Tag Archives: income

TLT: Negative Beta Makes This Bond ETF Great For The Equity Heavy Portfolios

Summary TLT is a high-duration treasury ETF. The expense ratio of .15% is within reason and the yield of 2.66% is enough to generate a small amount of income. The main reason for holding a fund like TLT is to keep portfolios values steady when equity markets fall on fear. TLT has a negative correlation with most equity investments and a negative correlation with short term high yield bond funds. Investors should be seeking to improve their risk adjusted returns. I’m a big fan of using ETFs to achieve the risk adjusted returns relative to the portfolios that a normal investor can generate for themselves after trading costs. I’m working on building a new portfolio and I’m going to be analyzing several of the ETFs that I am considering for my personal portfolio. One of the funds that I’m considering is the iShares 20+ Year Treasury Bond ETF (NYSEARCA: TLT ). I’ll be performing a substantial portion of my analysis along the lines of modern portfolio theory, so my goal is to find ways to minimize costs while achieving diversification to reduce my risk level. Expense Ratio The expense ratio on TLT is .15%, which is within reason for long term treasury ETFs. I’d love to see expense ratios dipping towards single digits, but this is still within reason. Yield The yield on the fund is 2.66%. This is lower than investors would expect from even a short term high yield fund, but it does provide some income in exchange for investors taking on the duration risk which can cause TLT to be fairly volatile. Maturity The maturity profile for TLT is fairly simple, as shown below. Over 98% of the portfolio is in treasury securities with a maturity of at least 20 years. Given the name of the ETF, that shouldn’t be a surprise. Similarly, the fund is pretty much exclusively treasury securities. No surprises in this category. Building the Portfolio This hypothetical portfolio has a moderately aggressive allocation for the middle aged investor. Only 30% of the total portfolio value is placed in bonds and a third of that bond allocation is given to high yield bonds. This portfolio is probably taking on more risk than would be appropriate for many retiring investors since the volatility on equity can be so high. However, the diversification within the portfolio is fairly solid. Long term treasuries work nicely with major market indexes and I’ve designed this hypothetical portfolio without putting in the allocation I normally would for REITs on the assumption that the hypothetical portfolio is not going to be tax exempt. Hopefully investors will be keeping at least a material portion of their investment portfolio in tax advantaged accounts. The portfolio assumes frequent rebalancing which would be a problem for short term trading outside of tax advantaged accounts unless the investor was going to rebalance by adding to their positions on a regular basis and allocating the majority of the capital towards whichever portions of the portfolio had been underperforming recently. (click to enlarge) A quick rundown of the portfolio The two bond funds in the portfolio are TLT and the PIMCO 0-5 Year High Yield Corporate Bond Index ETF (NYSEARCA: HYS ) for high yield shorter term debt and for longer term treasury debt. TLT should be useful for the highly negative correlation it provides relative to the equity positions. HYS on the other hand is attempting to produce more current income with less duration risk by taking on some credit risk. The Consumer Staples Select Sector SPDR ETF (NYSEARCA: XLP ) is used to make the portfolio overweight on consumer staples with a goal of providing more stability to the equity portion of the portfolio. The iShares U.S. Utilities ETF (NYSEARCA: IDU ) is used to create a significant utility allocation for the portfolio to give it a higher dividend yield and help it produce more income. I find the utility sector often has some desirable risk characteristics that make it worth at least considering for an overweight representation in a portfolio. The iShares MSCI EAFE Small-Cap ETF (NYSEARCA: SCZ ) is used to provide some international diversification to the portfolio by giving it holdings in the foreign small-cap space. The core of the portfolio comes from simple exposure to the S&P 500 via the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ), though I would suggest that investors creating a new portfolio and not tied into an ETF for that large domestic position should consider the alternative by Vanguard, the Vanguard S&P 500 ETF (NYSEARCA: VOO ), which offers similar holdings and a lower expense ratio. I have yet to see any good argument for not using or another very similar fund as the core of a portfolio. In this piece I’m using SPY because some investors with a very long history of selling SPY may not want to trigger the capital gains tax on selling the position and thus choose to continue holding SPY rather than the alternatives with lower expense ratios. Risk Contribution The risk contribution category demonstrates the amount of the portfolio’s volatility that can be attributed to that position. Despite TLT being fairly volatile and tying SPY for the second highest volatility in the portfolio, it actually produces a negative risk contribution because it has a negative correlation with most of the portfolio. It is important to recognize that the “risk” on an investment needs to be considered in the context of the entire portfolio. To make it easier to analyze how risky each holding would be in the context of the portfolio, I have most of these holdings weighted at a simple 10%. Because of TLT’s heavy negative correlation, it receives a weighting of 20% and as the core of the portfolio SPY was weighted as 50%. Correlation The chart below shows the correlation of each ETF with each other ETF in the portfolio and with the S&P 500. Blue boxes indicate positive correlations and tan box indicate negative correlations. Generally speaking lower levels of correlation are highly desirable and high levels of correlation substantially reduce the benefits from diversification. When it comes down to it, TLT shines in a portfolio. In a vacuum, TLT would be a fairly poor investment due to its high volatility and mediocre yield. Being over 2.6% means the income is material, but for most investors that yield is not going to cover a large portion of their living expenses and unlike dividend growth funds this won’t be rapidly compounding unless the position is increasing in value from yields falling. The additional total return would be nice, but it would leave investors with even fewer options for trying to produce material amounts of income to support their lifestyle. By including TLT in a portfolio that is heavy on equities the risk/return profile is materially improved. A strong negative correlation with equity investments means TLT generally moves up when those investments are falling in value. The combined portfolio exhibits substantially less volatility than the domestic equity market. While high volatility for an individual holding can often be considered a bad thing, negative correlations with so many other investments completely reverses the impact. Look at the chart below to see how much higher the total risk profile of the portfolio would have been if the position in TLT had been placed in SPY instead: (click to enlarge) The date range used is the same, but the annualized volatility of the portfolio has increased from 9.4% to 13.7% because this portfolio lacks balancing effect of TLT using a negative correlation to keep portfolio values steady when investors are fleeing the equity market to buy up long term treasury securities. Conclusion TLT is offering most of the things I’m looking for in a long term bond fund. The fund has high volatility, but the low correlation with the market results in a beta of negative .55. When I’m looking for long term bond funds my first areas to consider are the expense ratio and whether the fund is eligible for free trading. Unfortunately, TLT does not fall on my list for free trading which is a significant problem since I want to be regularly rebalancing the positions which means much higher trading fees if the ETF is not eligible for free trading. Despite that one weakness, TLT does well on every other metric. It offers a solid negative beta and enough income to feel like it is in the portfolio for more than just the negative beta. This is a very respectable ETF for long term treasury exposure. 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. Additional disclosure: TLT has a negative correlation with most equity investments and a negative correlation with short term high yield bond funds

September 2015, Funds In Registration

By David American Beacon Bridgeway Large Cap Growth Fund American Beacon Bridgeway Large Cap Growth Fund will seek long-term total return on capital, primarily through capital appreciation. Bridgeway is selling their LCG fund to American Beacon, pending shareholder approval. The fund will still be managed by John Montgomery and the Bridgeway team. The initial expense ratio will be 1.20%, rather above the current Bridgeway charge. The minimum initial investment is $2500. Aristotle Small Cap Equity Fund Aristotle Small Cap Equity Fund will seek long-term capital appreciation by investing in high quality, small-cap businesses that are undervalued. The fund will be managed by David Adams and Jack McPherson. The initial expense ratio will be 1.15%. The minimum initial investment is $2,500. Aristotle Value Equity Fund Aristotle Value Equity Fund will seek long-term capital appreciation by investing mostly in undervalued mid- and large-cap stocks. The fund will be managed by Howard Gleicher, Aristotle’s CIO. The initial expense ratio will be 0.68%. The minimum initial investment is $2,500. Aston/River Road Focused Absolute Value Fund Aston/River Road Focused Absolute Value Fund will seek long-term capital appreciation. The plan is to deploy that “proprietary Absolute Value® approach,” in hopes of providing “attractive, sustainable, low volatility returns over the long term.” The fund will be managed by Andrew Beck, River Road’s CEO, and Thomas Forsha, their co-CIO. The initial expense ratio will be 1.26%. The minimum initial investment is $2,500, reduced to $500 for various sorts of tax-advantaged accounts. Brown Advisory Equity Long/Short Fund Brown Advisory Equity Long/Short Fund will seek to provide long-term capital appreciation by combining both “long” and “short” equity strategies. The plan is pretty straight forward: go long on securities with “few or no undesirable traits” and short the ugly ones. They have the option of using a wide variety of instruments (direct purchase, ETFs, futures and so on) to achieve that exposure. The fund will be managed by Paul Chew, Brown Advisory’s CIO and former manager of the Growth Equity fund. The initial expense ratio will be 2.24% for investor shares and 2.49% for advisor shares. The minimum initial investment is $5,000 for investor shares and $2000 for advisor shares, which are designed to be purchased through places like Scottrade. Dana Small Cap Equity Fund Dana Small Cap Equity Fund will seek long-term growth. The plan is to create a risk-managed portfolio by using a sector-neutral, relative-value, equal-weight discipline. The large cap version of the strategy has been around for five years and has been perfectly respectable if not particularly distinguished for good or ill. The fund will be managed by a team from Dana Investment Advisers. The initial expense ratio will be 1.20%. The minimum initial investment is $1,000. Driehaus Turnaround Opportunities Fund Driehaus Turnaround Opportunities Fund will seek to maximize capital appreciation, while minimizing the risk of permanent capital impairment, over full-economic cycles. The plan is to invest in the equity and debt securities of “distressed, stressed and leveraged companies,” on the popular premise that they’re widely misunderstood and their securities are often incorrectly priced. The fund will be managed by Elizabeth Cassidy and Thomas McCauley of Driehaus. The initial expense ratio has not been released. The minimum initial investment is $10,000 for retail accounts, reduced to $2000 for retirement accounts. Ensemble Fund Ensemble Fund will seek long-term capital appreciation. The plan is to identify 15-25 high-quality companies with undervalued stock, then buy some. The fund will be managed by Sean Stannard-Stockton, Ensemble’s president and CIO. The initial expense ratio will be 2.0%. The minimum initial investment is $5,000, reduced to $1000 for IRAs and accounts established with an automatic investment plan. FFI Diversified US Equity Fund FFI Diversified US Equity Fund will seek long-term capital growth. The plan is to invest in 40-50 U.S. stocks, with a target portfolio market cap of $20 billion. The fund will be managed by a team from FormulaFolio Investments, led by CIO James Wenk. The initial expense ratio will be a stout 2.25%. The prospectus doesn’t offer any immediate evidence that the guys will overcome a high expense ratio in such a competitive slice of the market. The minimum initial investment is $2,000, reduced to $1,000 for retirement accounts and those established with an automatic investing plan. Gripman Absolute Value Balanced Fund Gripman Absolute Value Balanced Fund will seek long-term total return and income. The plan is to pursue a conservative asset allocation on the order of 30% equity/70% intermediate-term fixed income. A sliver might be in junk bonds. The fund will be managed by Timothy W. Bond. The initial expense ratio hasn’t been announced. The minimum initial investment is $2,000. Harbor Diversified International All Cap Fund Harbor Diversified International All Cap Fund will seek long-term growth of capital. The plan is to invest mostly in cyclical companies, which you typically buy when they look absolutely ghastly and sell as soon as they start looking decent. The fund will be managed by a very large team led by William J. Arah from Marathon Asset Management, a London-based adviser. Mr. Arah founded Marathon, which also serves as sub-advisor to Vanguard Global Equity. The initial expense ratio will be 1.22%. The minimum initial investment is $2,500. Iron Equity Premium Income Fund Iron Equity Premium Income Fund will seek to provide superior risk-adjusted total returns relative to the CBOE S&P 500 BuyWrite Index (BXM). The plan is to buy ETFs which track the S&P 500 while writing call options to generate income. The fund will be managed by a team from IRON Financial. The initial expense ratio will be 1.45%. The minimum initial investment is $10,000. Preserver Alternative Opportunities Fund Preserver Alternative Opportunities Fund will seek high total returns with low volatility. The plan is to hire sub-advisers to do pretty typical liquid alts stuff in the portfolio. The subs have not yet been named, though. The initial expense ratio will be 2.43%. The minimum initial investment is $2,000. Quantified Self-Adjusting Trend Following Fund Quantified Self-Adjusting Trend Following Fund (really? It feels like they consulted with Willy Wonka to select their name.) will seek “high appreciation on an annual basis consistent with a high tolerance for risk.” Do you suppose it’s really seeking a high tolerance for risk, or merely requires that prospective investors have a high tolerance? The plan is to determine the market’s trend, then invest in ETFs, leveraged ETFs or inverse ETFs. If there’s no discernible trend, they’ll invest in bonds. The fund will be managed by Jerry Wagner, President of the Flexible Plan Investments, and Dr. Z. George Yang, their director of research. The initial expense ratio will be 1.75%. The minimum initial investment is $10,000. T. Rowe Price Mid-Cap Index Fund T. Rowe Price Mid-Cap Index Fund will seek to match the performance of the Russell Select Midcap Completion Index, with a correlation of at least 0.95. The fund will be managed by Ken D. Uematsu. The initial expense ratio will be 0.32%. T. Rowe Price Small-Cap Index Fund T. Rowe Price Small-Cap Index Fund will seek to match the performance of the Russell 2000®Index with a correlation of at least 0.95. The fund will be managed by Ken D. Uematsu. The initial expense ratio will be 0.34%.

PPL Maintains Attractive Fundamental Outlook

Summary PPL’s transformation into a regulated electric utility and constant investments are key positives of the stock. PPL will have a better rate base growth in the years ahead. The company’s shareholders will continue to enjoy healthy dividend growth in the years ahead. I reaffirm my bullish stance on PPL Corporation (NYSE: PPL ); the company has been executing correct growth efforts and its financial performance remains satisfactory. PPL’s initiative of investing heavily in energy infrastructure development projects is well in-line with its long-term growth generating strategy. Moving ahead, the company’s growth investments will serve as an important source of generating healthy sales and cash flows with rate base growth in the long run. Moreover, PPL has transformed itself into a 100% regulated utility with the spin-off of its competitive energy operations, which will provide stability to its future cash flow base and highlights the security of its consistent dividend growth. Furthermore, the stock offers a potential upside of approximately 18%, based on my price target, as shown below. PPL Is an Attractive Buy In the past few years, U.S. utility companies have been investing heavily in infrastructure growth and development projects. Given the fact that the U.S. electricity demand graph is expected to grow consistently, as shown in the graph below, I believe that ongoing hefty infrastructural development and growth-related investments by U.S. utility companies will serve as an important driver of their future earnings and cash flow growth. (click to enlarge) Source: bv.com As far as PPL is concerned, the company has been spending aggressively on infrastructural growth projects, most importantly to develop its transmission business. During 2Q’15, PPL has completed one of its major transmission business-related investment projects, the 500-KV Susquehanna-Roseland transmission project. This upgraded Susquehanna-Roseland transmission line will act as a model for its future transmission projects, which are lined up to improve the company’s transmission operations. Also, it will make PPL’s electric services more reliable in the long run. Moreover, the company’s 640-MW Cane Run unit 7, the first combined cycle gas plant in Kentucky, is also operational now. The unit has replaced PPL’s 800MW coal-fired generation as part of its plan to reduce its reliance on coal and move to energy efficient gas-powered units. Moving ahead, as the company continues to invest in its infrastructural development-related projects, I believe PPL’s rate base will decently grow in the years ahead, which will ultimately better its top-line, cash flows and earnings base. In its efforts to gain regulated rate base growth, the company filed a rate increase request to Pennsylvania Utility Commission (PUC) in which it is seeking an increase of $167.5 million in annual base distribution revenue on 10.95% ROE and 51.6% equity ratio on a rate base of $3.2 billion. This rate case hike request is backed by the company’s ongoing investments in renewing, strengthening and modernization of its distribution network. If approved, the proposed rate hike will add to PPL’s future top-line, earnings and cash flow base growth. Meanwhile, the company’s recently approved rate case increase of $125 million for KU and $7 million for LG&E will positively affect its top-line numbers. In addition, PPL’s effective transformation into 100% regulated utility after the spin-off of its competitive business operations has improved its risk profile. During the 2Q’15 earnings conference call, while talking about the strong growth prospects of its company, PPL’s CEO s aid : “…all of our utilities are investing heavily in infrastructure, producing robust rate base growth for PPL. In fact, organic growth in our domestic utilities is among the strongest in the U.S. utility sector with 8% to 10% earnings growth expected through 2017. We expect our combined rate base in the U.S. alone to grow by 47% over the next five years. That’s the equivalent of adding another major utility to our portfolio.” Given PPL’s transformation into a 100% regulated utility and also due to constant growth investments made by the company, I believe that its management’s anticipation of attaining an annual earnings growth rate of 4% to 6% through 2017 is achievable. Investors Remain rewarded at PPL The company has been sharing its success with shareholders through dividends. PPL had recently announced quarterly dividend payments of $0.3375, increasing the annualized dividend by 1.3% to $1.51/share . The company offers a dividend yield of 4.82% and has a low payout ratio of 56.40% . Owing to the company’s transformation into a regulated utility, which will provide stability to its top-line numbers and cash flows, I believe dividends offered by the company will grow consistently in future, which will portend well for its stock price. Analysts are also expecting a consistent increase in the company’s book value and cash flows per share, as shown in the chart below. (click to enlarge) Source: 4-Traders.com Price Target I have calculated a price target of $37 for PPL, using a dividend discounting method. In my price target calculations, I used cost of equity of 8% and nominal growth rate of 3%. The stock offers a potential upside of approximately 18%, as per my calculated price target, as shown below. 2015 2016 2017 Terminal value DPS (In-$) 1.47 1.53 2 41 Present Value of DPS (In-$) 1.36 1.31 1.59 33 Source: Equity Watch Calculations & Estimates Total Present Value of DPS = Price Target = $1.36 + $1.31 + $1.59 + $33 = $37/share Risks Given the fact that the U.S. government has become more concerned about limiting the effect of carbon dioxide emissions from electricity generation plants of utilities, the company continues to face increased risk of regulatory restrictions in the form of taxes and fines. Furthermore, unexpected political and environmental changes, irregular weather patterns and higher fuel costs are key risks that might hamper PPL’s future stock price performance. Also, I believe that any laxness exhibited by the management during the execution of its planned strategic growth plans, mentioned above, will result in the company’s failure to produce financial results, per the management’s estimates. Conclusion PPL has an attractive fundamental outlook. The company’s transformation into a 100% regulated electric utility and its constant investments to expand and improve the transmission business are key positives of this stock, which indicate that PPL will have a better rate base growth in the years ahead, which will portend well for its top-line and earnings base. Also, it will strengthen the company’s future cash flow trajectory. Owing to the improved outlook of PPL’s future cash flow base, I believe its shareholders will continue to enjoy healthy dividend growth in the years ahead. Moreover, based on my price target, the stock offers potential price appreciation of 18%. Due to the aforementioned factors, I am bullish on PPL. 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.