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Financial ETF: XLF No. 5 Select Sector SPDR In 2014

Summary The Financial exchange-traded fund finished fifth by return among the nine Select Sector SPDRs in 2014. Along the way, the ETF had its roughest month of the year in January, when it dipped -3.63 percent. Seasonality analysis indicates the fund could have a tough first quarter. The Financial Select Sector SPDR ETF (NYSEARCA: XLF ) in 2014 ranked No. 5 by return among the Select Sector SPDRs that divide the S&P 500 into nine portions. On an adjusted closing daily share-price basis, XLF blossomed to $24.73 from $21.49, a burgeoning of $3.24, or 15.08 percent. As a result, it behaved better than its parent proxy SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) by 1.61 percentage points and worse than its sibling Utilities Select Sector SPDR ETF (NYSEARCA: XLU ) by -13.66 points. (XLF closed at $23.92 Monday.) XLF also ranked No. 5 among the sector SPDRs in the fourth quarter, when it led SPY by 2.39 percentage points and lagged XLU by -5.89 points. And XLF ranked No. 2 among the sector SPDRs in December, when it performed better than SPY by 2.11 percentage points and worse than XLU by -1.72 points. Figure 1: XLF Monthly Change, 2014 Vs. 1999-2013 Mean (click to enlarge) Source: This J.J.’s Risky Business chart is based on analyses of adjusted closing monthly share prices at Yahoo Finance . XLF behaved a lot better in 2014 than it did during its initial 15 full years of existence based on the monthly means calculated by employing data associated with that historical time frame (Figure 1). The same data set shows the average year’s weakest quarter was the third, with a relatively small negative return, and its strongest quarter was the fourth, with an absolutely large positive return. Generally consistent with this pattern, the ETF had a huge gain in the fourth quarter last year. Figure 2: XLF Monthly Change, 2014 Versus 1999-2013 Median (click to enlarge) Source: This J.J.’s Risky Business chart is based on analyses of adjusted closing monthly share prices at Yahoo Finance. XLF also performed a lot better in 2014 than it did during its initial 15 full years of existence based on the monthly medians calculated by using data associated with that historical time frame (Figure 2). The same data set shows the average year’s weakest quarter was the first, with a relatively small positive return, and its strongest quarter was the fourth, with an absolutely large positive return. Clearly, this means there is no historical statistical tendency for the ETF to explode in Q1. Figure 3: XLF’s Top 10 Holdings and P/E-G Ratios, Jan. 9 (click to enlarge) Notes: 1. “NA” means “Not Available.” 2. The XLF holding-weight-by-percentage scale is on the left (green), and the company price/earnings-to-growth ratio scale is on the right (red). Source: This J.J.’s Risky Business chart is based on data at the XLF microsite and FinViz.com (both current as of Jan. 9). Three massive equity-market bubbles are associated with the 21st century. The technology sector was ground zero when the first one burst, and the financial sector was ground zero when the second one burst. In the former case, the Technology Select Sector SPDR ETF ( XLK ) had double-digit percentage losses in each of three consecutive years (2000-2002). In the latter case, XLF had double-digit percentage losses in each of two straight years (2007-2008). It plunged by more than one-half in 2008 alone, which means the ETF is distinguished by delivering the worst annual performance by any of the sector SPDRs since their launch in December 1998. With the third massive stock-market bubble associated with the 21st century apparently in the early stage of its own bursting, I anticipate XLF will continue to be a middle-of-the-pack performer among the sector SPDRs, with the biggest risk to this expectation in the short term being the Federal Open Market Committee announcement April 29. On the one hand, the valuations of XLF’s top 10 holdings appear unlikely to function as tailwinds for the ETF’s price appreciation in the foreseeable future (Figure 3). On the other hand, numbers on the S&P 500 financial sector reported by S&P Senior Index Analyst Howard Silverblatt Dec. 31 suggested it is not all that overvalued, with its P/E-G ratio at 1.31. Disclaimer: The opinions expressed herein by the author do not constitute an investment recommendation, and they are unsuitable for employment in the making of investment decisions. The opinions expressed herein address only certain aspects of potential investment in any securities and cannot substitute for comprehensive investment analysis. The opinions expressed herein are based on an incomplete set of information, illustrative in nature, and limited in scope. In addition, the opinions expressed herein reflect the author’s best judgment as of the date of publication, and they are subject to change without notice.

Cohen & Steers REIT And Preferred Income Fund: Not Just A Real Estate Offering

Summary RNP is managed by REIT specialist Cohen & Steers. RNP does not, however, have a strict real estate focus. It might be better to look at RNP as a balanced fund of sorts. Cohen & Steers REIT and Preferred Income Fund (NYSE: RNP ) is an interesting animal that tries to combine in one fund two different investment focuses. For investors seeking simplicity, this could be a good option. For those who want more control over their portfolios, you’d be better off buying a real estate investment trust (REIT) fund and a preferred fund separately. Who is Cohen & Steers? I always include a comment about this company’s origin when I write about it because Cohen & Steers isn’t a household name in finance. But it is one if you are remotely connected to the REIT space. That’s because Martin Cohen and Robert Steers were among the first to create a company dedicated to investing in REITs. They basically helped popularize the space for institutional and individual investors. And, more important, the company they created has lots of experience. If you are thinking about outsourcing your REIT investments to anyone, Cohen & Steers should be on your short list. So, from that standpoint, I like anything they do that involves real estate investing. Only half the fund But that’s only half of what Cohen & Steers REIT and Preferred Income Fund does. The other half of the fund invests in preferred shares. While there’s some overlap, since REITs often issue preferred shares, that doesn’t make Cohen & Steers an expert in, say, preferreds issued by insurance companies. That’s not to suggest that they don’t have the ability to do analyze such securities, just that their business has historically been structured around REITs. And this fund, with only about 10% of its preferred portfolio in REIT preferreds, is definitely more than just REITs. But what exactly is in RNP? Roughly 50% of the fund is, indeed, in REITs. The largest holdings are basically top-quality players. It’s fairly diversified across nine major sectors, with offices, apartments, and regional malls accounted for nearly half of its real estate exposure. Nothing exciting here. Preferred stocks and debt make up the rest of the fund. That side is concentrated in four sectors. Banking preferred stocks alone make up nearly 55% of this side of the portfolio. Insurance, real estate, and utility preferreds are the other big areas. This speaks more to the nature of the preferred market than to anything else, since these group of industries tends to make the most use of preferred stock. It’s worth taking note of the real estate sector’s 10% position on this half of the fund, which means that REITs, in some form, make up about 55% of RNP’s overall portfolio. The big takeaway from that is that this is not a pure real estate investment trust fund. It was never intended to be, but you should keep this fact in the back of your mind if you own it and front and center if you are looking for a pure REIT fund. How’s it done? Looking at total return, which includes distributions, RNP’s trailing ten year return through year-end 2014 was roughly 8% based on the share price (a little under 7% based on the CEF’s net asset value) according to Morningstar. That’s not bad for a fund with an income focus and is roughly in line with the S&P 500 Index over that span. That, of course, assumes the reinvestment of dividends. The price of RNP is down roughly 30% over that span if you used the dividends. Note, however, that dividends over the last six years have totaled roughly seven dollars or so. That pretty much makes up for the entire share price decline right there. While it’s true that the shares are worth less, you have been paid reasonably well along the way… With the other four years of dividends providing the bulk of your take-home return over the span. So, overall, this is a fine fund if you want a decently performing REIT and preferred combo offering. But you’ll need to keep another factor in mind. The big problem RNP makes use of leverage. Toward the end of last year, the fund’s leverage was at around 27%. Leverage is a double-edge sword, aiding performance in good markets and exacerbating losses in bad ones. For example, in 2007 the fund’s return was -27%, according to Morningstar. In 2008 it returned -60%. Those are hard losses to watch unfold and include dividend payments. That said, in 2009 RNP was up 90%, including dividends, and in 2010 it advanced another 50%. So while the fund owns what some would consider “safer” investments, this fund is anything but conservative. This is a fact that shouldn’t be taken lightly. Note, too, that the fund’s inherent exposure to financial preferred stocks on the preferred side of the portfolio were a huge drag during the financial-led 2007 to 2009 recession, when the CEF was hard hit in the market. This type of volatility doesn’t make RNP a bad fund, it just means it’s probably not appropriate for conservative investors. Expenses, meanwhile, at around 1.8%, are elevated by the costs of that leverage. Right now the shares trade at about a 12% discount to NAV. That’s roughly in-line with the fund’s five- and 10-year average discounts of roughly 10%, according to the Closed-End Fund Association. So RNP is hardly on sale right now. But you will be picking up a yield of around 6.75%. At the end of the day The question you have to ask is if that amount of income, most of which has recently been dividend income, is worth the share price volatility that Cohen & Steers REIT and Preferred Income Fund can experience. And the fund is really only appropriate if you want a mix of REIT and preferred exposure in one fund. At the end of the day, I’d say this is a specialty fund most appropriate for those with strong stomachs. It would be a good way, for example, to outsource “boring” sectors and asset classes while still staying true to an aggressive overall investment approach.

Time In, Not Timing, Is Everything

Editor’s note: Originally published on December 22, 2014 Market timing can be a perilous game that long-term investors should avoid playing. It’s difficult to get it right. And the time spent on the sidelines waiting for “the right moment” presents big risks to your portfolio. Last week proved to be a roller-coaster ride for investors and an important reminder for investors to stay the course in the face of short-term market gyrations. Stocks dropped dramatically in the first half of the week, as the price of oil continued to fall and Russia raised interest rates in a desperate attempt to defend the ruble. That all changed on Wednesday afternoon, when the FOMC announcement halted the selloff. The announcement and accompanying projections appeared to soothe markets and actually change the mindset of investors, sending stocks sharply higher. Heading for the Exits Unfortunately, many investors had sold out of stock funds by then and missed that rebound. In fact, according to EPFR Global data, the week ending Wednesday saw the biggest outflows from equity funds since 2005. This is troubling because it shows that investors continue to let their emotions get the better of them. Moving in and out of the stock market based on the headlines is hazardous to the health of investors’ long-term portfolios, and puts financial goals at risk. In light of last week’s market tumult and the response from investors, I feel compelled to repeat the findings of a study published in early 2014 by my colleagues on the Economics & Strategy team at Allianz Global Investors. Their research shows the dangers of market timing. Specifically, the study looked at the performance of the Datastream US Total Market Total Return Index from 1973 through the end of 2013, comparing four different investment approaches: 1. Investing $100 at the start of the first year and adding an additional $100 at the start of each subsequent year. 2. Investing $100 on the day of the lowest index level of the year and adding an additional $100 each year on the day of the lowest index level of that year—the best day of the year to invest. 3. Investing $100 on the day of the highest index level of the year and adding an additional $100 each year on the day of the highest index level of that year—the worst day of the year to invest. 4. Investing $100 each year at the start of the year as in the first approach, but assuming one misses the returns of the best three trading days in each year. The results provide a strong cautionary tale: Time in the market beats timing the market. The returns are actually quite similar in the first three hypothetical scenarios, ranging from 11% to 11.9% in annualized terms. However, the fourth hypothetical produces dramatically lower performance: an annualized return of just under 1%. In other words, it doesn’t matter when you get in, it matters that you stay in for the long haul. Equally compelling are the results of Morningstar’s research on the disparity between mutual fund returns and mutual-fund shareholder returns. Over the 10 years ending Dec. 31, 2013, Morningstar found a widening performance gap between investors and the funds themselves. That makes sense given that investors became extremely risk averse in the wake of the global financial crisis, shunning stocks even as they rebounded. The scars from the crisis clearly run deep and have exacerbated investors’ emotional responses to market events. Breaking down the numbers, Morningstar shows that the typical investor gained 4.8% on an annualized basis over that 10-year period versus 7.3% annualized for the typical mutual fund. The gap is caused by the investor’s time (or lack thereof) in the stock market. In fact, market timing takes a bigger bite out of investor returns than fees for active management. Poor Timing Mutual fund flows in 2012 reveal the perils of market timing. Flows in 2012 Show Poor Timing 2012 Flows ($ Billion) Subsequent Return 2013 (%) U.S. Equity -93,677 35.04 Sector Equity 3,264 18.90 International Equity 13,604 13.19 Allocation 20,399 15.40 Taxable Bond 269,760 0.15 Municipal Bond 50,313 -3.40 Alternative 14,781 -4.85 Commodities 1,365 -9.10 Source: Morningstar. Looking ahead to 2015, we expect more market turbulence and rotation among different styles and asset classes. In this type of environment, it’s critical that investors remember the importance of developing a long-term plan in an emotional vacuum—and adhering to it even when the world around us seems to be panicking. In short, investors don’t plan to fail, but they often fail to plan. The key is to have a plan—and then stick with it. These are words to invest by as we prepare for 2015 and beyond.