TAG | Funds
30
Jeremy Siegel: Treasury Bonds Today Are a Sucker Bet
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Jeremy Siegel: Treasury Bonds Today Are a Sucker Bet
by Alexander Green, Chief Investment Strategist
Monday, August 30, 2010: Issue #1334
The investment advisory industry is full of gurus – and various charlatans – claiming that they made incredible stock market calls.
But Wharton Professor Dr. Jeremy Siegel made perhaps the greatest call of all time at the right moment and for the right reasons. Those who listened to him saved themselves many thousands of dollars – and untold agony.
Now Dr. Siegel is making another bold prediction. You can only ignore it at your peril. Here’s why…
Siegel Shocks the Market
On March 13, 2000, The Wall Street Journal ran an op-ed piece from Dr. Siegel entitled “Big-Cap Stocks Are a Sucker Bet.” The column shocked the investment community.
Here was the man, author of the investment classic Stocks for the Long Run and who provided the intellectual underpinnings of the greatest bull market in history, claiming that the greatest stock market darlings weren’t just overvalued. They were a “sucker bet.”
Siegel focused on the 33 largest firms based on market capitalization – those with values greater than $85 billion. Of these, 18 were technology stocks. He noted that their market-weighted P/E equaled 126. What’s more, he pointed out that half of the large-cap technology stocks had P/Es over 100. For these stocks, the market-weighted P/E was 208.
These prices were totally unjustifiable. There was no way that these companies could grow fast enough to support such insane valuations.
Are You Heeding Siegel’s Current Warning?
That month, the Nasdaq – home to these tech giants – hit its all-time high of 5,132. From there, it imploded. Many of the stocks he singled out in the column – like Yahoo! (Nasdaq: YHOO) and JDS Uniphase (Nasdaq: JDSU) – plunged over 99%.
Even today – more than 10 years later – the Nasdaq is 60% below its high.
It’s great when a knowledgeable analyst like this rings a clear warning bell at the top. So understand that he’s doing it again today.
Earlier this month, he wrote another Wall Street Journal op-ed piece. This one is called “The Great American Bond Bubble.”
Siegel says: “What is happening today is the flip side of what happened in 2000. Just as investors were too enthusiastic then about the growth prospects in the economy, many investors today are far too pessimistic.”
As a result, they’re plowing money into Treasuries and Treasury mutual funds.
This will almost certainly end badly.
Unless we have a full-blown deflationary depression, these bonds are a horrible bet, offering minuscule yields and huge downside risk. Many investors don’t realize how badly they can get clobbered in super-safe Treasuries when the bond market turns down. (And those holding leveraged bond funds could see 40% or more of their principal vanish in a matter of months.)
As Siegel concludes: “Those who are now crowding into bonds and bond funds are courting disaster… The possibility of substantial capital losses looms large.”
What does Siegel propose that income investors hold instead?
Don’t Be a Sucker: Invest in This Asset Class Instead
Large-cap dividend stocks.
He points out that the 10 largest dividend payers in the United States are:
AT&T (NYSE: T)
Exxon Mobil (NYSE: XOM)
Chevron (NYSE: CVX)
Procter & Gamble (NYSE: PG)
Johnson & Johnson (NYSE: JNJ)
Verizon (NYSE: VZ)
Phillip Morris (NYSE: PM)
Pfizer (NYSE: PFE)
General Electric (NYSE: GE)
Merck (NYSE: MRK)
And together…
- They sport an average dividend yield of 4%, substantially more than what 10-year Treasuries are paying.
- Their average P/E ratio is 11.7 versus 13 for the S&P 500.
- Aside from the mountain of cash they’re sitting on, their prospective earnings will cover their dividends by more than 2 to 1.
Despite fears of another stock market dip, income investors are wise to switch from Treasuries to high-dividend stocks. It might not feel like the right thing to do, but neither did buying stocks at the market low 17 months ago.
In short, I couldn’t agree with Dr. Siegel more. Treasury bonds today are a sucker bet.
Good investing,
Alexander Green
28
The Japanese Stock Market: How to Play “The Land of Rising Stocks”
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The Japanese Stock Market: How to Play “The Land of Rising Stocks”
by Alexander Green, Chief Investment Strategist
Monday, June 28, 2010: Issue #1290
The Wall Street Journal reported last week that, for the first time in three years, foreign investors are increasing their holdings in the Japanese stock market.
Data released by the Tokyo Stock Exchange shows that foreign ownership of Japanese shares rose to 26% for the year that ended in March, up from 23.5% a year earlier.
The Journal suggests that a recovery in Japanese corporate earnings is tempting foreign investors back to the country’s equity markets.
But I think there’s more going on here. Perhaps hedge fund managers and other savvy global investors have paged back through their old, dog-eared copies of Dr. Jeremy Siegel’s Stocks for the Long Run.
If so, they may have recognized something significant…
Crunching the Numbers on Japan
Siegel notes that it’s rare for stocks to go 10 years without giving a positive return. Yet we’ve experienced just such a rarity over the last decade.
For stocks to go 20 years without giving a positive return is almost unheard of. And 30 years? That’s rarer than Big Foot, Nessie and the Abominable Snowman combined.
Which brings me back to Japan…
- In 1989, the Nikkei 225 – Japan’s equivalent of the S&P 500 – hit a new all-time high near 40,000. Today, more than 20 years later, it languishes near 10,000 – almost 75% lower.
- In other words, the Nikkei 225 would have to rise 300% just to get back where it was in 1989.
And it wouldn’t surprise me if it did just that by the end of the decade. After all, it’s happened before.
In the 1970s, the U.S. market returned just 0.34% a year – a 3.4% total return for the decade. Yet the Japanese market compounded at 16%, generating a 10-year return of 344%.
What other asset class offers that kind of potential return over the next decade? (Gold bugs, keep your seats.)
Don’t Chase the Bullet Train… Get on Board Now
The groundwork has been laid.
Last August, after more than 50 years, Japan’s opposition party trounced the Liberal Democratic Party in a landslide election.
The new government has promised to shrink the country’s massive bureaucracy and cut wasteful public spending. It also intends to end more than 20 years of economic stagnation by cutting taxes and focusing on small and mid-sized businesses.
Of course, we’re all skeptical of politicians’ promises, but there is evidence that they mean business this time. Twenty years is a long time to leave your economy in a funk.
It’s resulted in Japanese stocks being among the cheapest and most unloved in the world. Virtually no one is enthusiastic about the Tokyo market.
However, great opportunities are born when dirt-cheap valuations marry investor apathy. Plus, Japanese investors are flush with cash. They’ve largely ignored domestic stocks after two decades of sub-par returns. And as that money begins to find its way out of mattresses and back into Japanese equities, the Tokyo market should lift off.
This is doubly true when institutional money managers return to Japan in a serious way. For years, global fund managers have outperformed the world benchmark by simply underweighting Japan. But let the Shinkansen take off without them and they will be forced to dash after it.
So how do you play this?
Two Ways to Ride the Japanese Stock Market
There are dozens of worthwhile Japanese ADRs trading on Nasdaq and the Big Board.
But you can gain exposure to the Japanese stock market through two ETFs…
- iShares MSCI Japan Index (NYSE: EWJ), which invests in large-cap Japanese stocks.
- Wisdom Tree Japan Small-Cap Dividend Fund (NYSE: DFJ), which captures the best of the Japanese small-cap sector.
Or you can spread your bets and own both.
Incidentally, if you remain skeptical about Japanese stocks digging their way out of this 21-year hole, consider again how unlikely it is that Japanese stocks will earn a negative 30-year return.
As Dr. Siegel writes in Stocks For the Long Run:
“In the 12 years from 1948 to 1960, German stocks rose by over 30% per year in real terms. Indeed, from 1939, when the Germans began the war in Poland, through 1960, the real return on German stocks matched those in the United States and exceeded those in the U.K. Despite the total devastation that the war visited on Germany, the long-run investor made out as well in defeated Germany as in victorious Britain or the United States. The data powerfully attest to the resilience of stocks in the face of seemingly destructive political, social, and economic change.”
The story in Japan was similar. By the end of 1945, stock prices stood at about approximately one-third of their level just prior to the Empire’s surrender. Over the next 40 years, the Japanese market returned more than 20 times its American counterpart.
If 200 years of world stock market history is any guide, the current decade should be another barnburner for Japan.
Good investing,
Alexander Green
21
Treasury Funds: Get These Time Bombs Out of Your Portfolio
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Treasury Funds: Get These Time Bombs Out of Your Portfolio
by Alexander Green, Chief Investment Strategist
Monday, June 21, 2010: Issue #1285
Tens of millions of investors have a ticking time bomb in their fixed-income portfolios.
Are you one of them? If so, there’s still time to defuse it.
A few weeks ago, I wrote an Investment U column entitled, “Why the Safest Investment is Now One of the Riskiest.”
I noted that investors – frustrated by the microscopic yields on money market funds and certificates of deposit (CDs) – have poured money into longer-term Treasury funds.
Their thinking is simple. Too simple: “These funds yield over 5%, not bad in this environment, and the bonds they hold are guaranteed by the full faith and credit of Uncle Sam. What’s to worry about?”
Plenty…
Aren’t Treasury Funds Free of Risk?
Unlike individuals, corporations, and municipalities, the federal government can simply create money to meet any obligations. U.S. Treasuries are thus free of credit risk. But they aren’t free of interest-rate risk.
When interest rates go up, Treasury bond prices go down. Yet investors are comforting themselves that inflation isn’t currently a problem and that long-term rates remain near historic lows.
Don’t be fooled. There is a monster on the horizon – and he makes Beowulf’s Grindel look like Barney.
- Over the past 18 months, the federal debt has surged from $5.5 trillion to more than $8.6 trillion.
- Two years ago, it was 38% of GDP. Today, it’s 59% of GDP. And by the Congressional Budget Office’s own estimates, it’s going much higher still.
This is dangerous. Yet inflation has remained remarkably subdued so far. But understand that if the government opts to stimulate the economy further – especially if some emergency action is needed – short-term rates are already at zero.
Having already thrown the kitchen sink at the slowdown from a monetary standpoint, the federal government will almost certainly opt to spend even more dramatically.
The bond markets will not take this news well. Long-term rates are likely to spike. And when they do, it will get real ugly, real quick.
Investors always think they have time to move out of longer obligations before that happens. But that is not likely to be true…
The Triple Threat to Treasury Funds
Between early October 1979 and late February 1980, for example, the yield on the 10-year note rose almost four percentage points, driving a stake through most people’s bond portfolios.
Making matters worse, millions of Mom-and-Pop investors have unwittingly plunged into leveraged bond funds in recent years, often on their brokers’ recommendation.
Leveraged bond funds borrow money in the short-term to buy more longer-dated issues and enhance the funds’ yields. This is all well and good when rates are flat to lower. But when rates spike higher, look out below. The same thing will happen to these funds as to a margined stock portfolio in a correction. |
In fact, leveraged closed-end bond fund investors could get hit with a triple-whammy…
- The bonds in the fund will drop when interest rates rise.
- The drop will be compounded by the fact that the portfolio is leveraged.
- The fund could plunge to a deep discount to its net asset value, too.
Become a Bomb Disposal Expert… On Your Portfolio
Not pretty. So what to do?
- First, check to see what percentage of your portfolio is in long-term bonds. It shouldn’t be more than 10% as a maximum (as protection against a deflationary scenario).
- Second, visit www.etfconnect.com and type in the symbols for your fixed-income ETFs or closed-end funds.
Then look at the number beside the fund’s “effective leverage.” Zero means the fund is unleveraged. But some may be leveraged up to 40% or more. (That’s how these funds are able to yield more than the bonds they invest in, even after expenses.)
In sum, this is a time to pare back your long-term bond holdings and eliminate most of your leveraged holdings.
Don’t take these words lightly. There is danger on the horizon. But if you act now, there’s still time to get that ticking time bomb out of your portfolio.
Good investing,
Alexander Green
Do Trailing Stops Really Work?
by Alexander Green, Chief Investment Strategist
Monday, June 14, 2010: Issue #1280
While I was in Baltimore last week, one of our Oxford Club researchers, Matt Carr, told me over lunch that one of the most controversial aspects of our investment policy is trailing stops.
But they shouldn’t be.
If you don’t have a premeditated sell discipline – and the vast majority of investors don’t – you’re flying by the seat of your pants. And that rarely leads to superior investment performance.
But do trailing stops really work?
Survey Says: Use Trailing Stops
In a word: Yes. Trailing stops protect your profits and your trading capital. And there’s much more than just anecdotal evidence.
In a study published in The Journal of Portfolio Management, Christophe Faugere, Hany A. Shawky and David M. Smith – finance professors at the State University of New York at Albany – researched the performance of money managers who oversee pension funds, endowments and high-net-worth accounts.
Because most institutions work under strict investment guidelines, these academics were able to analyze performance based on differing approaches to selling stocks.
The result? Institutional managers who fared best were those with restrictive rules that didn’t allow much leeway for holding stocks for emotional reasons. Managers who relied on “flexible” sell strategies did far worse.
Count me as unsurprised. Institutional money managers are just as prone to rationalizing as individual investors when they make a mistake. (Hence the old Wall Street chestnut, “What does a broker call a trade gone wrong? A long-term investment.”)
Trailing Stops: Providing Protection… Securing Profits
The culprit is almost always pride, ego, or emotion. Without any kind of sell strategy, emotions come into play. And emotions are almost always wrong.
But by adhering to a disciplined trailing stop strategy, our Oxford Club investment system mows down emotion-driven trading errors like a field full of dandelions.
It cures greed. Eliminates fear. And does away with wishful thinking – as in, “I hope this stock turns around and starts going the right way.”
Of course, trailing stops aren’t the only sell discipline out there. But they’re one of the easiest to implement. They serve two purposes…
- They make sure we never let a small loss become an unacceptable loss.
- They keep us from selling stocks while they’re still trending up.
According to the independent Hulbert Financial Digest, over the past 10 years our Oxford Club portfolios have beaten the S&P 500 by a wide margin. Part of our success has come from diligent research and careful stock selection. But part has also come from cutting our losses and letting our profits run.
Maneuver Past the Market Makers With TradeStops.com
The one knock against using trailing stops is that unscrupulous market makers will sometimes take out your stop order right before a stock takes off.
But Richard Smith, President and Founder of TradeStops.com – and a PhD in mathematics – has a service that provides an ingenious solution.
If you visit www.tradestops.com, you can enter the stocks you own, the price you paid and the percentage trailing stop you want to use. There are several valuable benefits…
- If any of your stocks close beneath your selected stop, TradeStops sends a message – to your cell phone, e-mail, or account page – alerting you.
- Some brokerage firms, like Fidelity, offer trailing stop alerts with their accounts. But they generally expire after 30 or 60 days. TradeStops information never expires and even offers a 30-day risk-free trial.
- You can track up to 50 stocks at a time. (And whenever you stop out of one, you can replace it with another.)
- TradeStops is easy to use. It’s specifically designed for technophobes.
- It’s reasonably priced. Ordinarily, the cost is $7.95 a month or $79.50 a year. (If you’re an Oxford Club member, you get a special rate of $39.95 a year.) There are additional services available for dedicated short-term traders who want even more.
- It’s important to note that TradeStops notifies you of stops, not your broker. And it doesn’t enter sell orders. But the key is to make sure you have an acknowledged point where you’d be willing to sell any individual stock.
Trailing stops don’t just offer to cut your losses and protect your profits. They guarantee it.
Good investing,
Alexander Green
Editor’s Note: Much of what it takes to become a successful investor comes down to knowing the best times to buy and sell. Some investors rely on technical analysis; others pinpoint fundamentals. But regardless, trailing stops are essential to protect yourself from a volatile, unforgiving market.
Adhering to a disciplined trailing stop policy is just one of the core wealth-building strategies that has made The Oxford Club one of the most of the most successful investment publishers. In fact, over the past decade, the independent Hulbert Financial Digest has ranked The Oxford Club’s Communiqué as one of the top five investment newsletters.
So if you want to take all the guesswork out of the buying/selling process and let the Oxford Club analysts do the work for you, then consider becoming a member. For $79, you’ll receive an entire year’s worth of stock recommendations, with instructions on when to buy and when to sell for maximum profits. (You’ll also be eligible for the special TradeStops rate mentioned above, too). Take a look at the full list of Oxford Club membership benefits.
26
Timing the Market: If Only You Knew What Mark Hulbert Knows…
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Timing the Market: If Only You Knew What Mark Hulbert Knows…
by Alexander Green, Chief Investment Strategist
Monday, April 26, 2010: Issue #1246
For over a decade, I’ve been telling readers that timing the market isn’t just unhelpful… it actually hurts performance.
Now the evidence is even more definitive…
Sure, it’s easy to look back and see exactly when you could have been in or out of the market for maximum performance. That’s the beauty of hindsight.
But when you look ahead, things get a whole lot cloudier. So if you’re even thinking about jumping in or out based on some guru’s system or “market outlook,” listen up…
Trying to Time the Market? Don’t Do It!
The Journal of Financial Economics, an academic journal, recently published a new study – “Measuring Investor Sentiment With Mutual Fund Flows.”
Using easily available public information published by the Investment Company Institute, a mutual fund trade organization, the researchers focused on investor exchanges out of stock funds into bond funds and vice-versa.
This led to an interesting discovery…
- The research shows that market timers, as a group, have god-awful instincts. In fact, you could hardly find a better investment system than to do EXACTLY THE OPPOSITE of what they’re doing.
- The researchers built a hypothetical portfolio going all the way back to 1984 and switched back-and-forth between the S&P 500 and 90-day T-bills. They did the mirror opposite of what mutual fund flow figures showed switchers were doing.
- Over the next 25 years, the portfolio produced an annual return of 12% – 1.6% a year better than merely buying and holding the S&P 500.
To put this in concrete terms, buy-and-holders turned a $10,000 initial investment (with dividends reinvested) into $118,639 over the period.
Those who did the opposite of mutual fund timers, however, turned the same $10,000 into more than $170,000. (Most fund switchers, on the other hand, did about as well as someone betting on black or red at the roulette wheel.)
That’s not the best part, however…
An Impressive Performance… For Serious Contrarians Only
What makes these numbers even more impressive is that the contrarian portfolio took on far less risk than being fully invested in stocks. After all, it was invested in riskless T-bills nearly half the time.
I’m not actually recommending that you follow this strategy, incidentally. For one thing, past performance – as every investment prospectus reminds you – does not guarantee future results.
Plus, 25 years as a portfolio manager and investment writer have proved to me that the overwhelming majority of investors lack the emotional discipline to invest contrary to the crowd. (So when the chips are down, you may still be out.)
As Mark Hulbert, editor of the independent Hulbert Financial Digest, concludes, the average investor “would be far better off if he never engaged in market timing.”
The Oxford Club doesn’t. And it shows in our results…
A Top Five Ranking for 10 Years Running
Of course, every newsletter editor brags that his investment letter gives superior returns. The industry bears an uncanny resemblance to Lake Wobegone, where “all the women are strong, all the men are good-looking and all the children are above average.”
It’s worth noting, however, that Hulbert ranks The Oxford Club Communiqué among the top five letters in the nation for risk-adjusted performance over the past 10 years.
That allows us to give entirely honest answers to the two most commonly asked questions:
- “How has your investment advice worked out?” – Beautifully.
- “What do you think the market will do next?” – We haven’t the foggiest notion.
Good investing,
Alexander Green
Editor’s Note: Are you trying to time the stock market? Don’t! There’s a better way to tackle the investing process: let some of the best, most successful analysts in the business do the work for you.
The Oxford Club’s pragmatic, “market neutral” approach has generated consistent, impressive results for many years, based on real facts, information and numbers that matter, not arbitrary stock market indicators or timing.
For more details on how you can profit from the stocks in The Oxford Club’s Communiqué portfolio, please visit this link. You’ll see why the Hulbert Financial Digest has ranked the Communiqué in the top five investment newsletters over the past 10 years and get the latest investing ideas, insights and recommendations that can make you money for the next year and beyond.
