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The Remarkable Investing Power Of ‘Creative Destruction’

Originally published on March 29, 2016 International Business Machines Corporation (NYSE: IBM ) is soon set to celebrate its 105-year anniversary – an astonishing achievement for any single company, let alone one in the dynamic and changing technology sector. “Big Blue” is a remarkable exception in a world where companies come and go – and yesterday’s “heroes” become today’s “zeroes.” Yet, this very “creative destruction” that makes companies come and go is a crucial factor in the long-term success of any investment strategy. That’s also why – for your long-term investment success – picking the right country, market or sector is much more important than picking any single company or stock. The Accelerating Pace of “Creative Destruction” Austrian economist Joseph Schumpeter popularized the phrase “creative destruction” in the 1940s. It is the idea that the engine of capitalism is the continuous creation of new ideas and new products, where the new pushes out the old. You see examples of creative destruction throughout the history of the U.S. stock market. In the 1920s, the Radio Corporation of America (RCA) was the “Google” (NASDAQ: GOOG ) (NASDAQ: GOOGL ) of its day – a fast-growing company with new technology that changed the way an entire generation of Americans communicated. RCA actually lived a remarkably long life, born in 1919 and passing on in 1986. And in today’s world of exponential change, the pace of this “creative destruction” is accelerating even as the average life span of companies is shrinking. A mere decade ago, everywhere you looked, people either had Motorola phones (in the United States) or Nokia (everywhere else in the world). Or they carried BlackBerries, manufactured by Canada’s Research in Motion (RIMM) (NASDAQ: BBRY ) . Today, Motorola’s cell phone business Motorola Mobility Holdings, Inc. is part of Chinese-owned Lenovo ( OTCPK:LNVGY ), even as its market share has all but disappeared. Nokia (NYSE: NOK ) was eventually acquired by Microsoft (NASDAQ: MSFT ). And the market share of Research in Motion has fallen off a cliff. Indeed, the company’s market share in the businesses it dominated just a few years ago continues to evaporate. The fate of Research in Motion and Nokia echoes that of Palm – a once-high-flying company that hit a share price of $95.06 in 2000 – only to be acquired by HP (NYSE: HPQ ) for $5.70 a decade later. Once a company hits a death spiral, few make it out of the dive toward oblivion. Palm, a once-pioneering company in the world of “personal digital assistants,” was eventually sold to the Chinese electronics firm TCL Corporation. And it hasn’t been heard from since. Even companies that don’t disappear end up mere shadows of their former selves. Cisco (NASDAQ: CSCO ) , once expected to be the first $1 trillion company, today is worth less than 15% of that lofty amount. Former tech giant Lucent Technologies retired to the 7th Arrondissement Paris in 2006, acquired by France’s Alcatel. The surprising thing is that – from a long-term perspective – the same fate likely awaits today’s tech-darlings Alphabet and Apple (NASDAQ: AAPL ) , as well. The Myth of “One Decision” Stock Investing The fate of these former rising-star companies highlights the challenges of “one decision” investing, espoused by Warren Buffett. When Buffett buys a stock, his ideal holding period is “forever.” And this worked for him remarkably well… Until it didn’t… Over the last 51 years – since he acquired it – Berkshire Hathaway’s (NYSE: BRK.A ) (NYSE: BRK.B ) book value has grown from $19 to $157,000 – a rate of 19.36% compounded annually. That number, however, conceals more than it reveals. First, Buffett’s average rate of return up until about 2000 was right around 30%. But Buffett’s long-term investment returns have plummeted over 30% during just the past 15 years. The numbers bear this out. On June 19, 1998, Berkshire’s share price was $80,900. On Friday, March 24 2016, it closed at $210,530. That works out to a very un-Buffett-like annual return of only 5.45% a year for the last 18 years. And that’s more than just a streak of bad luck. After all, 18 years is close to 35% of Berkshire’s entire lifetime under Buffett’s stewardship. Viewed through the lens of “creative destruction,” you could argue that the lack of growth from new companies and new ideas with potential exponential growth are behind Berkshire’s flagging returns. The Unexpected Lesson Over the long term, the more a country or a sector provides for an environment of “creative destruction,” the better. And in practice, that means betting on both tech and small-cap stocks, as both have the potential to generate exponential returns old stalwarts simply cannot. According to Yale endowment Chief David Swensen, had you invested your money in a U.S. small-cap index in 1932, you’d have made 15,600 times your money between then and 2008. And I bet there were very few individual companies in that index in 1932 that made it to 2008. After all, 1932 was a long time ago… Warren Buffett was two years old. Hitler had not yet come to power in Germany. The United States and the Western world were in the midst of a Great Depression. Television, jet planes and computers had yet to be invented. At the same time, nowhere else but in the United States, where “creative destruction” is part of the very fiber of economic life, could you have generated those kind of returns. So, the next time you invest, ask yourself whether the companies in that sector will be the same ones tomorrow as they are today… And if the names aren’t changing, take heed… That’s because the greater the “creative destruction” in a sector, the greater chance for potential profits… Just make sure you bet on the winners.

An Undisclosed SEC Investigation Of TerraForm Power Was Underway Even Before SunEdison Delayed Filing Its 10-K

Our Disclosure Insight® reports, like those coming from other financial news and data providers, deliver to the investing public commentary and analysis on public company interactions with investors and with the SEC. They are journalistically based in large part on our expertise with federal filings using the Freedom of Information Act. SunEdison, Inc. – (SUNE ) TerraForm Power, Inc. – (NASDAQ: TERP ) Vivint Solar, Inc. – (NYSE: VSLR ) TerraForm Power – Confirmed, undisclosed SEC probe; added to our Watch List of Companies with Undisclosed SEC Probes Analyst Summary : This is one of those cases of who-knew-what-when and whether those who were in the know can now be trusted. At the end of Mar-2016, SunEdison disclosed both a DOJ and SEC investigation. This followed the company’s delayed 10-K filing announced at the end of Feb-2016. Yet information recently received from the SEC shows TerraForm Power, a “yieldco” of SunEdison, was already under investigation by the SEC prior to either of these two events occurring at SunEdison. To this day, the SEC investigation of TerraForm Power, which was confirmed as on-going as of 14-Mar-2016, remains undisclosed. Facts of Interest or Concern : There is recent news of DOJ and SEC investigations of SunEdison. Plus, an array of internal investigations, resignations, and delayed filings occurred at both SunEdison and TerraForm Power. We present a brief timeline of relevant disclosures and events as compared to what we have in our database. TerraForm Power and TerraForm Global (NASDAQ: GLBL ) are each known as yieldco’s of SunEdison. However, this report speaks only to SunEdison, TerraForm Power, and Vivint Solar. We’ve no research history on TerraForm Global. SunEdison and Vivint Solar: 20-Jul-2015, the two companies enter into a merger agreement. From the Probes Reporter database – SunEdison : On 03-Oct-2012, 24-Sep-2013, 19-Aug-2014, 19-Aug-2015, and most recently on 12-Jan-2016, we received information from the SEC to indicate a lack of recent investigative activity at this company (this includes when it was previously known as MEMC Electronic Materials). Each of these responses represented a two year look-back. As always, keep in mind that new SEC investigative activity could theoretically begin after the date covered by this latest information which would not be reflected here or in any of those similar instances cited below. From the Probes Reporter database – Vivint Solar: On 04-Jan-2016, we received information from the SEC to suggest the absence of recent SEC investigative activity at this company. This represented a two year look-back into SEC records on Vivint and is the only time we’ve researched this company. From the Probes Reporter database – TerraForm Power : In a letter dated 11-Feb-2016, we received information from the SEC suggesting TerraForm Power was involved in unspecified SEC investigative activity that was undisclosed at the time. This and a response below, from Mar-2016, represent the first time we have researched this company. SunEdison : On 29-Feb-2016, SunEdison announced it would delay filing its 10-K. The company blamed internal investigations that started in late 2015 (and heretofore undisclosed), which it says were based on allegations made by former executives of the company. The company said it expected to file the Form 10-K by 15-Mar-2016 SunEdison and Vivint Solar: 07-Mar-2016, SunEdison receives notice from Vivint Solar formally terminating the merger agreement of Jul-2015. From the Probes Reporter database – TerraForm Power : In a letter to us dated 14-Mar-2016, the SEC confirmed TerraForm Power’s company’s involvement in on-going enforcement proceedings that remain undisclosed as of this date. We have no other records in our library on TerraForm Power. SunEdison : Blaming material weaknesses in its internal controls, on 16-Mar-2016, SunEdison announced it would not be able to file its 10-K by the extended due date of 15-Mar-2016. SunEdison : A story published by the Wall Street Journal on 28-Mar-2016, said the SEC was investigating SUNE’s “… disclosures to investors about how much cash the solar-power company had on hand as its stock price collapsed last year … Officials in the SEC’s enforcement unit are looking into whether SunEdison overstated its liquidity last fall when it told investors it had more than $1 billion in cash,” according to the Journal’s sources. TerraForm Power: On Wednesday, 30-Mar-2016, the company issued a press release to announce Brian Wuebbels was stepping down as TerraForm Power’s president, CEO, and board member. The related 8-K was not filed until the following Monday, 04-Apr-2016. SunEdison : In an 8-K filing made on 31-Mar-2016, SunEdison said it received a subpoena from the DOJ on 28-Mar-2016. In addition SUNE said, “Also, the Company has received a nonpublic, informal inquiry from Securities and Exchange Commission (the “SEC”) covering similar areas.” The date the SEC started its informal inquiry of SUNE was not disclosed by the company. TerraForm Power: In the same 8-K which repeated the press release announcing the departure of Mr. Wuebbels, filed on 04-Apr-2016, the company also announced this concerning existing credit agreements – Fourth Amendment to Credit and Guaranty Agreement On March 30, 2016, TerraForm Power Operating, LLC, a subsidiary of the Company, entered into a fourth amendment (the “Amendment”) to its credit and guaranty agreement with Barclays Bank PLC, as Administrative Agent and Lender, the other credit parties and certain other lenders party thereto (the “Revolver”). The Amendment provides that the date on which TerraForm Power, LLC must deliver to the Administrative Agent and the other lenders party to the Revolver its financial statements and accompanying report with respect to fiscal year 2015 shall be extended to April 30, 2016. SunEdison : 14-Apr-2016, SunEdison announces completion of investigation by Audit Committee and independent directors. The company said it found no material misstatements or fraud. Notes : The SEC did not disclose the details on investigations referenced herein. All we know is that they somehow pertain to the conduct, transactions, and/or disclosures of the companies referenced. The SEC reminds us that its assertion of the law enforcement exemption should not be construed as an indication by the Commission or its staff that any violations of law have occurred with respect to any person, entity, or security. New SEC investigative activity could theoretically begin or end after the date covered by this latest information which would not be reflected here. To learn more about our research process, including how to best use this information in your own decision-making, click here . Our Terms of Service, relevant disclosures, and other legal notices can be found here . 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Winning ETF Strategies For Q2

After the upheaval in the first quarter, the broader market is still far from even close to a bear market. The S&P 500 may be just 0.9% up from the year-to-date look (as of April 12, 2016), but the decline in the key U.S. index is merely 4% from the previous high . This points to a far better situation than a 10% decline from the previous high which defines a correction or a 20% fall from the previous high that makes it a bear market. However, this does not ensure a smooth road ahead. With the broader market blowing hot and cold every now and then, downside risks prevail in the ongoing second quarter. Agreed, factors driving the market now – especially oil price stabilization and the drop in the dollar – are somewhat favorable, but the near-term outlook of the broader market may turn glum given the expected downbeat earnings for Q1. After all, there are always panicky investors in the market who may just start dumping stocks following the underperformance in Q1 earnings. And if it turns out to be a herd investing pattern, it could ruin market returns despite a healing earnings trend from the second quarter itself. So, what should we do? Since it is difficult to predict whether the market will move up or go down from this point in Q2, it is better to shield yourself from all volatility. Thus, for investors, we shall detail the possible asset class movements in Q2 and the likely ETF bets. Dividend Exposure As far as global market investing is concerned, it’s better to stay diversified. However, since negative rates are prevailing in many developed economies, the drive for dividend will be higher. So, investors can tap products like First Trust Dow Jones Global Select Dividend Index ETF (NYSEARCA: FGD ), which yields about 5.16% annually or the iShares Core MSCI Total International Stock ETF (NYSEARCA: IXUS ) that offers about 2.85% in annual dividend yield. The case is similar back home. Thanks to the delay in further Fed rate hike, long-term yields are hovering at lower levels, making dividend ETFs popular at present. The WisdomTree Equity Income ETF (NYSEARCA: DHS ) and the iShares Core High Dividend ETF (NYSEARCA: HDV ) could be best suited for this play. Focus on Quality or Value in the U.S. Cautious investors may also hunt for dividends in high-quality value stocks rather than running after high-yielding products. In this vein, investors can buy the Vanguard Dividend Appreciation ETF (NYSEARCA: VIG ), which considers those companies that have a record of increasing dividends over time, or the PowerShares S&P 500 High Quality Portfolio ETF (NYSEARCA: SPHQ ), which provides exposure to the constituents of the S&P 500 index with long-term growth and stability of a company’s earnings and dividends. Yet another choice for this category is the PowerShares Dynamic Large Cap Value Portfolio ETF (NYSEARCA: PWV ). Which Capitalization to Bet on in the U.S.? The U.S. economy is making strides, with improving trends seen in the manufacturing, housing and labor markets. But the dollar is sagging on a dovish Fed. This makes a winning combination for mid-cap ETFs, as this spectrum bears the traits of both large and small caps. It has moderate international exposure, which will remain unharmed in a weaker dollar environment. However, a value quotient is desirable even in this area. Thus, we pick two mid-cap value ETFs for investors, namely the Guggenheim S&P MidCap 400 Pure Value ETF (NYSEARCA: RFV ) and the PowerShares Fundamental Pure Mid Value Portfolio ETF (NYSEARCA: PXMV ). Both carry a Zacks Rank #1 (Strong Buy). Where Will the Bond Markets Go? Bond ETFs had a stupendous run in Q1 and are likely to be loved by investors this quarter too. However, investors can tap investment-grade corporate bond ETFs this time around, rather than sticking to the safe Treasury bond ETFs. The SPDR Barclays Capital Long Term Corporate Bond ETF (NYSEARCA: LWC ), yielding about 4.05% annually, can be considered for this purpose. Should You Toss Out Currency Hedging from International Investing? Since the Fed vowed to take it easy with the policy tightening stance and hinted at just two rate hikes this year, the U.S. dollar is likely to be muted in the rest of Q2. So, currency-hedged ETF investing may not be a very popular concept this quarter. If global turmoil persists, the safe-haven currency, the Japanese yen, is likely to be stronger, and thus, the currency-hedging technique will not be that fruitful. Investors can thus take a look at the Buy-rated iShares MSCI Japan Minimum Volatility ETF (NYSEARCA: JPMV ) and the SPDR MSCI Japan Quality Mix ETF (NYSEARCA: QJPN ). These funds will help you navigate market volatility. The IQ 50 Percent Hedged FTSE Japan ETF (NYSEARCA: HFXJ ), with a Zacks Rank #3 (Hold), is another option to deal with the currency translation risk. As far as the European market is concerned, investors can ride on massive policy easing by investing in the WisdomTree Europe SmallCap Dividend ETF (NYSEARCA: DFE ). Original Post