

Nowhere is this underperformance more obvious than in our largest holdings in the energy sector: Chevron, Magellan Midstream Partners, Spectra Energy Partners, Energy Transfer Partners and Linn Energy. While utilities, REITs, and industrials have all lagged in recent months, these positions explain the bulk of the recent underperformance.

To a certain extent, we understand why these names are being tossed overboard. The price of crude oil is dropping again as Iran regains access to global markets and energy demand shows few signs of improvement. This can’t help but have a negative effect on Chevron and other oil producers’ near-term profits. Morningstar continues to believe $75 a barrel is a reasonable long-term oil price assumption, and at that level we expect Chevron and Linn to return to business as usual.

If the effect of a short-term drop in oil prices should be relatively minor for Chevron, it’s even less significant for pipeline operators like Magellan, Spectra, and Energy Transfer. In general, low prices for both oil and natural gas will discourage drilling in North America, which in turn limits expansion opportunities for the pipeline operators. Growth opportunities for the pipeline operators may erode somewhat if energy prices remain low for many years to come. However, we remain highly confident in the pipeline selections.

The most aggressive position in the portfolio is Linn Energy. This exploration and production company does not have as strong a balance sheet as Chevron, and we’re seeing the price plummet as a result. This is another great example of why diversification is paramount in investing. We still believe Linn will make it through these days of low priced oil and as the price of a barrel moves closer to $60, the investments in Linn should increase back to a more reasonable level. In the meantime the bond is paying 10%+ interest while we wait.

In short, Josh Peters, CFA, the Morningstar team, and we think the market is overreacting to bad short-term news in the energy sector and negative momentum in stock prices, and it’s hardly unusual for investors to toss the babies out with the bathwater. With the prices of these energy companies down near 20% year-to-date, we view this as an opportunity to rebalance the accounts and take advantage of these low prices.

The Latest Addition

We introduced our newest staff member, Brian Bradley, to you in October of 2014. A week ago Brian and wife, Britney, welcomed, (nine pound!) Lily, their THIRD daughter into their family. Please congratulate Brian with us! Also, keep him in your thoughts and prayers as he learns to navigate a household outnumbered four to one.

We welcome your calls to discuss any details about your financial situation further. Please don’t hesitate to call.

-Bruce & Tim

The long-term view

Josh Peters, CFA from Morningstar is always helpful to consult when returns in the high-yielding segment of the market feel depressing. For more than 10 years now he has insisted that short-term relative performance comparisons would not (1) define our success or (2) affect the way we manage our strategy. This has proven to be an excellent strategy.

As always, we remain focused on dividend and interest income (the golden eggs) and dividend growth that will encourage long-term capital appreciation (fattening the goose). But that doesn’t mean underperformance is fun, particularly when a number of our holdings aren’t just failing to keep up with a rising market but are actually declining in absolute terms.

On a total-return basis that includes dividends, the S&P hit its most recent record on May 21, but the Morningstar Dividend Leaders index topped out several weeks earlier, and the Dow Jones U.S. Select Dividend index hasn’t set a new high-water mark since Dec. 29, 2014. The recent highs for our portfolio were reached in May and since then have declined ~5%, while the Dow is now negative for the year…again.

 

Who’s been affected?

Nowhere is this underperformance more obvious than in our largest holdings in the energy sector: Chevron CVX, Magellan Midstream Partners MMP, Spectra Energy Partners SEP, Energy Transfer Partners ETP and Linn Energy bond. While utilities, REITs, and industrials have all lagged in recent months, these positions explain the bulk of our recent underperformance.

To a certain extent, we understand why these names are being tossed overboard. The price of crude oil is dropping again as Iran regains access to global markets and energy demand shows few signs of improvement. This can’t help but have a negative effect on Chevron and other oil producers’ near-term profits. Morningstar continues to believe $75 a barrel is a reasonable long-term oil price assumption, and at that level we expect Chevron and Linn to return to business as usual.

If the effect of a short-run drop in oil prices should be relatively minor for Chevron, it’s even less significant for pipeline operators like Magellan and Spectra. In general, low prices for both oil and natural gas will discourage drilling in North America, which in turn limits expansion opportunities for the pipeline operators. Growth opportunities for Spectra and Magellan may erode somewhat if energy prices remain low for many years to come. However, we remain highly confident in the pipeline selections.

The most aggressive position in the portfolio is in Linn Energy. This exploration and production company does not have as strong a balance sheet as Chevron, and we’re seeing the price of their bond swing as a result. We believe Linn will make it through these low oil days and as the price of oil moves closer to $60/barrel, the price of their bond should increase back to a more reasonable level. In the meantime the bond pays 10%+ interest while we wait.

 

How low will oil go? – The bottom line.

How low will oil go? No one really knows the answer to that, but Josh Peters, CFA, the Morningstar team, and we think the market is overreacting to bad short-term news in the energy sector and negative momentum in stock prices, and it’s hardly unusual for investors to toss the babies out with the bathwater. With the prices of these energy companies down near 20% year-to-date, we view this as an opportunity to rebalance the accounts and take advantage of these low prices.

We welcome your call to discuss further,

-Bruce & Tim

Dave Ramsey’s Retirement-

Best-selling author, Dave Ramsey, oversteps his expertise in budgeting and debt pay-down. Ramsey blogs that an individual who saves for retirement can expect to live on 8% OF THEIR SAVINGS! Ramsey states, “This plan allows you to live off the growth of your savings rather than depleting it.” (1) That is, of course, assuming you earn an average of 8% in growth every year.

In our opinion, and the opinion of most of the industry, an 8% retirement withdrawal rate is not only rosy, it’s reckless. Depletion
of the account is exactly what could happen when Ramsey’s followers don’t earn the optimistic 8% return.

The Lost Decade:

Recent history shows us 8% is clearly too high a projection. From 2001-2011 the S&P 500 returned 0% in growth. It doesn’t take a degree in Math to know that if someone had retired in 2001 and withdrew 8% of their account per year until 2011 they would have had potentially less than half of their original principal left to live on. Not a great recipe for retirement in our opinion.

Prayer or Pipe Dream?

That’s not to say the next decade won’t provide an 8% return or more every year in the S&P. We hope it does! However, given the state of the economy domestically and globally, that’s either a pipe dream or will require some serious prayer, but is certainly not a reasonable expectation.

Recently it seems that the stock market produces new highs while the news reports debt, deficit, and demographic trends that will be headwinds over the next decade. Peaks are followed by valleys and even Ramsey can tell you when you spend more than you make as a country (and a world) you can expect to eat beans and weenies while repaying the debt.

Our view is not that the next decade will be a miserable existence similar to the great depression or even the great recession (we pray those were generational events) but an 8% projection of growth is almost double what we think is practical.

Practical AND Prayerful:

It’s not that we don’t think you should pray, please do! We pray regularly in our office, but in addition to that, adding practicality is paramount for a successful retirement plan. Here’s how we do it.

Our philosophy is derived from a ridiculously simple Aesop fable, The Goose and the Golden Egg. If you remember back to elementary school, when you first heard this story, the essence is – Don’t abuse the goose, be satisfied with the golden eggs she provides.

Our strategy follows a similar path – Don’t spend the principal, live on the dividends and interest the account generates. The “golden eggs” go to both “owners” and “loaners.” “Owners” of stocks receive profit sharing promises (dividends are profits divided and distributed to owners). “Loaners” are those who have bought bonds (loans to corporations or governments) and receive promises of debt repayment plus interest. This is a much more certain way of projecting future retirement income than a guess (or prayer) of what stock market growth will be in the future.

Depending on risk, the accounts we manage currently yield 4% to 6% in dividend and interest for retirees to live on while keeping principal intact. If a potential retiree adopts this practical and proven approach we think their retirement income projection truly “has a prayer.”

(1) http://www.daveramsey.com/blog/how-to-create-your-retirement-plan