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Are Low-Yielding Bonds Still A Good Stock Market Hedge?

One thing that’s stood out during the most recent stock market turmoil is that bonds aren’t performing all that well either. US Treasury Bonds are up just 3.5% since stocks peaked and the aggregate bond index is up less than 1%. The concern here is that ultra-low yielding bonds can’t decline sustainably below 0% and are therefore unlikely to provide much downside protection in the future, whereas environments like the 2008 financial crisis and before offered investors far more protection because yields were higher. There’s some sad math behind the reality of falling bond yields [ insert sad trombone] . As yields approach the 0% mark they produce less and less potential upside. Here’s a general guideline for how much protection you’ll get from 10-year yields falling by 50% from 6% all the way down to 0.19%: As your yield gets cut in half so too does your upside protection. In other words, low yielding bonds become a worse and worse hedge as the yields decline. And herein lies the problem of a diversified portfolio. Investors who are used to a portfolio like the 60/40 of the 80s, 90s and 00s are in for a nasty surprise. Their 60% stock slice is now generating even more “permanent loss” risk than ever. And their bond slice is acting more and more like a true cash component. This puts the traditional 60/40 investor in a bind. They’re going to have to start deviating from 60/40 if they want to generate the same type of nominal and risk-adjusted returns because there is simply no way their bond component can protect them to the same degree that it once did. In fact, if rates become more positively skewed in the years ahead, the bond piece might contribute more “permanent loss” risk in the near term than many of these investors are hoping for. This doesn’t mean that bonds can’t still be a good hedge for stocks, but it does mean that diversified investors are likely to increasingly deviate from 60/40 as they realize that this allocation doesn’t offer the same types of returns that it did in a high and falling interest rate environment. Share this article with a colleague

Closed-End Fund IPO Review For 2014 And 2015

Reviews market price and NAV performance for closed-end fund IPOs in 2014 and 2105. Average market performance lagged NAV performance, but their were a few exceptions. Issuers are now offering incentives to encourage investors to buy closed-end fund IPOs. In the past, I have published several performance analyses of closed-end fund IPOs. Quite often, these IPOs provide a buying opportunity as they approach their one year anniversary. The reasons for this are: 1) Closed-end fund IPOs have generally been marketed at a 5% premium over NAV reflecting the sales commission and underwriting expenses. By the time the one year anniversary is reached, underwriters no longer support the price, and the funds often trade at a discount to NAV. 2) Closed-end funds are usually marketed when their underlying asset class is “hot” and in demand. Quite often these asset classes have cooled off a year later which leads to lower prices. 3) When a closed-end fund approaches its one year anniversary, it is quite common the case that most of the shareholder base holds it with an unrealized short term capital loss. There is a strong incentive to sell the fund before one year is up. After one year, it would turn into a long term capital loss which is less valuable for tax purposes. In 2015, there have only been three new closed-end fund IPOs. In many ways, closed-end funds are becoming an endangered species with many of them disappearing in the last year from fund mergers and fund liquidations. Because of this, I also included the 2014 closed-end fund IPOs in this article. Ticker Inception NAV Current NAV NAV Gain Inception Market Price Current Market Price MKT Gain Inception (NYSE: FPL ) 19.06 15.23 -20.1% 20 14.20 -29.0% Mar. 2014 (NYSE: JMLP ) 19.06 11.32 -40.6% 20 12.20 -39.0% Mar. 2014 (NYSE: DSE ) 19.06 9.90 -48.1% 20 10.20 -49.0% June 2014 (NYSE: THQ ) 19.06 20.03 +5.1% 20 18.22 -8.9% July 2014 (NYSE: GER ) 19.06 9.38 -50.8% 20 10.53 -47.4% Sep. 2014 (NYSE: ECC ) 19.93 18.65 -6.4% 20 20.21 +1.0% Oct. 2014 ( BST 19.06 18.33 -3.8% 20 16.62 -16.9% Oct. 2014 (NYSE: HIE ) 19.06 14.79 -22.4% 20 13.72 -31.4% Nov. 2014 (NASDAQ: CCD ) 23.83 21.91 -8.1% 25 19.31 -22.8% Mar. 2015 (NYSE: ACV ) 23.83 21.39 -10.2% 25 18.48 -26.1% May 2015 (JHY) 9.85 9.59 -2.6% 10 10.24 +2.4% July 2015 * NAV values are as of 9/04/2015 except for ECC. The NAV for ECC is as of 7/31/2015. Average NAV gain= -18.9% Average Mkt gain = -24.3% Market Price under performance= 5.4% Just like in previous years, the average market performance for the new IPO funds was worse than the average NAV performance. This generally occurs because the NAV premiums from underwriting fees are replaced by discounts below NAV within six months. Note that for a few of the new IPOs, the closed-end fund wrapper did outperform the NAV. For example, JMLP lost 39% (before dividends). But the NAV value of JMLP lost 40.6%. Something similar happened with GER, where the market price lost 47.4%, but the NAV dropped even more- a whopping 50.8%. Both of these funds are currently trading at a premium over NAV, probably because some investors who own them in taxable accounts may see some value in the large unrealized capital losses that are currently sitting in both funds. A research paper ” A Liquidity-Based Theory of Closed-End Funds ” tries to develop a rational liquidity-based model to explain why investors are willing to buy a closed-end fund at a premium at the IPO price when they know that it will soon fall to a discount. They reason that many closed-end funds hold illiquid, hard-to-trade underlying assets. Retail investors would find it very difficult to trade these assets directly, so they are willing to pay a premium to avoid the large illiquidity costs, especially if there are no equivalent no-load funds available for those assets. But more and more closed-end investors have learned that it usually pays to wait for six months before buying closed-end fund IPOs. In order to market new funds, some of the management companies are now offering special incentives like term limits or share buyback programs. For example, CCD has offered a term limit that allows shareholders to vote on a share liquidation after 15 years. Calamos, the fund manager, has committed to purchase up to $20 million in CCD common shares in the secondary market whenever the discount exceeds 2%. Starting in late July, they have been purchasing about 6,000 shares a day, but they have been unable to reduce the discount by much and it is currently -11.9%. ACV, recently issued by Allianz, has offered similar features with a 15-year limited term structure and a share buyback program of up to $125,000 a day for around 6 months, when the discount exceeds 2%. The buyback program for ACV should begin this week, and it will be interesting to see how much they can narrow the discount which is currently -13.6%. JHY offers a shorter term limit of only five years and marketed the fund for only $10 when the original NAV was $9.85. JHY is still pretty new, but so far it has retained its premium over NAV. It will be interesting to watch this one going forward. It looks like the closed-end fund industry may be waking up to the new reality and will be offering IPO investors somewhat better deals in the future. Later this year, there should be plenty of good opportunities in closed-end funds because of tax loss selling, not only in busted IPOs. Almost all of the MLP and commodity closed-end funds are greatly depressed, and there also many bargains in fixed income closed-end funds where discounts have widened out. Disclosure: I am/we are long CCD. (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.

The Global X MSCI Pakistan ETF: High Growth, Low Valuation And Decreasing Terrorism

Summary Pakistan’s stock market has risen substantially since 2012, yet valuation is still extremely low. Pakistan’s stock exchange has had substantial performance with a YTD return of 8.87%, and a 1 year return 21.18%. Terrorism has been decreasing substantially in Pakistan, according to a report released by the Department of State. Inflation has recently improved from the high levels consistently experienced between 2010 and 2014. Certain industries have displayed substantial growth, such as the cement industry, which grew by 57% this year. The Global X MSCI Pakistan ETF (NYSEARCA: PAK ) is an excellent value pick, and a closer examination of Pakistan’s economy, stock market, and political risk all verify that soon to emerging Pakistan is an excellent investment climate. The fund’s P/E ratio is currently 9.12, which is low for Pakistan, and is also lower when compared to other ETFs in frontier and emerging markets. The ETF was just created this year, and its price has consistently been between 14.00-16.94. PAK data by YCharts The Karachi Stock Exchange Pakistan’s stock exchange has had substantial performance with a YTD return of 8.87%, and a 1 year return 21.18%. Such a high index gain could be met with further growth, by strategically investing in undervalued companies. The Global X MSCI Pakistan ETF is an excellent way to potentially outperform the index, while the true value of value investing in individual companies is unfortunately unavailable to US investors. (click to enlarge) Source: Trading Economics The fund invests in some of the largest market cap companies from the KSE 100 index. Liquidity of the Karachi stock exchange is very high, with the top 20 most liquid stocks trading between 2 million to 12 million shares daily. The average P/E for the 20 most undervalued companies from the KSE 100 index is 6.6. Substantial higher valuation can be found for other companies from the KSE 100, verifying that the fund can overall be considered cheap. Pakistan’s Annual GDP Growth (click to enlarge) Source: Trading Economics Pakistan’s annual GDP growth is expected to increase to 4.96% by the 2nd quarter of 2016 . The correlation between GDP growth and the gain of Pakistan’s stock market is clear, by examining the rise that began in 2012, and the lower levels of growth experienced in 2010. Consumer Spending/Inflation (click to enlarge) Source: Trading Economics Consumer spending growth has been substantial in Pakistan, further attributing to the country”s economic growth. (click to enlarge) Source: Trading Economics Inflation has currently become drastically lower, and is projected to remain near 2% during the next 12 months. This represents substantial improvement from the drastically higher levels of inflation between 2010 and 2014. From Frontier to Emerging Pakistan is on track to soon be an emerging market, and high levels of economic growth can be seen, with specific industry outliers that are displaying substantial growth. Charlie Robertson, London-based chief economist at Renaissance Capital Ltd., said the following regarding the untapped potential of Pakistan: “It is the best, undiscovered investment opportunity in emerging or frontier markets. What’s changed is the delivery of reforms-privatization, an improved fiscal picture and good relations with the IMF.” The IMF has said that Pakistan is making excellent progress in meeting targets for economic growth. Pakistan’s cement industry in particular has displayed substantial growth, with 57% growth in the past year. D.G Khan Cement gained 62% this year, Maple Leaf Cement Factory Ltd. gained an impressive 161% this year, and Fauji Cement Co. gained 81%. The nation’s construction industry is also a bright spot, as it grew by 11.3%, nearly double the 5.7% target. Decreasing Terrorism Apart from the fact that Pakistan’s stock market has done nothing but soar since 2012, amidst issues with terrorism, investors can feel further confidence regarding the trends of reduction of terrorism in Pakistan. According to a report released by the US Department of State , Pakistan was among the top of a list of 95 countries in the world where terror attacks decreased. The overall increase of terrorist attacks and deaths in these 95 countries was 35% and 81% respectively, edifying that Pakistan is an outlier in terms of decreasing terrorism. With low valuation and high growth, investors can feel further confident in Pakistan, as terrorism is decreasing substantially. Conclusion Now is certainly a strategic time to invest in Pakistan, as valuation is current low, and the country is experiencing substantial growth. Inflation has drastically improved from the high levels from 2010 to 2014, and terrorism has very recently been declining faster than other countries. The Global X MSCI Pakistan ETF is an excellent way to profit from Pakistan’s growth, with the superior model of directly invest in equity in Pakistan not being available to US investors. The newly launched fund’s price has remained relatively consistent, and valuation is still incredibly low. Now would buy an excellent time to buy and hold long term, waiting for an increase in price to come as investors realize Pakistan’s potential. Until then, Pakistan’s status is certainly being relegated, and the early movers are sure to receive substantial returns. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within 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.