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VYM Is Still A Good Bet In The Short Term

Summary Rates will rise, but very slowly, so dividend funds are still in favor. As rates rise, high-yielding funds should generate more attention. Ultra-cheap way to own some of the world’s best companies. The purpose of this article is to discuss the attractiveness of the Vanguard High Dividend Yield ETF (NYSEARCA: VYM ) as an investment option. To do so, I will look at recent fund performance, its current holdings and allocation, and trends in the market to conclude if VYM will be a profitable investment going in to 2016. First, a little about VYM. The fund is designed to track the performance of the FTSE High Dividend Yield Index, which measures the investment return of common stocks of companies characterized by high dividend yields. Currently, the fund is trading at $68.52/share, and its most recent quarterly dividend is $.53/share. Since VYM’s dividend payment typically fluctuates throughout the year, I used Vanguard’s website directly to estimate its annual yield going forward, rather than relying on its most recent payment. Vanguard currently has its annual yield listed at 3.14%. With the Federal Reserve set to finally raise rates this month, (according to 81% of fund managers surveyed by Bank of America Merrill Lynch), it may seem to go against conventional wisdom to initiate positions in dividend funds at this time. However, there are a few reasons why I expect VYM to still outperform in this environment, which I will outline below. One, the market has been expecting rate hikes for some time, only to be continuously surprised by the Fed delays month after month. Funds such as VYM have been dropping prior to the Fed’s meetings, only to rebound sharply once the announcement of no increase is made. For example, in mid-August VYM dropped over 10% , partly on speculation that a September rate hike was evident. Since the Fed has delayed raising rates in the following two meetings, the fund has rebounded to the pre-drop levels. While VYM has not suffered a recent steep drop, it has traded cautiously over the last month, gaining under 1%. I view the potential upside to VYM, if the Fed delays yet again in December, as greatly outweighing any downside risk. In fact, while most traders are expecting a hike, they are still not completely sold on it. According to the same Bank of America Merrill Lynch survey , the possibility of a December rate hike after the release of last month’s Fed meeting minutes went down to 68%. Therefore, VYM could be a great hedge if the rate hike is delayed yet again, because the fund should rise swiftly as investors dive back in to capture the high yield. Two, I think VYM will outperform over the next six months even if rates do rise, because the increases are likely to be slow and small, meaning investors will have to wait a long time for yields to rise high enough on short-term bonds to seriously compete with the yield offered by the fund. The annual yield of over 3% will still be seen as “high” for a while, even when the Fed finally decides to begin increasing rates. Coupled with the possibility of capital appreciation, investors would be wise to stay the course with VYM, as I do not anticipate a massive correction in the fund on the first rate hike announcement. Additionally, if the Fed does decide to raise rates, the principal reason behind that decision is because they are beginning to feel more confident about the economy’s ability to stand on its own merits. Under such a scenario, I would expect the largest American companies to do well in this growing economy, and those are exactly the companies that make up the bulk of VYM’s portfolio. Below is a listing of the main holdings of VYM as of 10/31/2015: 1 Microsoft Corp. (NASDAQ: MSFT ) 2 Exxon Mobil Corp. (NYSE: XOM ) 3 General Electric Co. (NYSE: GE ) 4 Wells Fargo & Co. (NYSE: WFC ) 5 Johnson & Johnson (NYSE: JNJ ) 6 JPMorgan Chase & Co. (NYSE: JPM ) 7 Procter & Gamble Co. (NYSE: PG ) 8 Pfizer Inc. (NYSE: PFE ) 9 AT&T Inc. (NYSE: T ) 10 Verizon Communications Inc. (NYSE: VZ ) As you can see from the chart, VYM is made up of some of the biggest companies in the world, and these companies will perform strongly during periods of domestic growth. Therefore, the bulk holdings of the fund should continue to deliver returns, regardless of the Fed’s decision. Of course, investing in VYM is not without risk. While I have laid out a few reasons why I like the fund, it is certainly plausible that the Fed will raise rates more aggressively than anticipated. If rates are raised higher, or more quickly, than investors expect, the market will become more volatile and dividend funds will likely suffer as investors shift into bonds and other fixed income investments that begin to offer higher yields with less downside risks. Also, while I laid out why continued low rates will be beneficial overall for the fund, VYM does have about a 15% exposure to the financials sector. This is a sector that should actually outperform in a higher rate environment, since financial companies like banks are able to charge more for the loans they lend out, typically leading to a higher spread, and therefore profits, for the firm. If rates stay low, that sector could be a laggard, which will weigh on the overall performance of VYM. How much this will impact the fund is unclear, but it is a risk to be aware of. However, I do not expect either of these scenarios to play out. Fed chairwoman Janet Yellen has made it clear that the Fed will take a “gradual approach” to hikes to ensure the market is not disrupted. Also, I do not expect the financial sector to drag on VYM, as the sector has rallied, and all odds do point to a hike in the near future. Bottom line VYM provides investors with diversified exposure, access to some of the biggest companies in the world, all for an ultra-low fee of .10%, which, according to Vanguard’s website, is lower than that of 91% of comparable funds. With rates expected to stay at historically low levels, even after the Fed’s initial hikes, VYM’s yield of over 3% will continue to attract investor interest in 2016. The fund will also benefit from increased consumer spending, as it has a 20% weighting of direct exposure to the U.S. consumer. While recent consumer spending has not been strong , I see tremendous upside to that statistic, as hourly wages for Americans have finally started to rise . This will bode well for future consumer spending, especially going into the holiday season, and VYM will be a direct beneficiary of this trend. With a growing U.S. economy and wage growth, continued low rates, and low management fees, I would encourage investors to take a serious look at VYM.

Creating A Portfolio For Safe Retirement Income

Summary I searched through all ETFs and found six for safe income given the current environment. The portfolio I created generates safe income and has the potential for increasing income if interest rates rise. The six ETFs I found cover: U.S. Equities, International Equities, Bonds, Preferred Stocks and Cash. In this article, I will be creating a simple portfolio that balances steady income with safety for a retirement portfolio. The goal of the portfolio is to hold six ETFs to generate safe income with the potential for income to increase. U.S Equity: ProShares S&P 500 Dividend Aristocrats ETF (NYSEARCA: NOBL ) I chose NOBL because it only holds stocks from the S&P 500 (NYSEARCA: SPY ) that have increased their dividend for at least 25 consecutive years. In addition, what makes NOBL different from other dividend ETFs is that the fund equally weights its holdings, which reduces concentration risk. The chart below from the NOBL fact sheet shows that the dividend aristocrats index that NOBL tracks has outperformed the S&P 500 and done so with lower volatility. [Chart from NOBL fact sheet] International Equity: PowerShares S&P International Developed Low Volatility Portfolio ETF (NYSEARCA: IDLV ) I chose IDLV because it holds mainly large cap companies in other developed markets excluding the United States and overlays a low volatility strategy to select only the stocks with the lowest volatility. The following chart from ETFreplay shows that IDLV has underperformed the largest developed markets ETF, which is the iShares MSCI EAFE ETF (NYSEARCA: EFA ). However, as you can see IDLV has had much lower volatility than EFA and when volatility is factored in IDLV outperforms, which is shown in the table below. IDLV EFA Total Return 29.70% 35.50% Volatility 12.20% 15.20% Return/Volatility 2.43 2.34 [Chart from ETFreplay] (click to enlarge) Short-Term Corporate Bonds: Vanguard Short-Term Corporate Bond Index ETF (NASDAQ: VCSH ) I chose VCSH because the yields for investment grade corporate bonds are higher than corresponding yields on treasury bonds. I did not want to choose just any corporate bond fund; therefore, I decided to select a short-term fund because of the possibility of rising interest rates. The following chart shows a comparison between VCSH, the Vanguard Intermediate-Term Corporate Bond Index ETF (NASDAQ: VCIT ) and the Vanguard Long-Term Corporate Bond Index ETF (NASDAQ: VCLT ). The period I looked at was from February 2nd 2015, which was the low point in interest rates for the year, to June 10th, 2015, which was the high point in rates for the year. As expected VCLT performed the worst because it holds only long-dated corporate bond and VCSH performed the best because it holds only short-term bonds. (click to enlarge) [Chart from Google Finance] Floating Rate Preferred: PowerShares Variable Rate Preferred Portfolio ETF (NYSEARCA: VRP ) I chose to include VRP because of its 5% dividend yield and the fact that it has income upside potential during a rising rate environment. Like VCSH above, I compared VRP and PFF to each other during the rising rate period I described above. As you can see VRP outperformed PFF by just over 1%, which is not a large amount. PFF pays a dividend yield of 5.78%, which is higher than VRP at 5%, however, the 0.78% difference in yield does not make up entirely for the 1%+ in outperformance from VRP. With the upside potential in income during a rising rate environment, I expect VRP to be the superior choice. (click to enlarge) [Chart from Yahoo Finance] Covered Call ETF: Horizons S&P 500 Covered Call ETF (NYSEARCA: HSPX ) As part of my U.S. equity allocation, I chose to include HSPX to increase the income of the portfolio while maintaining income safety. I chose HSPX over the more popular PowerShares S&P 500 BuyWrite Portfolio ETF (NYSEARCA: PBP ) because HSPX pays a monthly dividend where PBP pays a quarterly dividend. HSPX writes out-of-the-money calls on the long positions it holds of all option eligible stocks within the S&P 500. The covered calls, along with dividend income received from individual stocks, makes the current yield based on the average dividend over the last twelve months to be 4.3%. In a declining market, covered call strategies are attractive because of the potential to capture all of the premiums from selling the calls. Cash: PIMCO Enhanced Short Maturity Strategy ETF (NYSEARCA: MINT ) My final selection was MINT because, for retirees, having cash or a cash substitute for an emergency or well-timed purchase of an income generating investment that is trading at depressed values is something to consider. For example, if a retired investor was holding cash during the financial crisis and an opportunity like the bottom of the financial crisis presented itself as a buying opportunity to dividend aristocrats that had been unjustly sold down with the rest of the market. The retired investor having cash available, would have been able to increase their income by buying an ETF with high quality companies at depressed prices. Those high-quality companies have been through ups and downs and still have paid increasing dividends for at least 25 straight years. Portfolio Overview I have provided an example of what the portfolio would look like if each category would be equally weighted. Since NOBL and HSPX both are U.S. equity funds, I split the 20% allocation between the two. Using this allocation, the portfolio yield would be 2.81%, which is not a lot, however it is higher than the rate on treasury bonds. The portfolio has the potential for increasing income in the form of increasing dividend payments from dividend aristocrats and from increasing coupon payments on short-term bonds and variable-rate preferred stocks. Weight Yield W*Y NOBL 10.00% 1.90% 0.19% IDLV 20.00% 3.11% 0.62% VCSH 20.00% 1.92% 0.38% VRP 20.00% 5.00% 1.00% HSPX 10.00% 4.30% 0.43% MINT 20.00% 0.94% 0.19% Portfolio Yield 2.81% Portfolio Composition Stocks 40.00% Bonds 20.00% Other 20.00% “Cash” 20.00% Closing Thoughts While the portfolio I created does not have a large yield, it has exposure to high quality U.S. companies with long a long history of dividend increases, international stocks with low volatility and short-term investment grade corporate bonds and variable rate preferred stocks, both of which should provide safety and increasing income during a rising rate environment. Looking back to my goal, I believe I have created a portfolio that generates safe income and has the potential for increasing income. Disclaimer : See here .

Market Evolution And The Demise Of Good-Til-Canceled And Stop-Loss Orders

Summary There have been articles in SA recently touting common stocks of some major exchange management firms. These are not stocks for your retired aunt who taught grade school. They are stocks for your cousin who runs a surfing equipment shop on Maui when she’s not on tour. Exchange management is a high tech business where a winner can become a loser in a matter of months. Decisions like NYSE, NASDAQ and BATS’ prohibition of good-‘til cancel orders, beginning in February, show that exchange management is crisis management. This is Part 1, the introduction, of a discussion of winners and losers among the corporations that manage exchange trading, including CBOE Holdings (NASDAQ: CBOE ), the CME Group (NASDAQ: CME ), the Intercontinental Exchange (NYSE: ICE ), NASDAQ Inc. (NASDAQ: NDAQ ), and London Stock Exchange Group, for example]. These articles will analyze “What’s in?”, “What’s out?”, and “Who Knows?” This first article sets the table for those that follow. What’s in? The future of processing securities and futures transactions is very bright, as the cost of entering, clearing, and communicating results of transactions goes to zero and execution approaches warp speed. The future of banking is in making big investment decisions, finding the right financing, the right companies on the investment execution side, and advising investors about participation in the enterprises they sponsor. Some exchange is going to remember that serving the needs of legions of small investors is profitable. That exchange will find a way to create an environment where these traders are not constantly swamped by high speed traders and institutions. What’s out? Places where we see men in brightly colored jackets announcing new issues and ringing a quaint bell at the market open, like the building on the corner of Broad and Wall Street. They are museums and retirement villages – glorified photo ops. Financial institutions as a storehouse for securities and other claims on real wealth. One day soon this will be done globally by a computer the size of your fingernail. Financial institutions as trading intermediaries. That business is low margin, high volume, and independent of strategic economic and financial forecasting issues. Forget foreign exchange, deposit trading, and derivatives trading by banks. Financial institutions will advise users and do the trade that originates the use of these instruments by corporations and investors, but the billions of follow-on trades are soon to be non-bank activities. Exchange corporations that make too many decisions like the one made by Intercontinental Exchange ( ICE ), the owner of the NYSE], the other day, to end GTC and SL. Unless NYSE has more changes in mind than simply those, that was a bad decision. Good exchange decisions will attract traders; bad decisions, repel them. This decision will repel many traders. Who Knows? The future of the thing that we now call an exchange, defined as a localized collection of computer servers that confirm trade execution, like the NYSE now, is in some doubt. The future of the collection of companies listed in the first paragraph above is uncertain. If they depend on markets functioning as they do today, they are zombies. If they see themselves as electronic tech companies, in a race to find the fastest, most secure, means of placing, executing, clearing and communicating transactions, they have a shot at being the king of the world of transactions. There is likely to be only one in the end. And it may be none of the firms listed above, but one of the dark pools that wait to usurp these firms’ dominant position. Or a company that does not yet exist. It will be fun to watch (from an investment-free position.) This series of articles is a warning to investors in these exchange management companies: To forecast the fortunes of the firms above, forget the charts. Forget b and a. Forget forecasts of trends in income, the size of income margins, and the like. These firms are the wildcat oil drillers of finance. They exhibit handsome returns in the past few years. (And wages are high for deep sea divers, if they survive and surface to collect.) As a combined portfolio of shares, the sort of analysis that applies to Google, now Alphabet, Inc., ( GOOGL , GOOG ) or Apple (AAPL] is relevant for these stocks. The future of electronic trading and clearing in the next several years is good. But keep a close eye on new players. Also old players, such as dealers like Goldman Sachs (NYSE: GS ) and the hedge fund, Citadel, that have an unexplained interest in trading technology. But the individual corporations are not so secure. Some of them may not be with us in as few as five years. The changing technology of trading and the jockeying of the combatants are as much fun to watch as a Star Wars battle scene. If your money is not invested in one of the losers. As an aside, here is a list of dark horses: Bank of New York Mellon (NYSE: BK ), State Street Corp. (NYSEARCA: SST ), BATS Exchange, and IEX. My guess is that the ultimate king of the hill will be someone we have not mentioned. It’s human nature. Darwin knew about it. Change in the environment always means the death of old species and the rise of new species. So to resist change is instinctive. It promotes species survival. The human animal hates change. NYSE management hates change. Individual investors hate change. Following articles will expand on the reasons for my picks of winners and losers.