Tag Archives: nreum

My Favorite Low Fee ETFs And Mutual Funds For Domestic Equity

Summary Investors should be comparing several options when picking the ETFs or mutual funds they want to use. I’ve collected several of the ETFs that I think are very strong contenders for best of breed status. These ETFs tend to have low expense ratios and offer very diversified domestic exposure. I’m concerned that the market prices are relatively high. While I expect long term prices to go up, I want to protect against short term weakness. Because I’m concerned about weakness in the market, I see SCHD as a top contender among equity non-REIT investments in the domestic market. One of the areas I frequently cover is ETFs. I’ve been a large proponent of investors holding the core of their portfolio in high quality ETFs with very low expense ratios. The same argument can be made for passive mutual funds with very low expense ratios, though there are fewer of those. In this argument I’m doing a quick comparison of several of the ETFs I have covered and explaining what I like and don’t like about each in the current environment. By covering several of these ETFs in the same article I hope to provide some clarity on the relative attractiveness of the ETFs. One reason investors may struggle to reconcile positions is that investments must be compared on a relative basis and the market is constantly changing which will increase and decrease the relative attractiveness. For investors that want to see precisely which assets I’m holding, I opened my portfolio about a week ago. The ETFs (and two mutual funds) I want to cover are indicated below. ETFs and mutual funds for consideration Vanguard Total Stock Market ETF (NYSEARCA: VTI ) Fidelity Spartan® Total Market Index Fund (MUTF: FSTVX ) –I am long every investment above this line– Schwab U.S. Broad Market ETF (NYSEARCA: SCHB ) iShares Russell 3000 ETF (NYSEARCA: IWV ) Schwab U.S. Dividend Equity ETF (NYSEARCA: SCHD ) Vanguard Dividend Appreciation ETF (NYSEARCA: VIG ) When I’m contemplating investing in an ETF, I don’t want to buy a short term holding. At heart, I am a buy and hold investor that is willing to sell most investments only when I become sufficiently bearish. I generally handle rebalancing slowly through allocating new investments to the asset class that needs more strength. However, I don’t rebalance to exact ratios. I follow general rules for the allocation but within reasonable boundaries I will overweight or underweight sectors based on their relative attractiveness. When the market appears overvalued across the board, I reduce my rate of purchase. I still dollar cost into major indexes and I still will allocate some new funds, however I’m also more willing to spend money on doing major projects around the house rather than adding to my investment portfolio. I don’t cut off purchases entirely because I believe the markets will trend to move upwards over time by at least the rate of inflation, which will be much higher than my savings account will pay. Currently I consider the market to be slightly overvalued. Not as overvalued as it was before Greece (which I consider overblown), but the high P/E ratios make domestic investment riskier and the high correlations of international markets combined with the problems in Greece and the problems I expect in China make me concerned about short term international performance. Total and Broad Market VTI and SCHB are total and broad market ETFs. They have a correlation running 99% or higher on returns, so I consider them to be interchangeable. The same can be said for FSTVX though it is a mutual fund. I use mutual funds for an employer sponsored retirement account that is limited to investment in certain mutual funds. I consider these investments to be the best of breed for investors seeking exposure to the total or broad U.S. equity market. Despite my very high opinion of these investments, I feel the market is pushing on being valued too highly and see potential for problems with increases in interest rates expected in September. I’m expecting to see an increase in inflation over the next year or so with higher velocity of money and an increase in inflation may reinforce the decision to slightly increase rates. IWV holds very similar investments and also has very high correlation to the other ETFs listed here, but I expect it to outperform the other options over the long term because of a higher expense ratio. When the assets are very similar, I expect the expense ratios to be a significant factor in the relative performance. Dividend Focused (non-REITs) One of my favorite dividend investments is the Schwab U.S. Dividend Equity ETF. I expect it is one area where I’ll be adding some cash over the rest of the year. SCHD offers an extremely low expense ratio and free trading in Schwab accounts make it an ideal way for an investor to add incremental small levels of exposure. Large cap companies with solid dividends have shown some relative strength in corrections historically and I see the potential for that trend to continue. Aside from funds going into FSTVX for dollar cost averaging, SCHD is easily the strongest contender for receiving additional investments. I’m not long SCHD yet, but I expect to be long on it later this year. Lately SCHD has been weaker than the broad market ETFs, but I think the difference in performance reflects a bullish view by the market. Another solid option for investors wanting diversification in their dividend growth investments is VIG. In my personal rankings VIG has to come below SCHD due to a meaningfully higher expense ratio and a lack of free trading in my accounts. For investors using accounts that have free trading on VIG, it would make more sense for small incremental additions to the portfolio to use VIG rather than SCHD. Conclusion I believe I have selected several best of breed ETFs for investment in the domestic equity market, but I’m becoming less bullish due to high P/E ratios, historically high earnings relative to GDP (raising the denominator in the P/E ratio), and the potential for higher interest rates combined with inflation. While equities do serve as a decent hedge against low rates of inflation, I would be compelled to buy inflation adjusted bonds if they had decent yields. I believe there are plenty of other investors that would also like to be holding more bonds for risk reduction and if decent yields become available I expect it will weigh on stock prices as investors adjust allocations. Some investors may feel that such a situation would hurt dividend stocks and thus dividend ETFs more than other sectors. I’ll take the risks there because a little weakness from raising rates is acceptable to me in exchange for having investments that may not fall as hard if the situation with China and Greece starts hitting the U.S. equity market harder. Disclosure: I am/we are long VTI, FSTVX. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Additional disclosure: Information in this article represents the opinion of the analyst. All statements are represented as opinions, rather than facts, and should not be construed as advice to buy or sell a security. Ratings of “outperform” and “underperform” reflect the analyst’s estimation of a divergence between the market value for a security and the price that would be appropriate given the potential for risks and returns relative to other securities. The analyst does not know your particular objectives for returns or constraints upon investing. All investors are encouraged to do their own research before making any investment decision. Information is regularly obtained from Yahoo Finance, Google Finance, and SEC Database. If Yahoo, Google, or the SEC database contained faulty or old information it could be incorporated into my analysis.

NCZ: Is It Time To Enjoy This Fund’s 14% Distribution?

Summary NCV and NCZ offer yields over 13% and near 14% on a diversified corporate bond and convertible bond portfolio. The NAV of both funds has fallen over 6% YTD and premiums have fallen as the funds and corporate bonds have fallen out of favor. Despite these risks, both funds offer a sustainable payout thanks to previous purchases of bonds at modest discounts. Allianz Global Investors offers two funds with very high distributions and similar investment objectives: the AllianzGI Convertible & Income Fund (NYSE: NCV ) and AllianzGI Convertible & Income Fund II (NYSE: NCZ ). The funds get little attention, with average daily volume of a little over 400,000 shares and few articles on this site. The lack of attention is unfair to these funds because, despite the risks involved, they currently trade at a relatively low premium and offer monthly payouts that can buttress an income portfolio without significant risk of a dividend cut in the near term. Instead of a dividend haircut, the bigger risk in both funds is the depletion of net assets, which have fallen 6.5% year-to-date for NCZ and 6% for NCV, according to Allianz’s website (for NCZ ). These are real risks to consider before investing in either fund, although I will not discuss what has driven this trend or whether it is likely to continue in this article. Instead, I want to focus on the sustainability of these funds’ payouts over the next three years by taking a closer look at NCZ. I am choosing this fund because its higher payout (13.9%) will make it more attractive to investors at first glance, although its premium to NAV (5.2%) is higher than its sibling’s premium (NCV is at a 1.9% premium), which would also imply that it offers less value at the moment. For a rundown of the virtues of NCV, the recent article by Betalyst is valuable and illuminating. The Sustainability of the Payout As with all high yield funds, there is substantial fear that these funds’ monthly payouts are unsustainable. NCZ’s distributions to NAV ratio is 14.4%, while the fund’s 33% leverage puts the fund at risk of destructions to the fund’s value if its holdings fall too low in value or default rates spike. Nonetheless, the distribution to NAV ratio is misleading, because the fund has partly funded distributions from capital paid in excess of par. These payments are not returns of capital; they are profits from sold bonds and convertible notes that the fund has held and liquidated. These accounted for 18.9% of the fund’s total payouts in June. Excluding this, we see that the fund’s net investment income to NAV ratio is a much more modest 11.68%: (click to enlarge) With both of these income sources, the fund is earning enough to cover distributions. Thanks to the fund’s past investments, it is able to earn 11.68% on its bond holdings, while bumping returns higher with gains from selling issues above par. Since the fund’s average coupon rate is 7.52%, it is clear that the fund is buying its holdings at a discount. How much of a discount does the fund need to get in the market to sustain its payouts? This is an important question, because the larger the discount, the greater the default risk (at least in theory) and the greater the risk profile of the fund. The fund’s current NII comes out to less than what the fund would get if it purchased issues at an average 3% discount, so the fund is buying bonds at a relatively small discount. This also means the fund’s ability to earn more NII will increase substantially if it finds more issues trading at an even higher discount: With corporate yields rising, the opportunity to buy more bonds in the secondary market at a discount will only increase. As a result, NCZ will be able to make new purchases at steeper discounts and higher yields, although its high use of leverage of course limits how much it can buy. NCV is similarly using 33% leverage and may be limited in purchasing power; on this point, the PIMCO High Income Fund (NYSE: PHK ) is slightly better positioned to buy issues at discounts, thanks to its 29% leverage. Better still are the PIMCO Income Strategy Fund II (NYSE: PFN ) with 23.3% leverage and the AllianceBernstein Global High Income (NYSE: AWF ) with 14.15% leverage. Other funds from other firms may also be well positioned to buy more issues at discounts in the future. Even with its high leverage and limited buying power, both NCZ and NCV should have no difficulty maintaining income payouts with their current holdings, and the low average duration of the funds’ portfolios (2.4 years for NCZ and 2.41 for NCV) suggest that both will have freed up capital in the medium term. If the economy improves and Treasury and corporate bond yields rise throughout 2017 and beyond, the fund will be ideally positioned to buy more issues at higher rates. On this point, it is worth noting that yields on corporate bonds have already begun to rise from the year’s lows: (click to enlarge) Additionally, as of the end of Q1’15, the fund had 10.07 cents in undistributed net investment income (UNII) that it can deploy if necessary. While investors often take solace in UNII, this should not be the primary focus of an investment decision, since UNII tends to be lumpy and too much UNII can indicate an inefficient use of capital. Nonetheless, this buffer does indicate a bit of safety with the fund’s distributions in a pinch, although no pinch is expected by most in the market, regardless of sensationalist headlines about Greece, China and the NYSE blackout. Conclusion: NCV or NCZ? With the similarities of both funds, investors looking for a high monthly distributions may find it difficult to choose between the two. At the moment, NCV is trading at a premium of less than 1%, while NCZ is trading at a 5.2% premium. For those who abhor buying CEFs at a premium, NCV may be more tolerable; for those looking for a high yield in the short term, NCZ may be more appropriate. However, if you believe interest rates are going to rise in the short term and the value of these funds’ holdings will fall, both face the threat of further declines in the short term as NAV has fallen 6.5% year-to-date. If not, these funds can be an attractive addition to an income-producing portfolio on their ability to maintain payouts and see NAVs rise when redemptions come and issues at higher rates are for sale. Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in NCV over the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Stocks Are Not Milk – So Don’t Invest Like They Are

I want to warn you about stock splits today – and to save you from getting bamboozled the next time a company splits its stock, like Netflix (NASDAQ: NFLX ) is scheduled to do next week. If you have ever gone grocery shopping, you might think you have a good understanding of stock splits. For example, I’m sure you have noticed that four one-quart containers of milk will cost you more than a one-gallon container. The milk company is able to create value by dividing the original gallon into smaller containers. But what works in the supermarket does not work on the stock market, despite the fact that many investors behave as if they believe it does. They become elated when they hear that a stock they own is about to split, because, like in our milk example, they believe that the sum of the parts will be worth more than the whole. Or they decide to buy into a stock because it is going to split, believing, again, that four quarts is worth more than one gallon. I have always found this behavior curious. After all, what’s the difference between owning 100 shares of a $100 stock and 200 shares of a $50 stock? There is no difference. Your total investment is worth $10,000 either way. The only reason to think otherwise would be if you believed that a stock would appreciate at a faster rate after a split than it would have without a split. However, there is no evidence to support this line of thinking. When managements are asked why they split their stock, they inevitably say that the price of the stock had gone up too high, making it unaffordable for many investors. By saying this, they are implying that there would be greater demand for the stock if only the price were lower. Those of us who studied Economics 101 would agree that for most goods, there is a relationship between price and demand. In general, the lower the price, the greater the demand. However, stocks are not like milk. You can’t create value out of stocks simply by dividing them into smaller units. A stock split changes the price per share, but it does not change the price of all the shares in aggregate. In other words, a stock split has no impact on the company’s market capitalization. If the company were in play, do you really believe the acquirer would pay a larger premium simply because the target split the stock? Of course not. Having said that, I must admit that there are times when stock splits make sense. For example, several decades ago, before there were discount brokerage firms, trading costs were extremely high. Furthermore, investors paid a penalty if they bought (or sold) less than a round lot (i.e., 100 shares). As a result, there was a significant monetary incentive to trade at least 100 shares at a time. That’s no longer the case. Trading commissions have been driven down significantly. If you can’t afford to buy 100 shares of a $1,000 per share stock, there is nothing preventing you from buying 50 shares or even 10 shares. For that reason alone, there is much less of a need for corporations to split stock. So are there any good reasons for a company to split stock these days? Sure. A stock split would make sense if the stock price were so high that even one share were unaffordable. Berkshire Hathaway Class A (NYSE: BRK.A ) shares sell for more than $200,000 each. There aren’t many investors who can afford that. It would certainly make sense for Berkshire to split the stock. The problem is that Warren Buffett, the chairman and CEO, vowed long ago to never split the shares. Yet, at one point, he realized he had a problem. So in order to avoid breaking his vow, he simply created a new “Class B” (NYSE: BRK.B ) type of share. For all intents and purposes, the creation of the Class B shares was equivalent to splitting the stock. Here’s another good reason for a split. Apple (NASDAQ: AAPL ) initiated a 7-for-1 stock split in June 2014, when the stock price was near $700 per share. That’s nowhere near Berkshire territory. Most investors could easily afford to buy 10 or even 20 shares of a $700 stock – so why the split? The answer became clear a few months after the split, when Apple was added to the Dow Jones Industrial Average. Unlike most market indexes, the Dow is not capitalization-weighted. It is price-weighted. In other words, the higher the price, the greater the impact on the index. There was no way the folks at Dow Jones were going to include a $700 stock in the index. By splitting the stock, Apple brought the stock price down to a level that was comparable to several of the Dow’s other components. The split made Apple eligible for membership in one of the most prestigious market indexes. Finally, there is one other valid reason why companies might want to split their stock. A stock split can be an effective way for management to signal its optimism to the market. It’s one thing for the CEO to state that he or she is bullish about the company’s prospects. It’s a completely different thing to actually signal that optimism by splitting the stock. In this case, a stock split is like putting your money where your mouth is. Management would not be likely to initiate a split if it thought the company was about to run into a rough patch. Here’s my advice on stock splits. Don’t buy a stock just because the company announces a split. A split might cause a brief rally, but there are more important factors that will have a stronger impact on the stock price over the long term. Perhaps this is best exemplified by recent events at Netflix. The company announced a 7-for-1 stock split right after the market closed on June 23. Not surprisingly, the immediate reaction was euphoric. The stock surged significantly higher in after-hours trading. Yet, by the end of the following day, shares of Netflix were trading lower, and they have continued to drift lower ever since. It turns out that Carl Icahn had liquidated his entire position in the company, suggesting he thought the shares were no longer undervalued. That’s more important than how many quarts are in a gallon.