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The Indexer Who Was Saved By His Stock Picks

I am an indexer who completely understands that most professionals and most retail investors do not match the simple long term market index gains available. Benchmarking is important even for those with lower risk balanced portfolios. I have been correcting my Canadian home bias by dollar cost averaging portfolio income into U.S. holdings, that is starting to pay off. In 2014, ironically it was my 5 individual stock picks that carried the day for this indexer. 2014 was a very solid year for the stock markets and a very solid year for those with balanced portfolios. In fact, many investors with balanced portfolios were able to obtain near market gains, or market beating gains with much lower volatility. Based on risk adjusted returns, 2014 was certainly the year of the balanced portfolio. In 2014 and according to low-risk-investing.com the U.S. markets (NYSEARCA: SPY ) delivered 13.5%, a broad based bond index (NYSEARCA: AGG ) delivered 6%, long term Treasuries (NYSEARCA: TLT ) delivered 27.3%, International Markets (NYSEARCA: EFA ) delivered -6.2% and the Canadian Markets (NYSEARCA: EWC ) delivered 1.1%. Most of the poor results in the Canadian and International holdings for US investors were courtesy of the very strong US dollar. The Canadian markets (TSX capped composite) actually delivered 7.4% to a Canadian in 2014 according to Standard and Poor’s. On the dividend growth front the dividend aristocrats (NYSEARCA: NOBL ) delivered 15.6% while the Dividend Achievers (NYSEARCA: VIG ) delivered 9.5% in 2014. Higher yielders (NYSEARCA: VYM ) delivered 13.5%. A simple balanced portfolio with 66.6% SPY and 33.3% comprised of AGG and TLT would have delivered a very healthy 14.5% in 2014. A 50/50 stock to bond portfolio of same parts would have delivered 15.1% in 2014, and that’s with a portfolio of a volatility level of 4.8% compared to 8.2% based on the beta metrics applied on low-risk-investing.com. TLT delivered on so many fronts in 2014. I often suggest that readers consider TLT as portfolio insurance as long term treasuries often offer an inverse relationship to the equity markets in modest to severe market corrections. Here’s my article , “The Best Market Correction Insurance”. Certainly not many would have predicted that TLT would beat the pants off of the equity markets in 2014 but that was the case. I suggest TLT for periods such as this example when the markets were throwing a little tantrum. Here’s TLT vs. SPY from January 1 of 2014 to March 30 2014. The x axis represents months in duration, the y axis represents returns. TLT is in racing green. The markets are skittish, and TLT delivered in 2014 even in the most minor of corrections. TLT finished the year very strong as oil price concerns added some uncertainty. In 2014 I put my Cranky Maneuver into play with respect to our discount brokerage accounts at TD Waterhouse. For context, this investment story begins in the early to mid part of the 2000s when my approach involved a combination of ETFs and a few individual company holdings. I did very well approaching and moving through the market correction, yes I beat the broad market indices by a very large degree by buying when markets corrected and by taking on even more risk by investing in small cap and higher risk sectors such as materials and developing markets. I was also lucky enough to invest in one of Canada’s best managed funds ever – Sprott Canadian Equity. I was also lucky enough to make a mistake and have a terrible Canadian home bias. Canadian markets did very well in the last decade for U.S. 2000-2009. I was also lucky enough to have Barrick Gold (NYSE: ABX ) as a client at the time, and as I was hanging around with and befriending gold bugs they encouraged me to buy a healthy allotment of gold investments. I sold out of those toward the top of the gold price trend. Here’s Barrick from early 2002 to year end 2011. (click to enlarge) When all was said and done, I found myself with meaningful monies (well at least to me) moving out of the recession. I quickly, and early in the recovery, began moving to a more balanced approached to protect those gains. I will admit that my very conservative approach has left some money on the table if I consider the market gains that have been available from 2011. But my goal was to protect assets and create a very low volatility portfolio. Even entering 2014 our discount brokerage accounts were in the area of only 30-40% equities, and they entered the year with a still pronounced Canadian home bias (not enough US or International exposure). The portfolios displayed a very crazy low beta of .2 through any market turbulence in the years approaching 2014. In retrospect I was too conservative, especially considering that I had displayed a very high risk tolerance level through the market corrections of 2000 and the Great Recession. That said, my goal for 2014 was to ‘fix’ my home bias on the fly by investing all portfolio income into the US holdings. That strategy was designed to perform 2 functions, it would increase my equity exposure and growth potential, and it would also gradually increase my US exposure. It is also an interesting risk management tool or strategy. In rising equity markets the portfolio is obviously increasing in value while the volatility level also increases with that added equity exposure. Two measures are increasing the equity component, new monies put into the equities and those rising equity prices. The risk is managed by way of that higher portfolio value. I can look at my portfolio and say that based on historical performance of certain stock to bond allocations, my portfolio value might only drop by 15% in a 50% stock market correction. If a portfolio value went from $220,000 to $250,000 in the year and that $250,000 portfolio might potentially only fall to $212,500 in a severe correction – that draw down might be easy to stomach. The increased risk is managed by a rising portfolio value. In 2014 I was able to move the brokerage accounts to the area of 50% equities – I am happy to play this market scenario down the middle. The portfolios are set up to protect capital and they are also set up to take advantage of any real market correction that might occur. Based on the teachings of Benjamin Graham I am more than willing to move my portfolio back to 75% equities or more if ‘normal’ valuations ever return. I would or will even borrow $250,000 to invest in equities if a real opportunity presents itself. OK, to the returns for this Scaredy Cat investor. Our discount brokerage accounts offered returns in the area of 8.4% to 21% based on the return calculation function on TD Waterhouse accounts. With the best news first here’s the chart for that best performing account. Here are the returns for calendar year 2014 at 20.6%. What’s of interest in that chart is the currency adjusted benchmark of the S&P 500, it shows returns above 20% for Canadian investors. (click to enlarge) We can see that the healthy returns in this account are related to an event in August of 2014, and that event was the purchase of Tim Hortons (THI) by Burger King (BKW). I sold out all of my Tim Hortons at silly profits. As you may know Tim Hortons is the only individual pick that I hold “on purpose”. I knew the company well having been a creative director of the business back in the day when they were originally spun off from Wendy’s (NASDAQ: WEN ) in 2007; then I was a buyer. As I wrote in this article selling all of my Tim’s was a no brainer, I then put some of the profits into Berkshire Hathaway (NYSE: BRK.B ). From September of 2014 BRK.B also had a healthy beat of the market delivering a 9.4% return compared to 3.5% for SPY according to low-risk-investing.com. This Canuck of course also had an additional currency boost included in those BRK.B dollars thanks to the U.S. dollar. Do I wish I had put all of my Tims’ profits into BRK.B? Yes. And here are the returns for one of our other discount brokerage accounts. (click to enlarge) Solid returns for a very low beta portfolio, but I certainly paid for my Canadian home bias. I would have been in better shape to cut the Canadian cord and move to a more sensible US and international equity exposure at the end of 2013. But I have no regrets having recognized my ‘mistake’. I openly admit to fixing my mistakes on the fly. Sometimes your mistakes pay off (the lost decade for me) and sometimes they don’t. But the key might be that benchmarking allows you to recognize your shortcomings and fix your portfolio. So why do I think I underperformed the benchmark in that account when my incredibly low beta portfolio beat the Canadian Stock Market Benchmark? Because of this chart showing the returns for the Tangerine Portfolios. The returns are for the calendar year 2014. (click to enlarge) I would consider the Tangerine Portfolios a benchmark. They are comprised of the market indices of Canada, U.S., International along with a broad base Canadian bond index. The portfolios are rebalanced. Most of our new monies are invested into the Tangerine Balanced Portfolio in a Tax Free and RSP (Retirement Savings Plan). The Balanced Income Portfolio holds 70% bonds, the Balanced Portfolio holds 40% bonds. I have similar returns (to the 8.39% annual) in our third major discount brokerage account, but those returns were aided by the three individual stock holdings of Enbridge (NYSE: ENB ), TransCanada (NYSE: TRP ) and Apple ( AAPL ) all of which outperformed the Canadian and U.S. market indices. Apple was added in June – let’s call that a company I hold on purpose as a growth candidate. Enbridge and TransCanada are simply companies that I could not bring myself to sell when I made the switch to indexing. Apple was purchased with the same reasoning that was behind the Tim Hortons purchase – it is a company with incredible sales and profit growth and is one of the strongest brands on the planet. As a still recovering Ad Guy I don’t mind using brand strength as a guideline for a stock pick or two (I allow myself to have a little fun when investing) and I hope that Apple turns out to be as profitable as the Tim Hortons venture. So far, so good. Here’s Enbridge and TransCanada combined total return vs. SPY over the last 10 years, courtesy of low-risk-investing.com. The time horizon is January 1, 2005 to December 31, 2014. Those two dividend challengers can stay around as long as they like – but I don’t pay them much attention. All combined, our 3 major discount brokerage accounts delivered just over 11% in 2014. Of course on a risk-adjusted return evaluation that’s more than good. I beat the Canadian index with portfolios that started year with beta(s) in the area of .2. But I did give up some gains with that tardy rebalancing. I would estimate that it cost me several thousand dollars. It’s best to use benchmarking to identify weakness and put those mistakes into dollars and cents and then extrapolate those lost returns into the future. We should know the cost of our mistakes and underperformance. Moving forward I plan to continue to invest new monies into the Tangerine Balanced Portfolio, and all portfolio income in the discount brokerage accounts will be invested into U.S. equities. It’s possible that if there is a major drop in the Canadian markets some portfolio income (in the name of rebalancing) will be redirected to Canadian ETFs. Energy is certainly taking its toll on Canadian energy companies and potentially the Canadian economy. My “Learnings” Moving to eliminate my Canadian home bias was a common sense decision. A tardy rebalancing approach led to two self-directed portfolios underperforming their assigned benchmark. The non-thinking Tangerine Balanced Portfolio continues to teach me lessons that I do not always respond to. I am comfortable making a stock selection or three. A future article will explore that strategy of holding a market index as a core and then confining a few stock selections to what an investor actually knows quite well. If one is going to be a “stock picker” perhaps there is value in buying fewer companies; but companies that an investor can hold with extreme confidence. Thanks for reading, happy benchmarking, be careful out there and always know your risk tolerance level. And I’ll add “Got International?”.

Adams Express: A Good Fund, But Recent Changes Are A Risk

ADX has a storied history unique in the CEF space. That said, ADX recently went though a management change resulting in a new investment approach. Although history suggests ADX is a solid CEF offering, the new manager has yet to be tested by a notable downturn. Adams Express (NYSE: ADX ) traces its history back to 1929 . It’s paid a dividend consistently since 1935. Unlike most closed-end funds, or CEFs, it is its own company with no sponsor to appease. The longevity, a mandate to distribute at least 6% of assets annually, and low expenses are all good reasons to own Adams. However, you’ll need to take a step back and consider the new guy at the top before you pull the trigger. I did it my way Adams Express really is an odd duck for a CEF. While most CEFs are sponsored by major financial companies, which get paid to manage the funds, Adams is a company unto itself. In fact, the CEO heads up the investment process. I highly doubt the CEO of Eaton Vance Corp (NYSE: EV ) has anything to do with the closed-end funds his company sponsors. And Adams Express has an impressive history of paying dividends. For example, between 2007 and 2014 the CEF paid out $18 a share in distributions. It started that period out with a market price of around $13 a share. It’s recently been trading hands at around $13.50 a share. If you lived off of those dividends you can’t exactly brag about capital appreciation, but you certainly can’t complain that your capital has been slowly returned to you, bleeding the fund’s assets in the process. And the CEF has an extremely low expense ratio at around 0.6%, according to the Closed-End Fund Association . It isn’t unusual to see closed-end funds with expense ratios two to three times greater than that. Low costs are a true benefit to shareholders over the long term. But what about management? All of the above points are solid reasons to consider Adams Express as a long-term holding for your portfolio. That said, there are some reasons to avoid it, too. For starters, the 6% dividend policy ensures that distributions will fluctuate from year to year. And, generally, the CEF pays three small distributions and then one large one at the end of the year. If you are looking for regular income, this isn’t the best option. But the bigger issue is actually management. In 2013 , Mark Stoeckle replaced long-time CEO Douglas Ober. Stoeckle has over 30 years of experience in the finance industry, spending time at BNP Paribas, Liberty Financial, and Bear Stearns. At BNP he was the Chief Investment Officer for U.S. Equities and Global Sector Funds. That’s not a bad pedigree. That said, as you might expect, he came in, took a look at the portfolio, and made some changes. That’s what all new managers usually do. But, more important, it meant a 55% turnover for the fund in 2013. In the four prior years, the highest turnover was roughly half that at 27%. Turnover through the first nine months of 2014 was around 30% on an annualized basis. So he’s clearly gotten the portfolio pretty close to the way he’d like it. However, his approach at Adams Express hasn’t been tested by a major market downturn. That fact alone is enough reason to take a wait and see attitude, or to at least start slowly and build a position over time. Still, it’s worth delving into what Stoeckle does. For starters, he, wants to, “…invest in good businesses. These types of companies typically have a visible growth path and a defendable market position that they can use to their advantage.” He’s also fond of business operating in an, “…improving competitive environment…” That’s step one. He also wants to see a management team that has demonstrated its ability by, “…generating cash flow and using that cash to prudently grow the business and fortify its market position and balance sheet…” And before pulling the trigger he also wants to make sure he’s getting a good deal, making valuation a chief concern. After a stock is in the portfolio, meanwhile, Stoeckle and his team set milestones against which to grade each company’s performance. This all sounds great. But it’s roughly similar to things I’ve heard and read from hundreds, if not thousands, of pooled investment vehicles (mostly open-end mutual funds in my former life as a mutual fund analyst for a financial publishing company). Having a good story doesn’t mean you’ll have good performance. That’s not to say that posting a one-year gain of about 13% in 2014, roughly in-line with the broader market according to Morningstar, was a bad showing. Quite the contrary; job well done. But remember, 2014 wasn’t 2007 or 2008, when the broader market was, well, a little less hospitable. So, a new manager who’s only recently gotten Adams Express into fighting shape is a good reason to pause before you pull the trigger. And while the fund is trading at an around 14% discount to net asset value, that’s actually in line with the fund’s average over the last five and 10 years. So it’s probably fairly priced right now, but certainly not cheap. Not ready to pull the trigger I like Adams Express based on its long-term history and unique profile. But I’d wait until the market shakes things up a little before buying. I just want to see how the new CEO handles a bad market.

Arctic Cold Brought Up UNG – For A Short Time

Summary Colder-than-normal weather brought up the price of UNG. EIA still estimates this year’s natural gas price to remain lower than last year’s. This week’s extraction from storage is estimated to be higher than the 5-year average. The recent news of possible Arctic weather in the coming week pushed up back up the price of United States Natural Gas (NYSEARCA: UNG ) to pass $16 at one point. Since then, however, its price resumed its descent. The price of UNG ended last week at $15.69 – representing a 4.6% gain, week over week. Despite the recent rally in UNG, it’s still 16% down in the past month. The cold snap drove up the U.S. consumption by nearly 7%, week over week. Most of this gain was in the residential/commercial sectors. Despite the low prices of natural gas, the U.S. natural gas output is still up by roughly 10% for the year. If prices were to remain low, however, this could eventually curb down the growth rate in the natural gas output in the coming quarters. But the main issue revolves around the potential changes in the demand for natural gas mainly in the residential/commercial sectors. Over the next couple of weeks, the temperatures mainly in the Northeast and Midwest are projected to be lower than normal. In the west coast temperatures are expected to be higher than normal. Conversely, this week, the current outlook for the heating degrees days shows lower than normal levels. Nonetheless, it seems that the low temperatures are likely to keep driving up the demand for natural gas for heating purposes. Let’s turn to the latest from the natural gas storage. Last week’s Energy Information Administration update showed a 236 Bcf extraction from storage – this was 46 Bcf higher than the 5-year average. But it was also 51 Bcf below last year’s extraction. Source: EIA This week’s extraction from storage is likely to be, again, higher than the 5-year average. Keep in mind, last week’s deviation from normal temperatures was, on average, -4.29. The lower-than-normal temperatures may result in higher than normal withdrawal. Even though the changes in storage provide an indication for the changes in the demand and supply for natural gas on a weekly scale, as I pointed out in the past, the relation between the prices changes in UNG and shifts in storage tend to have a low correlation. This is mostly on a week-to-week examination. On broader scale, however, lower extractions from storage tend to keep UNG down and vice versa. Looking forward, if the extractions from storage were to remain roughly 10% lower than the 5-year average, this could bring the natural gas storage in line with the 5-year average by the time the injection season commences. This is shown in the chart below. Source: EIA The EIA also estimates that the natural gas inventories will be roughly in line with the 5-year average by the end of March 2015. On a yearly scale, the EIA still expects natural gas prices to remain low in 2015 – the annual average price is estimated at $3.44; this is roughly 22% lower than the average yearly price in 2014. The uncertainty in the weather forecasts in the next couple of weeks could lead to big swings in the price of UNG – as was the case in recent weeks. Nonetheless, if temperatures don’t fall below current estimates, this could result in UNG resuming its descent. For more see: Has the Weakness in Oil Fueled the Decline of UNG?