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Ameren Offers Utilities Investors With Protection From Higher Interest Rates

Summary Midwestern electric and natural gas utility Ameren has seen its share price perform well YTD, with even a disappointing Q2 earnings report proving to be just a speed bump. Following years of underperformance compared to the peer average, Ameren is changing its focus so as to take advantage of demand for new transmission infrastructure. Its Illinois operations will provide it with a buffer against higher interest rates due to that state’s regulatory linkage between allowed return on equity and interest rates. While Ameren’s shares are overvalued on a forward basis, a warm winter in its service area due to El Nino could create an attractive long investment opportunity. Shares of Midwest electric and natural gas utility Ameren (NYSE: AEE ) have rebounded strongly since setting a 12-month low at the end of June, with a disappointing Q2 earnings report only providing a slight bump on the way to an 18% price increase since then. The company has not been one of the sector’s better performers in recent years as weather volatility and arbitrary regulator behavior have held it back. Its regulatory outlook has improved this year, however, in a way that will reduce its exposure to higher future interest rates. Adverse weather conditions in Q4 will provide short-term headwinds first, however. This article evaluates Ameren as a potential long investment opportunity in the context of this operating environment. Ameren at a glance Headquartered in St. Louis, MO, Ameren is a relatively large electric and natural gas utility with more than $20 billion in total assets and a market capitalization of $10.7 billion. The company operates in a 64,000 square mile service area that includes much of eastern Missouri and most of Illinois, excluding Chicago and its surrounding environs. Its operations are divided into 3 segments. Ameren Missouri oversees electric generation, transmission, and distribution plus natural gas distribution in that state’s share of the service area. It currently has 1.2 million electric customers and 127,000 natural gas customers, with the former receiving electricity generated by the company’s 10,200 MW generating fleet. Unlike many of its peers, Ameren Missouri remains heavily reliant on coal, which comprises 53% of its fuel mix (the balance is split between nuclear, natural gas, and hydro). Unlike its counterpart across the Mississippi River, Ameren Illinois only engages in electric and natural gas distribution activities. It has 1.2 million electric and 813,000 natural gas customers in the state. Much of the electricity that it uses is sourced from Ameren’s generating capacity in Missouri via the third and final segment, Ameren Transmission Company of Illinois, which operates 4,600 circuit miles of 345 kV regional transmission lines. Historically, Ameren Missouri has made the primary contribution to the company’s total rate base, reaching 63% in 2011 compared to 29% from the Illinois operations and 8% from the transmission operations. This has negatively impacted Ameren’s past consolidated earnings due to the lack of a favorable regulatory scheme in Missouri. While the state’s scheme does provide utilities with a fuel cost recapture mechanism that insulates them from the type of fuel price spikes that are not uncommon during Midwest winters, its use of historical test years result in a large amount of regulatory lag. This lag prevents Ameren from recognizing higher rates due to infrastructure investments and similar capex for roughly 2 quarters despite incurring higher depreciation, O&M, and property tax costs during the interim. The regulatory scheme employed in Illinois, on the other hand, has improved in recent years. The most substantial change has been the decision to base the allowed return on equity for electric utilities on the 30-year Treasury rate plus 580 basis points. While this formula currently results in a below-average allowed rate for Ameren Illinois, it will mitigate the impact of higher interest rates following the Federal Reserve’s planned rate hike on Ameren’s consolidated earnings. Furthermore, electric utility rates are based on a year-end rate base and provides for the recovery of “prudently incurred” actual costs, greatly reducing regulatory lag. Illinois natural gas utilities operate within a similar scheme that bases rates on future test years and includes infrastructure riders, similarly reducing lag. Finally, Ameren’s transmission operations are governed by a federal regulatory scheme that reduces regulatory lag by employing forward-looking calculations with an annual reconciliation mechanism. Ameren has reported slow but steady earnings growth since 2013, although its annual EPS results have yet to return to their pre-financial crisis highs. Its annual EBITDA, meanwhile, has remained flat over the same period, highlighting the lack of growth in its service area over the last several years. The company was hit especially hard by the 2008 financial crisis and slashed its dividend in that year. Since then the dividend has only increased by 10%, causing the company to lag significantly behind its peers. Its yield had been much higher than the sector average before the crisis and remained high even after the cut, however, and as a result, it has a forward yield of 3.9% despite this low growth rate. Q2 earnings report Ameren reported Q2 earnings at the end of July that missed the analyst consensus on both lines. It reported revenue of $1.4 billion (see table), down by 1.4% YoY and missing the consensus by $40 million. Revenue from its electric operations increased by 1.2% and provided 89% of consolidated revenue as higher demand in Illinois more than offset reduced demand in Missouri as the latter state experienced a mild early summer. Natural gas revenue fell by 18% YoY due to a 3.2% decline in volumes as Illinois experienced a warmer than normal spring, reducing the number of heating degree days. A sharp fall in energy prices over the previous 12 months also contributed to the lower natural gas revenues in particular. Ameren financials (non-adjusted) Q2 2015 Q1 2015 Q4 2014 Q3 2014 Q2 2014 Revenue ($MM) 1,401.0 1,556.0 1,370.0 1,670.0 1,419.0 Gross income ($MM) 1,049.0 975.0 880.0 1,273.0 1,031.0 Net income ($MM) 141.0 108.0 48.0 293.0 149.0 Diluted EPS ($) 0.58 0.45 0.20 1.20 0.61 EBITDA ($MM) 447.0 459.0 336.0 762.0 522.0 Source: Morningstar (2015). Gross profit rose slightly to $1.05 billion from $1.03 billion YoY despite the revenue decline. The increase was the result of the company’s cost of revenue falling by 9.3% YoY due to lower fuel prices, more than offsetting the negative impact of lower revenues. Operating income fell sharply to $237 million from $322 million in the previous year. While a large loss provision for the construction license of a new nuclear unit was the decline’s major driver, higher O&M and depreciation costs resulting from regulatory lag in Missouri also contributed. Ameren’s consolidated net income fell to $141 million, or a diluted EPS of $0.58, compared to $150 million, or a diluted EPS of $0.62, in the previous year, missing the analyst consensus by $0.03. The most recent result included a $52 million boost resulting from the recognition of a tax benefit via the resolution of an uncertain tax position that the company treated as discontinued operations. EPS from continuing operations came in at only $0.40 versus $0.62 YoY. EBITDA also declined, falling from $522 million YoY to $447 million. Outlook Ameren reaffirmed its FY 2015 EPS guidance range of $2.45-$2.65 during its Q2 earnings call based on the assumption of normal temperatures in Q3 and Q4. The company’s service area did experience more cooling degree days than average in Q3, reinforcing this range. El Nino can be expected to impact its Q4 earnings, however, by bringing warmer than normal temperatures into the company’s service area between October and January. This year’s event is expected to be one of the strongest on record and previous such events have introduced warm weather in Missouri and Illinois during the quarter, reducing demand for natural gas. Ameren is unlikely to be as exposed to El Nino’s adverse weather impacts as many of its peers since the bulk of annual consolidated earnings have traditionally been brought in via its electric operations during the Q2 and Q3 summer months. Furthermore, temperatures in its service area have historically returned to normal by February during past El Nino events. Investors can expect its Q4 earnings to be lower than normal, however. Ameren’s earnings in FY 2016 and beyond will be driven by the company’s ability to utilize its planned capex in a manner that takes advantage of its regulatory environment where possible. The company expects capex to drive a rate base CAGR of 6% through FY 2019 as it invests in a combination of reliability, environmental, and new capacity projects. The latter will be the most important as they are designed to increase the share of its total rate base attributable to its transmission segment from 8% currently to 19% by FY 2019. The transmission segment will achieve a rate base CAGR of 27% over the same period, ultimately reaching $2.3 billion in total capex. The company expects that this will in turn result in an EPS CAGR of 7-10% through at least FY 2018. The company’s ability to achieve and maintain this earnings growth target will ultimately depend on how quickly the Federal Reserve implements its expected interest rate increase. At first glance, Ameren is more exposed than many of its peers to higher interest rates due to its BBB+ credit rating from S&P and Fitch (the credit ratings of its state units are higher). Interest rate spreads have widened in recent weeks as expectations of a Federal Reserve rate increase occurring by the end of the year have grown, with the largest increases occurring for lower-rated debt. At first glance, this would suggest that Ameren will be at a disadvantage to those of its peers with superior ratings. Unlike many of its peers, however, a substantial segment of the company’s operations reside within a regulatory scheme that links the allowed return on equity to interest rates. While this has kept the return on equity below the peer average during the current era of low interest rates, it will support Ameren’s ability to both finance its planned capex and mitigate the negative impact of higher interest costs on its earnings. Looking beyond FY 2016, Ameren’s Missouri operations are likely to be burdened by the U.S. Environmental Protection Agency’s [EPA] recently released Clean Power Plan, which requires individual states to achieve predetermined reductions to the carbon intensities (greenhouse gas emissions per unit of electricity generated) of their respective state utilities beginning in 2022. Illinois has one of the country’s highest carbon intensities and must achieve a 28% reduction by then, while Missouri is not far behind with a required 19% reduction . One advantage of these reductions is that they could pave the way for additional capex to convert existing coal-fired power plants to natural gas and possibly even build new, cleaner capacity. The presence of substantial regulatory lag in Missouri would contribute to earnings volatility. Valuation The consensus analyst estimates for Ameren’s diluted EPS in FY 2015 and FY 2016 have increased modestly over the last 90 days in response to warmer Q3 weather and the Federal Reserve’s decision not to increase interest rates in September, as had been widely expected by the market. The FY 2015 estimate has increased from $2.55 to $2.56 while the FY 2016 estimate has increased from $2.70 to $2.72 over the same period. Based on a share price at the time of writing of $44.10, the company’s shares are trading at a trailing valuation of 18.0x and forward valuations of 17.2x and 16.2x, respectively. The forward ratios in particular are at the high end of their respective 5-year ranges, albeit lower than they were at the end of 2014, suggesting that the company’s shares are modestly overvalued at this time. This is especially true for the company’s short-term outlook given the likelihood of a warm Q4 in its service area. Conclusion Ameren’s shares have exhibited an above-average amount of volatility in 2015 to date as the company has attempted to recover from its past history as a relative laggard in the electric and natural gas utilities sector. Recent developments have mostly been favorable, with its Illinois regulatory scheme changing to link the allowed return on equity to interest rates and the company’s own focus shifting away from Missouri’s poor regulatory environment to its growing transmission operations. This new approach will be necessary if Ameren is to bring its earnings growth closer to the sector average, let alone above it. Fortunately, the combination of new transmission projects, reliability investments, and environmental controls will provide it with large capex opportunities over the next 5 years that will be necessary to support faster earnings growth. Furthermore, its forward dividend yield of 3.9% is relatively high already. The main draw that Ameren has to offer to potential investors is its linkage between allowed return on equity for a substantial segment of its operations and interest rates, as this will offset one of the market’s major current concerns about utilities in general. The company’s shares are also overvalued on a forward basis, leaving them exposed to a substantial decline in the event that this year’s El Nino has a greater than expected negative impact on its Q4 and potentially also Q1 2016 earnings. Yield-seeking investors who wish to be insulated from higher interest rates could view such an event as a potential buying opportunity, however, and I would consider Ameren’s shares to be attractively valued in the event that its forward P/E ratio falls back to 14x its FY 2016 earnings, or $38 per share, as it has already done twice in the last 3 months.

The iShares MSCI Austria Capped ETF: Does Vienna Wait For You?

Although an wealthy EU member with low unemployment it does not have a top line economy. The domestic financial sector lacks dividend distributions. The Materials sector is the funds best performing sector, even though it’s third in weighting. Mention “The Blue Danube Waltz”, and the Waltz King, Johann Strauss, immediately comes to mind. The waltz is a clever composition of a flowing waltz melody with instrumental interpretations of sounds one might have heard along the banks of the river Danube in 19th century Austria. However, this peaceful gentle flowing melody of the river waltz belies a turbulent history. Austria was almost continually at war in Europe, dating back to Napoleonic era and before. It was at the very center of the spark which ignited powder-keg Europe leading to the Great War, and sided with the axis powers of the Second World War, sharing the fate of the of the defeated. It was perhaps only through luck and a continent totally exhausted by war that Austria remained undivided between the Soviets and Western Europe. Located literally on the border of Cold War era Europe it became a center of intrigue and haunted by its past, until relatively recently. Austria embarked on a new epoch in its long history when it officially became a European Union member nation, January 1, 1995, adopting the Euro four years later. However, what of this new Austrian economy in this new economically united, post-cold war era Europe? In particular, is its economy growing sufficiently to serve as a focused investment for individual investors? For those who wish to consider it, there’s only one fund to choose from: the iShares MSCI Austria Capped ETF (NYSEARCA: EWO ). According Europa.eu , Austria’s per capita GDP, at approximately $46, 400 is well above the EU-28 average and pretty much in line with Denmark, Germany, Ireland, Netherlands, and Sweden. However, its current annualized growth rate is anemic at 0.4%, a full 100 basis points below the EU average. Its debt to GDP ratio is slightly below the EU average at 84.5% of GDP and runs a surprisingly high annualized inflation rate of 1.5%, well above the EU’s 0.6% annualized rate. Its unemployment rate, at 5.6% is well below its fellow EU member nations at over 10%. According to the CIA’s World Factbook , household spending is the largest contributor to GDP at 55%, followed by fixed capital investment at 21.1%, and government spending at 19.5%. Austria is a net exporter of goods and services, generating a trade surplus of 4.3% of GDP. As far as its domestic manufacturing economy, Austria’s Purchasing Manager’s Index indicates expansion, albeit slow, at 52.5 and capacity utilization is at 84%. This compares with the larger Eurozone PMI of 52 and capacity utilization of 81.1. It indicates a good domestic economy but not nearly as strong as, for instance, the U.K. or Germany. The fund tracks the MSCI Austria Investible Market Index 25/50 in U.S. Dollars. The ‘cap’ puts the fund in compliance with internal revenue code, in that: … at the end of each quarter of its tax year no more than 25% of the value of the RIC’s assets may be invested in a single issuer and the sum of the weights of all issuers representing more than 5% of the fund should not exceed 50% of the fund’s total assets… The iShares Austrian fund is nearly identically to the MSCI index, with the exception of a larger than usual cash allocation. It’s rare to see a cash allocation in excess of the fund’s sector allocations. In this case the 2.07% cash or derivative holdings are in excess of both the Utilities allocation, 1.46% and the Consumer Discretionary allocation at 1.72%. Specifically, the fund carries 2.0316% U.S. Dollar cash holding as well as 0.0382 Euro cash holding, totaling 2.0698%. There is also a small, 0.0019%, BlackRock (NYSE: BLK ) short term treasury holding and the fund is currently short, -0.0006% of USD/EUR forward contracts. (click to enlarge) Outside of the cash or derivative, the fund lists 27 holdings of Austrian based companies. Of the 27 holdings, 8 are Financials, 9 are Industrials, 4 Materials, 2 IT, 2 Energy and one each of Consumer Discretionary and Utility. One would expect that the heaviest weight sector to be the best in dividend distributions. This is not the case here. Of the eight holdings, only four have regular dividends and the entire sector allocation yield average is 1.85125%. Five of the eight holding’s major business is in Real Estate, only two in Banking and one Insurance company. Further, three of the holdings did not have appreciable earnings, nor were the Returns on Investment and Equity; three of the holdings recording negative ROI/ROE. Generally, although a large segment of the fund, Austria does not have a strong financial services sector. Financial Holdings OTC Symbol (if listed) Fund Weighting Market Cap (billions) Dividend Yield Payout Ratio Price/Earnings ROI/ROE Beta Sub Sector Erste Group Bank AG OTCPK:EBKDY 18.5952% $12.475 0.00% 0.00 N/A NA/-0.24 1.72 Banking Raiffeisen Bank OTCPK:RAIFY 4.4942% $4.594 0.00% 0.00 N/A NA/-6.12 1.62 Banking IMMOFINANZ AG OTC:IMMZF 4.4717% $2.778 0.00% 0.00 N/A -3.03/-5.42 1.29 Real Estate CA Immobilien Anlagen CAIV.VI* 3.8768% $1.836 2.71% 37.81% 17.59 2.87/4.87 0.72 Real Estate Buwog AG BWOA.VI* 3.2732% $2.075 3.71% 52.85% 14.28 3.47/8.22 N/A Real Estate UNIQA Insurance Group UNIQ.VI* 3.1128% $2.750 5.29% N/A 7.57 10.86 0.63 Insurance Conwert Immobilien Invest CONW.VI* 2.7511 $3,399 0.00% 0.00% 29.57 1.54/3.39 0.73 Real Estate S Immo Ag SIAG.VI* 1.5964 $0.653 3.10% 39.50% 14.34 2.39/6.63 0.55 Real Estate (Data From iShares and Reuters; *VI: Vienna Exchange) For example, Erste Group serves the domestic retail and small to midsized business banking segment. The company has a negative return on equity, does not offer a dividend, and has a very high P/E of over 100. Immofinanz invests in private and commercial properties. It is international serving Germany, Czech Republic, Hungary, Romania, Poland and Russia. However, has a negative ROI and ROE, negative EPS at -0.21 and no dividend growth. As a last example, UNIQA is an insurance group serving Central and Eastern Europe with a diversity of insurance products. However, it should be noted that its largest shareholder is Raiffeisen Bank, the second most weighted fund’s financial holding. Again, the financial sector may be adequate for the domestic economy, it isn’t as strong as other EU financial sectors in the same class. The second heaviest weighted allocation is Industrials. Andritz ( OTCPK:ADRZY ) designs and produces specialized electromechanical, pulp and paper, metals, biofuels and separation systems for those respective industries. Wienerberger ( OTCPK:WBRBY ) manufactures piping, clay blocks/bricks/pavers, ceramic and plastic pipes and water management products. The company is international with operations in Europe and North America. Zumtobel Group ( OTC:ZMTBY ) specializes in lighting solutions and control equipment. It’s small but profitable company manufacturing equipment under different brand names. Although there are a few interesting manufacturers, they are generally domestic and the metrics are relatively weak. Those in the fund seem typical of the Austrian industrial sector. Hence, over 65% of the fund is weak on several scores, particular on dividends, earnings and return on investment or equity. Industrial OTC Ticker (if listed) Fund Weighting Market Cap (billions) Dividend Yield Payout Ratio Price/Earnings ROI/ROE Beta Sub Sector Andritz ADRZY 7.6699% $4.9336 2.36% 24.76% 17.05 12.27/26.30 0.53 Diversified Wienerberger WBRBY 4.5323% $2.250 0.90% 28.82% N/A -4.64/-8.33 1.29 Construction Hardware Oesterrichische Post OTC:OERCF 3.3356% $2.43 6.07% 87.74% 14.40 14.29/23.40 0.33 Parcel/mail Delivery Zumtobel Group ZMTBY 1.9077% $0.980 1.09% 21.08% 55.67 2.18/4.87 1.36 Lighting solutions Flughafen Wien OTCPK:VIAAY 1.6418% N/A N/A N/A N/A N/A N/A Vienna Airport solutions Palfinger OTCPK:PLFRY 1.5042% $1.071 1.34% 13.48% 19.51 6.66/10.34 1.19 Hydraulic Lift Equipment Semperit Holding OTC:SEIGF 1.1757% $0.665 3.81% 265.14% 12.53 7.57/12.11 0.63 Rubber/Plastic Products Porr AG ABGV.VI* 0.9568% $0.778 3.14% 15.11% 12.97 5.64/12.53 -0.27 Construction equipment FACC FACC.VI* 0.9407 $0.364. N/A N/A N/A -0.63/-1.21 N/A Aerospace Defense (Data From iShares and Reuters; *VI: Vienna Exchange) The third largest sector is Materials, comprised of four holdings and seems to be the best sector of the three. Its average dividend yield is over 2.68%, P/E average 27.73 and fairly good return on investment and equity. Voestalpine ( OTCPK:VLPNY ) is a holding company manufacturing extruded, pressed and forged steel products for the automotive and construction industry. Its metric are good with a P/E of 8.43, a 3% dividend, selling at 4.36 times cash flow and an approximate payout ratio of about 40% of cash flow. Mayr Melnhof Karton ( OTC:MNHFF ) as the name suggests, produces packaging in the form of folding carton and carton board, mostly for the food and household product industry. It operates through subsidiaries, 40 locations distributed among 18 countries. Again the metric are surprisingly good: a 2.54% dividend yield, a P/E of 15, a payout ratio of about 38 and sell at about 9 times cash flow. Materials OTC Ticker (if listed) Fund Weighting Market Cap (billions) Dividend Yield Payout Ratio Price/Earnings ROI/ROE Beta Sub Sector Voestalpine VLPNY 8.9081% $6.492 3.02% 40.30% 8.40 7.61/12.76 1.22 Steel products Mayr-Melnhof Karton MNHFF 3.1386% $2.397 2.43% 38.00 15.63 10.30/12.59 0.45 Packaging Lenzing OTC:LNZNF 1.8928% $1.923 1.55% 110.52 71.79 1.22/2.26 0.80 Chemicals RHI OTC:RXHKY 1.809% $0.896 3.73% 56.42 15.09 4.34/10.50 0.91 Ceramics, metals, glass (Data From iShares and Reuters; *VI: Vienna Exchange) Summing up, sometimes individual nation funds, particularly those in the EU can be exceptional performers. This is not one of those funds. In all fairness, the fund is merely tracking the MSCI index, which it does rather well. As an individual EU member state economy Austria does well domestically: employment, social services, income and wealth distribution. Also, as a contributing EU and Eurozone member state, it does play a positive, albeit small part. Unfortunately, though, as a single country focused investment it does not have the strength, at least not yet, to generate significant dividend growth or capital appreciation, mainly because of its weak financial sector, which is focused on Real Estate. As such, an investor might certainly want to keep the fund in mind, but also be aware that it might not provide a positive risk/reward contribution to a long term portfolio. (click to enlarge) As for the fund itself the returns have been acceptable since inception in 1996, at 3.80%, but have generated negative returns over a 10 year period. As the chart indicates the fund had a spectacular run from the low of about $7.00 a share to just over $40.00 before giving up those gains during the global economic crises. The fund has managed consistent dividend returns, however, its 12 month trailing yield is 1.69% and its current annualized yield is 2.30%. Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

The iShares Core Conservative Allocation ETF: AOK Is A-OK

An atypical fund of funds. An unusual construct containing non-traditional ETF sectors. Surprisingly good capital appreciation and consistent monthly dividends. Any individual investor who might catch equity and bond market news in bits and pieces during the course of the day is most likely feeling a bit of angst. Analyst and economist have seemed to become ‘polarized’ in their thinking. Some argue that impending inflation looms on the horizon; other that a fathomless deflation has already begun. Some argue that the global economy is still growing at an above average pace while others claim we’re on the verge of a deep global recession. Who has time to study markets and also go about the daily routine? Then again, what investor can ignore the change in sentiment over the past year? Well, there’s a way to continue with a well-disciplined, consistent investment strategy without taking undo risks and still do quite well. BlackRock’s iShares Core Conservative Allocation ETF (NYSEARCA: AOK ) ma y be the exact right place to stick with a long term disciplined investment plan and protect those hard earned retirement or future college fund savings until the time is again right to diversify. There are advantages in choosing this ‘fund of funds’ over traditional conservative investments. First, investment dollars are not being locked in as they would be if one had purchased U.S. Treasuries or a major financial institution’s certificate of deposit. Further, its Treasury holdings diversify across the span of all maturities. It’s not exclusively fixed income U.S. Treasuries, but also allocates among equities via other iShares “Core” funds including S&P 500 large, mid and small caps, European and Asia-Pacific core holdings as well as a small emerging market allocations. However, the greatest portion of all of the fund’s asset classes are U.S. focused, or global companies whose business is mostly in U.S. markets. (Data from BlackRock) In order to grasp this fund as a good safe haven play in uncertain times, a closer examination of the allocations, individual components and returns need to be examined in greater detail. For example, a large portion of the fund is classified as ‘ Other ‘ and as ‘ Supranational’ . That’s an unusual name for a sector to say the least! (Data from BlackRock) According to Investopedia, Supranational is: … an international organization, or union, whereby member states transcend national boundaries or interests to share in the decision-making and vote on issues pertaining to the wider grouping … As examples, the European Union, the International Monetary Fund, and World Trade Organization are ‘Supranational organizations’. Indeed, scrolling through iShares comprehensive asset listings, there is indeed a ‘Supranational’ sector. The breakdown is summed up in the following table, and well worth noting. Supranational Organization Fund Symbol Fund Weighting Brief Description African Development Bank Medium Term Notes AFDB 0.06% NGO for economic development in Africa Asian Development Bank Medium Term Notes ASIA 0.13% NGO for economic development in Asia Development Bank of Latin America CAF 0.01% NGO Financing and Technical Assistance Council of Europe Development Bank COE 0.06% NGO Social Investment Projects European Bank for Reconstruction Medium Term Notes EBRD 0.07% NGO for Entrepreneurship European Investment Bank EIB 0.43% Bank of the European Union for EU Member States Inter-American Development Bank IADB 0.17% NGO Financial and Technical Support Latin America and Caribbean International Bank for Reconstruction Medium Term Notes IBRD 0.24% WTO Sponsored for Developing Countries International Finance Corporation IFC 0.10% NGO Private Sector Development in Emerging Markets Nordic Investment Bank NIB 0.03 NGO Financial Development for Nordic and Baltic Countries Total 1.3% (Data from BlackRock) Most, if not all of the above mentioned Non-Government Organization (NGO) Banks do receive support from governments, or other supranational organizations but operate mostly independent of governments for the social and economic betterment in developing regions. The point of the matter is that the ‘medium term notes’ or other NGO investments seem reasonably secure since they are ‘backed’ by larger ‘parent’ organizations or part of a government’s foreign aid budget. The second undefined label, ‘ Other ,’ is a bit more complicated, to say the very least. Scrolling through the holdings, it seems that ‘Other’ includes a wide ranging, globally diversified collection of assets. The number of global holdings was quite surprising. There are small holdings of equities, bonds and agency notes allocated in over 52 countries. They are summarized in the Bar chart below. The sum total of ‘other’ holdings is 7.7%. Other Holdings: All less than 1.00%; Total: 7.7% of all holdings. (Data from BlackRock) Hence, there’s a bit more risk in that sector; however to be fair, these other holdings are extremely diverse, and very lightly weighted. What remains to be examined then, are the actual funds in the fund. A little care must be taken here, too. First, when the number of holdings is considered in each of the funds, all part of iShares “Core” ETFs theme, there is bound to be ‘overlaps’. So the fund does lack efficiency. However, with most of the Fund in U.S. Treasuries and S&P large cap equities, it should serve its purpose as a defensive holding in the current global economic environment. The investor should keep in mind, though, that the steady capital appreciation may have much the do with the extraordinary advanced economy bond purchasing programs and flight to quality trade into sovereign bonds. That being said, the fund has, in fact, performed rather well and has consistently paid monthly dividends since inception, November of 2005. (click to enlarge) As noted, the fund is composed mostly of fixed income; about 69%. Investors should also take note that it has become a common practice for corporations or governments to issue bonds denominated in stronger foreign currencies, for example, in Euros, Pound Sterling, Yen or U.S. Dollars. There are many good reasons for this strategy. It might be that two nations share a special trade relationship, for example the U.S. and Mexico. Another is to attract foreign fixed capital investments by having a large foreign currency reserve of the foreign investor. Also, it is a means to make bonds with weak domestic economies more attractive to investors seeking an added measure of security. However, the strategy could backfire if the issuer’s native currency weakens sharply against the stronger currency, thus making it more expensive to service the debt. Bond ETF Funds Symbol Number of Holdings Type of Holdings Distribution Yield Weighted Average Coupon Weighted Average Maturity Premium / Discount Expense Fee Weight in AOK Fund iShares Core U.S. Treasury Bond ETF GOVT 120 1 to 30 year U.S. Treasuries 1.36% 2.24% 7.05 years Premium 0.02% 0.15% 16.18% iShares Core Total USD Bond Market ETF IUSB 1547 Global U.S. Dollar Denominated Bonds 1.68% 3.26% 7.11 Years Premium 0.18% 0.15% after 0.01% waiver 41.93% iShares Core U.S. Credit Bond ETF CRED 2542 U.S. Dollar denominated, sovereign, supranational, corporate, local authority notes and bonds 3.35% 4.17% 10.18 years Premium 0.16% 0.15% 11.49% (Data from BlackRock) Next, the fund extends globally with comprehensive U.S., European and Pacific index equity holdings. It’s also important to keep in mind, as described above, that the “Supranational” and the “Other” holdings have a “theme” all their own as well as a structure just like a sector with merely a skeleton of weightings. However, in total, the ‘Other’ and ‘Supranational’ sectors carry a rather heavy allocation weight: Supranational ranks between Switzerland and China, and the “Other” is the fund’s second largest ‘geographic allocation’. Equity ETF Fund Symbol Number of Holdings Type of Holding Distribution Yield Price / Earnings Price / Book Equity Beta Premium / Discount Weight in AOK Fund iShares Core S&P 500 ETF IVV 505 S&P 500 2.20% 19.13 2.75 1.20 Discount -0.04% 13.83% iShares Core MSCI Europe ETF IEUR 991 Large, Mid and Small Cap Europe 4.02% 17.65 1.83 0.99 Premium 0.49% 7.31% iShares Core MSCI Pacific ETF IPAC 861 Large, Mid and Small Cap Pacific 2.45% 14.31 1.37 0.82 Premium 0.19% 4.62% iShares Core MSCI Emerging Markets ETF IEMG 1787 Large, Mid, Small Cap emerging Market 1.93% 19.21 3.13 0.72 Premium 1.10% 2.81% iShares Core S&P MidCap ETF IJH 401 Mid Cap S&P 500 1.51% 20.08 2.29 1.09 At NAV Par 0.00% 1.21% iShares Core S&P SmallCap ETF IJR 602 Small Cap U.S. Equities 1.30% 20.57 1.96 0.97 Premium 0.02% 0.51% (Data from BlackRock) Lastly, just a few quick facts about the fund in the table below. iShares AOK Symbol Number of Holdings Type of Holding Distribution Yield 12 Month Trailing Yield Expense Ratio Equity Beta Premium / Discount Average Volume iShares Core Conservative AOK 9 ETFs plus Supranational and Diversified Global Assets Mostly Equities plus Government, Agency, Corporate Fixed Income 1.46% 2.10% 0.39% 0.25% Discount -0.08% Appx 6000 daily; Recent 11,000 Appx (Data from BlackRock) All said and done, on the surface the fund seems rather simple: nine ETF holdings mostly in U.S. assets. However, when the details are examined, there’s nothing small nor simple about this fund, at all. Although a core conservative fund of funds, it’s quite diversified, global, comprehensive and complex! The main point being that either for short term safety or in terms of long term performance, the fund is, without a doubt, A-OK!