Blue-Chip Dividend Growth Stocks Today's Strong Option For Retirement Portfolios - Part 1
http://news.morningstar.com/articlenet/SubmissionsArticle.aspx?submissionid=144075.xmlThere is a confluence of factors that are painting a very odd picture of current investor behavior. Common sense and a careful analysis of the market dynamics between equities and bonds today would indicate that investors should be acting in the exact opposite manner than they are. Interest rates are hovering at a 100-year low, which creates two problems for investors. First, there is not enough return from bonds to fund a retiree's income needs or to fight inflation. Second, investing in bonds with interest rates so low makes it riskier to own bonds today than it has been in over a century.
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Nevertheless, investors are not only making a classic mistake, I believe they are making a very obvious and thus quite avoidable mistake. It is an undeniable fact that bond prices go down when interest rates go up. Since interest rates cannot go to zero or below, it logically follows that interest rates have nowhere to go over the long term but up. Perhaps, as many believe, federal intervention may keep rates low for another year or so. But in the longer run, the powerful forces of the market can only be contained for so long.
Yet given what I've already said, we continue to see that bond mutual fund inflows remain at a record high, while simultaneously equity fund outflows are some of the largest on record.
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In searching the Internet for a long-term graphic on 10-year U.S. Treasury notes I came across the following 110-year chart courtesy of the financial blog Observations. Although the chart from 1950 through 2010 illustrates a clear mirror image of interest-rate behavior, the portion going back to 1900 is even more illuminating. This is not statistical mumbo-jumbo showing correlation without causation, this is a factual depiction of interest rates spanning over 110 years.
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To summarize, the only rational reason that people are eschewing stocks in favor of bonds is fear. The precipitous drop in stock prices during the great recession has yet to be forgotten. On the other hand, what is forgotten is the fact that the same thing can happen to bonds as well. Therefore, I believe the irrationally exuberant confidence in bonds is ill-gotten. The only reason bond prices haven't fallen in 30 years is because interest rates have been falling since the early 1980s. When interest rates fall, bond prices go up and therefore an even greater aura of safety surrounds bonds. Keep in mind; although prices on pre-issued bonds will go to a premium as interest rates are falling, the premium vanishes at maturity.
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Additionally, there are several facts regarding the long-term ownership of quality dividend paying equities that many people either overlook or forget. But perhaps the most important fact is that any of the damage that the great recession caused was only temporary in nature for the prudent and intelligently patient investor. The prudent investor is defined as one who in the first place, was careful to only invest in blue-chip equities when valuations made sense. This is especially true for the best-of-breed blue chips that continued to generate strong earnings during the recession and consequently raised their dividends. Inevitably, the stock prices on quality companies whose earnings held up eventually return to fair value.
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In other words, as long as the stocks were not panic sold out into price weakness, existing shareholders soon recovered their temporary losses while continuing to enjoy a steadily growing dividend income stream along the way. As I also stated before, it’s not the volatility itself that represents risk, but rather the emotional reaction to volatility which is where the real risk sits.
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As I have contended in this article, and others, as long as solid operating results remain intact, then I believe that shareholders have little to worry about except fear itself. Stock price volatility is often more a function of the emotional response than it is the rational response in the short run. However, in the longer run, I have long believed that dialectic thinking will prevail and rational behavior will follow. In other words, I was confident that stock prices will inevitably return to their fundamentally justified valuations.
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There are many pundits and prognosticators that never weary of attempting to convince investors on how risky it is to invest in equities, even high-quality dividend blue-chip paying equities. Invariably, they will always point to volatility as the evidence supporting their thesis that stocks are too risky of an investment for retirees. Personally, I believe this is a great travesty that is prominently promogulated upon an unwary investing public. Hopefully, it is more out of ignorance of the true facts than it is by bad intentions. The inevitable interruptions in the business cycle have conditioned people into believing that stocks are riskier than they really are, at least in my opinion.
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As I have discussed in this article and many previous articles, I believe investors should behave according to the advice of legendary hockey star Wayne Gretzky who taught us "I skate to where the puck is going to be, not where it has been." In that vein, I believe that tomorrow successful investors will follow Wayne Gretzky's lead.
For the past several decades bonds have been a great refuge of safety and attractive return, especially for the investor desirous of income. But I believe a careful examination of the 110-year-old 10-year Treasury bond history presented in this article indicates that that is about to change. Conversely, I believe the future for US based dividend paying equities is quite bright. At least that is where I recommend skating in today's investment environment.
Comments
Not entirely. I believe distrust is absolutely a primary reason - many people's faith and trust in the financial system is broken and that's simply going to take time. People who are near retirement age and just went through the worst financial crisis in history are - in many instances - not going to take major risks again.
I mean, look at mutual fund flows - three years of near-constant outflows from equity funds (mostly domestic, which I find fascinating) and into bonds, which shows no signs of stopping. That - to me - looks like an orderly flow of people out.
Are bonds the right choice? Fundamentally no, but that's where people are - they don't want to take the risk of equities and when you take away any sort of interest on checking or CDs, people flock to all sorts of bonds and you get an angry mob of seniors who are upset they aren't getting much interest on their fixed income and who get 0.0000000000001% on their CDs.
Additionally, as for the market, Flack said it well in another thread: "I know that a few of you will say, “But that didn’t happen in 1952 or 1968 or whatever year.
I don’t know how many times I’ve said this but this is not your father’s stock market.
You father wasn’t matched up against computerized trading that doesn’t give a rat’s ass
about fundamentals.
This means that you should evaluate the market conditions
as they are currently and forget about what the market was like
some 30, 40, and 50+ years ago."
...and I think a fair amount of retail investors are also starting to get that - that the balance of power has shifted even further out of their favor.
Part I..........................
First, I appreciate your efforts for your postings; and in particular taking the time to pull the text from this article.
I'll offer my viewpoint, from the same age perspective as the writer of the article; but no stretch of the imagination as to his experience or financial studies background may compare to my limited formal financial studies. I do not have a document to hang upon a wall indicating a graduation status. However, I differ in what and why I see or find; in relation to the article writer.
The article notes:
"There is a confluence of factors that are painting a very odd picture of current investor behavior. Common sense and a careful analysis of the market dynamics between equities and bonds today would indicate that investors should be acting in the exact opposite manner than they are. Interest rates are hovering at a 100-year low, which creates two problems for investors. First, there is not enough return from bonds to fund a retiree's income needs or to fight inflation. Second, investing in bonds with interest rates so low makes it riskier to own bonds today than it has been in over a century.
>>> As to a "sense", I don't find the behavior of many investors out of place. I do not have the time to write a paper about all of the statistics; but some of the basic considerationss would be who are these investors? What are the clusters by age and whether the monies being discussed have been filtered for those who are active in monthly 401k, IRA and related investment types, versus those who already have the bulk of their contributions in place; being the baby boomers and are a whole other statistic. Yes, there is not enough yield from current bonds to fund a retirees (at this point the writer indicates a specific group) needs. This assumes a buy and hold circumstance; as many bonds are at a negative and flat yield return relative to inflation. Our house finds no reason to presume we will buy and hold some bond fund positions; and this is the key point for any investor. One had better pay attention, or stay away from the markets, including the equity sectors.
Nevertheless, investors are not only making a classic mistake, I believe they are making a very obvious and thus quite avoidable mistake. It is an undeniable fact that bond prices go down when interest rates go up. Since interest rates cannot go to zero or below, it logically follows that interest rates have nowhere to go over the long term but up. Perhaps, as many believe, federal intervention may keep rates low for another year or so. But in the longer run, the powerful forces of the market can only be contained for so long.
>>> Some of this section is based upon a presumption of a solid economic base. Many countries, of economic power, are not on any solid ground at this time. Interest rates may indeed go up in the long term; but what is this long term? Is this term 3-5 years away, versus a year? So called bond vigilantes can cause moves in rates of some countries, as in Europe. At this time, I do not feel these folks have enough money to begin to offset the ability of the Fed and/or Treasury to provide whatever actions they see fit to operate.
Yet given what I've already said, we continue to see that bond mutual fund inflows remain at a record high, while simultaneously equity fund outflows are some of the largest on record.
>>> I susupect part of this money flow; although I don't have access to such data, is that in spite of some pension funds playing in the hedge funds and other "asset" allocation areas, many pension funds will maintain portions of their holdings in bonds for the long term; and likely with the hope that they can "leverage" movements in prices.
In searching the Internet for a long-term graphic on 10-year U.S. Treasury notes I came across the following 110-year chart courtesy of the financial blog Observations. Although the chart from 1950 through 2010 illustrates a clear mirror image of interest-rate behavior, the portion going back to 1900 is even more illuminating. This is not statistical mumbo-jumbo showing correlation without causation, this is a factual depiction of interest rates spanning over 110 years.
>>> While looking at long term, historical charts and graphs can be interesting; I find little value in attempting to establish relationships from the "wayback" machine to anything today. While the average life span of a U.S. male was age 53 one hundred years ago, it surely has little value today in making assumptions about a statistic going forward, based upon 100 year old charts and graphs. If this statistic still had value today; it is likely that half of us using discussion boards......would not be; as we would already be pushing daisies up from the dirt. And the discussion about problems with Social Security would be a "non-issue", eh?
To summarize, the only rational reason that people are eschewing stocks in favor of bonds is fear. The precipitous drop in stock prices during the great recession has yet to be forgotten. On the other hand, what is forgotten is the fact that the same thing can happen to bonds as well. Therefore, I believe the irrationally exuberant confidence in bonds is ill-gotten. The only reason bond prices haven't fallen in 30 years is because interest rates have been falling since the early 1980s. When interest rates fall, bond prices go up and therefore an even greater aura of safety surrounds bonds. Keep in mind; although prices on pre-issued bonds will go to a premium as interest rates are falling, the premium vanishes at maturity.
>>> No ! The past 5 years do not have a direct relationship to why and/or what caused interest rates to continue down for the prior 30 years the writer mentioned. This statistic was reset in 2007 and remains in place today. The so-called "aura" of safety is always in the eye of the beholder. What safety did a large percentage of individual investors, pension funds and many prominent investment and economic thinkers discover beginning in mid-2007. Had many of them used the most simple study of 50/200 moving averages; let alone all of the other statisical data that really started to flip and become nasty after October, 2007; they could at least have dialed down their exposure to some equity sectors. From my recall, a buy and hold of equities from and during the market melts of 2008/2009, hit a breakeven point in the fall of 2011.
Additionally, there are several facts regarding the long-term ownership of quality dividend paying equities that many people either overlook or forget. But perhaps the most important fact is that any of the damage that the great recession caused was only temporary in nature for the prudent and intelligently patient investor. The prudent investor is defined as one who in the first place, was careful to only invest in blue-chip equities when valuations made sense. This is especially true for the best-of-breed blue chips that continued to generate strong earnings during the recession and consequently raised their dividends. Inevitably, the stock prices on quality companies whose earnings held up eventually return to fair value.
>>> There is no problem with owning quality dividend paying stocks for the potential of the dividend and the price appreciation of the underlying company(s). But, when the mood is not to the favorable side of equities in general; not unlike rising interest rates affecting and pushing down the value of bonds; the dividend is of little consequence and will be offset by falling prices of the company(s).
In other words, as long as the stocks were not panic sold out into price weakness, existing shareholders soon recovered their temporary losses while continuing to enjoy a steadily growing dividend income stream along the way. As I also stated before, it’s not the volatility itself that represents risk, but rather the emotional reaction to volatility which is where the real risk sits.
>>> If the time frame was noted; we would have a better understanding of this "recovery period" noted here.
As I have contended in this article, and others, as long as solid operating results remain intact, then I believe that shareholders have little to worry about except fear itself. Stock price volatility is often more a function of the emotional response than it is the rational response in the short run. However, in the longer run, I have long believed that dialectic thinking will prevail and rational behavior will follow. In other words, I was confident that stock prices will inevitably return to their fundamentally justified valuations.
>>> This is a critical point, indeed. Solid operating results. Except when the market movers don't really give a rip about any of this; and will rely instead upon the minute functions of algorithms and only attempt to make a tiny percentage profit in each and every minute of a trading day; and then to do the final math at the end of the day to find whether the profit for the day was better than 1%.
There are many pundits and prognosticators that never weary of attempting to convince investors on how risky it is to invest in equities, even high-quality dividend blue-chip paying equities. Invariably, they will always point to volatility as the evidence supporting their thesis that stocks are too risky of an investment for retirees. Personally, I believe this is a great travesty that is prominently promogulated upon an unwary investing public. Hopefully, it is more out of ignorance of the true facts than it is by bad intentions. The inevitable interruptions in the business cycle have conditioned people into believing that stocks are riskier than they really are, at least in my opinion.
End Part I.....................
>>> Risk exists period. Pick whatever sector you choose and the risk is there. The writer notes: "Hopefully, it is more out of ignorance of the true facts than it is by bad intentions." We do our best here to understand the variables and machinations in place. We readers; at least as to what I read from this writer, does not explain or express what the "true facts" may be to rest this article upon. It is apparent from my personal view, that what the writer understands or knows to be "true facts" are not always from the same perspective or knowledge base.
As I have discussed in this article and many previous articles, I believe investors should behave according to the advice of legendary hockey star Wayne Gretzky who taught us "I skate to where the puck is going to be, not where it has been." In that vein, I believe that tomorrow successful investors will follow Wayne Gretzky's lead.
>>> This is a correct statement and example. While the writer uses this fine quote, I feel it partially dissolves his giving credible meaning to his thoughts regarding the "old" data. His expression of the value of the "old" data is "where the puck has been".
For the past several decades bonds have been a great refuge of safety and attractive return, especially for the investor desirous of income. But I believe a careful examination of the 110-year-old 10-year Treasury bond history presented in this article indicates that that is about to change. Conversely, I believe the future for US based dividend paying equities is quite bright. At least that is where I recommend skating in today's investment environment."
>>> Again.........His expression of the value of the "old" data is "where the puck has been". Equities will likely be bright again; with some sectors shining brighter than others. Our challenge is to discover the "whens" with any sector or type of investment.
I am not so sure that the past several decades have been the place for investors attempting to discover income. The majority of baby boomers were not invested directly into bonds. The motivating factor as to large bond positions have been/were held by many pensions funds, in my opinion.
As this house is of the "boomers", I will mention again; as been stated before also at FundAlarm; I still feel many economists and related writers and advisors are still having a problem coming to grips with the social/economic changes that have taken place.
I still point a finger at some today on the tube who I feel have not made the transisition to this new world of investments. I make this statement from the position of our house having been 90% equity investors since 1978. Today, we are not at this time. This too, may change.
Finally, if we were 15-30 years younger, and knowing we would have continuing cash flow into this house from employment vs pending retirement; we would be slinging some money at the etf market place and playing with some of our monies in this space, which is the "new" area of what was the options and futures markets of 20 years ago.
Kenster, thank you again for this part article.
Best to all in this turbulent investing period.
Regards,
Catch
1. Herbalife. I don't know the fundamentals of Herbalife or what the company is all about, but you have David Einhorn asking a few questions on a conference call and the stock drops 20% instantly. The company may suck, but because one short seller asks a couple of questions, the stock instantly sells down 20%.
2. Naspers. This South Africa-based EM media conglomerate owned a little bit of FB, but is otherwise a business with cable, print and lotsa other e-commerce businesses (including a holding in China's huge social media company, Tencent) across emerging markets. It's a company that started in 1915 and managed to reinvent itself as a pretty interesting modern day media company. However, because of the social media and facebook association, the company's going to get creamed.
The Naspers instance is more something that gets marked down unfairly, but both kind of speak to a market that is increasingly skittish (sell first, ask questions later, and the problem is by the time the little person could think about selling, institutional buyers have dumped instantly) and has an increasingly short time horizon - a time horizon that's practically zilch in many cases at this point. I don't own either, although I think Naspers is an interesting EM name (but it's a matter now of how long is it soured by what happened to FB.)
Bigger picture, people move from sector-to-sector, EM is great for a while and then it's not and then it is. Consumer-related EM names have held up much better than EM overall - and while I think that's a good long-term story, like anything else it'll go in and out and in and out and in favor again, probably quickly.
Yes, computers are investing for the next 30 nanoseconds but the point is to try to hold your stock/bond balance within reasonable range. If you're say an average 39 year old investor then maybe 80% stocks is a bit too aggressive and also 80% bonds could be a bit too conservative. If you've normally been comfortable the past few years with a 60/40 stock/bond allocation but recently have gone to a bit more conservative stance to say 50/50 --- then that's perfectly fine especially considering this investor is adding new money periodically in their 401k.
In early 2009 - I have seen investors including acquaintences I've met at parties who dumped ALL of their equities at that time.
My own take-away I have from the article is not to replace drastic amounts of bonds with equities but to be careful about overdoing the fear factor and not investing in stocks at all or barely doing so out of fear. Again, I ramped up my investing in equities actually during the aftermath of the dotcom crash and I came away beautifully for it. What's the big deal as the stock market goes up and down while you're adding say $500 or $1000 a month to your Retirement fund.
The reason why HP, Nokia, Motorola, Dell and RIMM stocks have been down, down, down and McDonalds, Apple, Visa and Mastercard stocks have been up and up has all been about their business and not because of fast-trading computers. Visa and Mastercard were a good buy on the dips after they debuted --- especially if your investment horizon is longer than 30-nanoseconds or 30-seconds or 30-days.
The short-term stock movement is based on a voting machine but in the long-term it's based on a weighing machine.
Nothing is wrong with being a bit more defensive these days especially if the macro environments worry you and would cause some sleepless nights but the perspective offered in the article is dead-on as least for me....not for overweighting nor replacing bonds with stocks but for understanding why I should hold on and continue investing new money in a balanced portion of equities in my portfolio. Like I said before --- adding new money periodically bit by bit, month by month as the markets went lower and lower was an awesome time for me.
We're getting closer and closer to juicier and juicer valuations.
I don't disagree with a fair amount of what you said in theory, but I do disagree with the reliance on the old "things will work out okay if you have a long enough time horizon." This is not the same market as a decade or two ago, and I tend to go with a different quote: "Past performance is not an indicator of future results."
There are great stories, there are companies with great fundamentals. However, you have to keep - I think - more skepticism in mind rather than relying on things like "The short-term stock movement is based on a voting machine but in the long-term it's based on a weighing machine." I think there are great things to own for the long-term, but I think you have to proceed with a lot more caution in mind and have FAAAAAAAR higher conviction than in years prior if you're going to stick with something.
The long-term view is no guarantee, but it's either be out, have a long-term view or be a trader trying to keep up with this.