Tag Archives: management

Momentum Model Of ‘Swensen Six’ Portfolio Recommends 100% In Cash

Momentum Model called for move to cash back on August 10th. A three metric model is used to drive the momentum model. The “Swensen Six” portfolio covers six asset classes, depending on how asset class is defined. Example ETFs are provided to populate the recommended asset classes. David Swensen, in his book, Unconventional Success: A Fundamental Approach to Personal Investment , lays out what he calls “The Science of Portfolio Structure.” The following bullet points lay out the basic points of Swensen’s logic for constructing what I call the “Swensen Six” portfolio. Basic financial principles require the portfolio exhibit diversification and equity orientation. The “Swensen Six” is well diversified in that it covers the globe by using U.S. Equities (NYSEARCA: VTI ), Developed International Equities (NYSEARCA: VEA ), and Emerging Market Equities (NYSEARCA: VWO ). By equity orientation Swensen skews a portfolio toward stocks instead of bonds. The equity Exchange Traded Funds (ETFs) in the “Swensen Six” are: VTI, VEA, VWO, and VNQ . High expected return types of securities dominate the portfolio as 70% is allocated to equity investments. The specific percentages are listed below. Use six asset classes to provide portfolio diversification. Domestic equities comprise 30% of the portfolio or invest 30% in VTI. Swensen is not specific about the individual securities so I am recommending particular ETFs for each asset class. The percentages are Swensen recommendations. Determining what percentage to invest in what asset class is one of the most difficult decisions individual investors face when it comes to portfolio construction so Swensen’s percentage recommendations are most helpful. Developed international equities carry a recommendation of 10% so invest 10% in VEA. Originally, Swensen recommended 15% be allocated to developed international equities, but in a more recent paper lowered the percentage to 10%. One could stay with the original 15% recommendation. Emerging markets make up 10% of the portfolio so invest 10% in VWO. Originally, Swensen recommended 5% be assigned to emerging markets, but he later shifted 5% from developed international equities to emerging markets. One could stay with the original 5% recommendation. Domestic Real Estate makes up 20% of the total portfolio so invest 20% in VNQ. Another option is to invest 15% in VNQ and 5% in RWX , an international REIT ETF. This is my preference as it adds more diversification by adding a seventh asset class, International Real Estate. Investors wishing to keep life simple will stick to the “Swensen Six” rather than expand to include RWX. U.S. Treasury Bonds make up another 15% of the portfolio so invest 15% of the total in TLT . U.S. Treasury Inflation-Protected Securities is the last asset class and we invest 15% in TIP . In my Dashboards worksheet, I classify both TLT and TIP in the Bonds and Income asset class, but for purposes of following Swensen, I’ll break the two into separate asset classes. With only six ETFs, Swensen covers the globe so diversification is accomplished. The equity orientation is in place as 70% of the portfolio is tilted in that direction. Swensen provides interesting logic behind his recommendations. Two paragraphs from page 83 of his book state it very well so I quote below: “Investors achieve equity orientation by investing a preponderance of assets in the high-expected-return asset classes of domestic equity, foreign developed equity, emerging market equity, and real estate. The return-generating power of equity positions drives the results of long-term investment portfolios. Investors give up expected return to defend portfolios against unanticipated inflationary or deflationary economic conditions. U.S. Treasury Inflation-Protected Securities protect against inflation with certainty, while real estate holding guard against inflation with reasonable assurance. In the long run domestic equities add to the inflation-hedging characteristics of a portfolio, but in the short run domestic equities prove notoriously unreliable as inflation hedges.” This six ETF portfolio has an equity emphasis, provides some protection against inflation and is broadly diversified. By keeping these six assets in balance, the passive investor is well served. If you are a momentum style investor, what does the “Swensen Six” look like in the current market environment? Below is the ranking for these six ETFs and as readers can see, all monies are investing in SHY or cash. None of the critical ETFs are ranked above SHY. ETF Rankings of “Swensen Six”: The following ranking is built upon three metrics. Fifty percent (50%) of the weight is allocated to the performance of each ETF over the past 91 calendar days. Thirty percent (30%) of the weight is assigned to the performance over the most recent 182 calendar days and the final 20% is a volatility measurement where low volatility is highly valued. SHY is the cutoff or “circuit breaker” ETF. When the ETFs rank below SHY, as is currently the case, 100% of the portfolio is invested in SHY or cash. The portfolio is reviewed every 33 days as the ETFs are ranked again to see if any show up for potential investment. This portfolio has been in cash for nearly two months. (click to enlarge)

How I Created My Portfolio Over A Lifetime – Part VI

Summary Introduction and series overview. When and why I might trim a position or two from my portfolio. The methods I use to liquidate a position. Back to Part V Introduction and Series Overview This series is meant to be an explanation of how I constructed my own portfolio. More importantly, I hope to explain how I learned to invest over time, mostly through trial and error, learning from successes and failures. Each individual investor has different needs and a different level of risk tolerance. At 66, my tolerance is pretty low. The purpose of writing this series is to provide others with an example from which each one could, if they so choose, use as a guide to develop their own approach to investing. You may not choose to follow my methods but you may be able to understand how I developed mine and proceed from there. The first article in this series is worth the time to read based upon some of the many comments made by readers, as it provides what many would consider an overview of a unique approach to investing. Part II introduced readers to the questions that should be answered before determining assets to buy. I spent a good deal of that article explaining investing horizons, including an explanation of my own, to hopefully provoke readers to consider how they would answer those same questions. Once an individual or couple has determined the future needs for which they want to provide, he/she can quantify their goals. If the goals seem unreachable, then either the retirement age needs to be pushed further into the future or the goals need to become attainable. I then explained my approach to allocating between different asset classes and summarized by listing my approximate percentage allocations as they currently stand in Parts III and III a. Part IV was an explanation of why I shy away from using ETFs and something akin to an anatomy of a flash crash. In Part V I did my best to explain why holding cash, especially when assets valuations are relatively high, may be better than being fully invested at all times. In this article I will explain when, why and how I remove positions from my portfolio. I will provide two examples, one for each of the two methods I use. When and why I might trim a position or two from my portfolio There are two reasons that I might want to sell a stock position from my portfolio. The first is when the company management changes direction or the business model in a way that does not appear to be sustainable to me. This one should be obvious, but I do not want to exclude anything that could be useful to those just starting out. If the fundamental reason I bought the stock has changed, such as the moat has been washed away by technological advances creating easy entrance by competitors, I must reassess whether holding the position still makes sense. Usually, in such a case, the answer is no. Thus, I will want to sell the stock and look for another investment with a more sustainable growth/income business model still intact. The second reason is when I sense, for many reasons, that the market and by extension some of my positions, have reached overly high valuations. I will discuss the many reasons in a moment. But, for now, suffice it to say that when I feel that I could find a better investment for my money in terms of total return potential, I consider selling the position. The method, in this case, is to sell calls. In the first case I will sell the position outright on a day when the stock is exhibiting some price strength (usually when the broader market is up and lifting most stocks higher). In the second case, I will sell the calls when the stock is over its fair value by 20 percent or more and do so while the stock is still near its 52-week high. The methods I use to liquidate a position I want to provide two examples, one to explain each situation in which I decide to sell a position. The first example is Best Buy (NYSE: BBY ) which I first recommended in this article back on October 7, 2011. But I did not buy the stock at that point because my recommendation was to sell put options in hopes of either collecting a 20 percent annualized return on cash or to buy the stock at a discount. I ended up collecting the cash and the option expired worthless. The next time I made a similar recommendation came in my December 23, 2011 article . This time I was successful, having sold two put options, collecting $2.39 per share, with a strike price of $20 while the price at the time stood at $23.28. I did not expect to get put the shares but, as it turned out, the stock fell all the way down to near $11 per share in November of 2012. I ended up owning 200 shares of BBY with a cost basis of $17.61 in mid-January 2013 with the price at $15. I had originally wanted the shares because of BBY’s position as the leading electronics retailer after a consolidation in the space and because of my personal experiences while shopping at three different BBY locations. I received some negative feedback after my original article that customer service in some areas had become less than desirable. I considered that to be more of a localized situation as my recent experiences had been superior. Then something changed. All of the highly knowledgeable employees that I had previously made my shopping experience enjoyable suddenly disappeared. The employees that replaced them barely spoke English and were not as interested in helping find what I needed but totally focused on selling me something along with some other things that I did not need. They were highly trained in selling but knew little about the products they were charged with selling. Fortunately for me this happened in September, 2013 with the price trading near $38 per share. I dumped my 200 shares on September 16th at $38.50. One of the major reasons why I had bought stock in the company, excellent customer service, had changed dramatically. I was lucky to be shopping and having the experience when I did. Sure the stock went up to over $43 per share in November of that year, two months after I had sold. But I felt no regret at the time. My decision was based upon the assumption that the company had decided to lower labor costs and try to increase dollars per sale at the expense of customer service. Management probably did not think it would be sacrificing so much in the customer experience, but, in the end, the result was horrific. Results disappointed and the stock price fell back to a low of $22.15 on January 2014. I was not tempted to add back shares at that price. While I would have profited nicely if I had, the company had broken my faith and I will not look back. Of course, the bigger future problem for BBY will be competing over the Internet with the likes of Amazon and some smaller electronics specialty sites. The stock now stands at $37.78. I believe it is over valued at that price relative to its future prospects. The second example is a company than I have held in my tax-deferred IRA account since 2006 with a cost basis of just over $30 per share. McCormick (NYSE: MKC ) is one of my all-time favorite companies but the stock has, like many quality stocks in the current environment, has become over valued by my estimates. The current share price is $79.62 (as of market close on Friday, October 2, 2015). I really do not want to sell these shares because the company is still doing everything right and the future remains bright. However, when the price of a stock gets to be over valued by 20 percent or more I like to sell calls above the current price. If the stock rallies and remains above my strike price I end up having to sell the stock for 25 percent or more above what I consider to be fair value. My estimate of fair value for MKC is $66. I get to that price base by using the dividend discount model [DDM] with a discount (or my hurdle rate) of nine percent. Dividends have increased handsomely over the past five and ten years, at nine and 9.1 percent, respectively. However, I believe that the growth prospects going forward will be lower, not only for MKC but for most multi-national corporations, as growth in emerging markets is slowing and not likely to regain the levels of the past decade in the foreseeable future. My estimated compound annual growth rate for MKC dividends is 6.6 percent. Plug in the numbers and we end up with a fair value of $66.01 per share. As I mentioned before, I do not want to lose this position but it will not break my heart if these shares get called away at $85 before year end. Since the position is in my IRA account I am not worried about a tax consequence. I would not sell calls so close to the current price if it were in a taxable account. I figure that if the position gets called away I will probably look for a better yield in another quality stock that has been beaten down more. Of course, if it does not get called away I am happy because the stock is not likely to fall much below fair value. It seems to hold up very well even during the worst recessions. Everyone has to eat and we like to season our food to taste. That goes for all seven billion of us; or at least those can afford to be choosy. That number has grown and will continue to growth but I suspect the rate of growth to slow considerably for at least the next five years. Summary I intend to get more into some of the common mistakes investors make when not paying attention to tax consequences in the next article. After that I want to get back to the basic concepts of saving and investing goals and methods, primarily for those just starting out, but also applicable to those who are nearing retirement and not quite comfortable with where they are at this stage of life in terms of having enough to last through their remaining years in comfort. There are always a few tough decisions to make but they are generally well worth considering. As always I welcome comments and questions and will do my best to provide details and answers. This is one of the best aspects of the SA community. We can learn from each other and share our perspectives so that other readers can benefit from the comprehensive knowledge and experience represented here.

Portland General: Utility With Some Promise

Summary Short-term, headwinds exist related to heavy capital expenditures and poor weather forecasts. Long-term, spending should be down and income up, freeing up cash flow for shareholder returns. Two natural gas-fired plant openings, one in 2016 and one in 2020, will be key to company success. Portland General Electric Company (NYSE: POR ) is an electric utility that operates wholly within the state of Oregon, providing power to nearly 50% of Oregonians with over 3,400MW of available energy generation. Primarily serving residential customers, the company’s bottom line has been bolstered by domestic migration to the Northwest. From 2010-2014, the Portland metropolitan area added over one hundred thousand new residents – an annual growth rate of 5.2%. This strong local population growth has helped bolster earnings results and shareholder returns, with investors reaping 100% in total return over the past five years, roughly double the return of utilities indexes. Does Portland General have more room to run or has the utility run its course? Future Is Natural Gas, Profit Is With Hydro * Portland General September 2015 Investor Presentation Portland General has a diverse portfolio of power generation. Including purchased power, 36% of power was created from renewable sources and an additional 25% generated from cleaner-burning natural gas. This is going to change drastically over the next few years, however. Given Oregon’s progressive nature, it wasn’t a surprise to see Oregon residents campaign for clean power. Management quickly bowed to customer and political pressure, leading to plans for the elimination of all coal-fired generation in Oregon. Under the Boardman 2020 plan, Portland General will close its 518MW Boardman coal asset by 2020, instead building a natural gas facility on the site. This will be a costly project, but doing so will save the company $470M in required upgrades to meet emissions guidelines had the plant remained open until 2040 as previously guided. The risk here is that the new plant is delayed and is not completed by the time Boardman is scheduled to be mothballed. Portland General relies heavily on the Boardman plant to produce electricity as coal-fired generation is in many cases the cheapest and most reliable asset the company has. Coal represents 16.5% of available resource capacity but generated 28% of the load in 2015 and is run at capacity nearly constantly. The company’s peak power load in 2014 was 3866MW which was already above currently available company-owned power generation and the shortfall from the Boardman plant closure could force Portland General to increase purchased power during peak times. While these costs will inevitably be passed along to the consumer because of Portland General’s clauses with the Public Utility Commission of Oregon, higher prices could still cause a slack in energy demand and bad press is never good for the bottom line. The company’s Carty Generating Station, slated to be completed in 2017, will help cover future shortfalls built is imperative for investors to track how the new Boardman facility’s construction is proceeding over the coming years. This risk is noted in the company’s 10-K: “Beyond 2018, PGE may need additional resources in order to meet the 2020 and 2025 RPS requirements and to replace energy from Boardman, which is scheduled to cease coal-fired operations in 2020. Additional post-2018 actions may also be needed to offset expiring power purchase agreements and to back-up variable energy resources, such as wind generation facilities. These actions are expected to be identified in a future IRP. PGE expects to file its next IRP with the OPUC in 2016.” – Portland General, 2014 Form 10-K From a profitability standpoint, the key to the company’s energy costs however is hydroelectricity. Hydroelectric generation can be the lowest cost source of generation for Portland General if conditions are right. The state of the Deschutes and Clackamas Rivers (tributaries of the Columbia River) is key. Both of these rivers’ headwaters are fed by the Cascades, a mountain range spanning from Canada to Northern California. In general, the greater the snowfall, the better the power generation is for hydroelectric when the spring thaw comes. Unfortunately for Portland General shareholders and highlighted in a recent prior SeekingAlpha article by Tristan Brown , weather models show lower than average snowfall likely for Oregon, along with a more mild winter in regards to temperature. This presents a double whammy for Portland General in the form of higher energy costs and lower revenue in the winter months during which customers typically draw around 10-15% more electricity than in the summer months. Past Operating Results (click to enlarge) Operating results have been steady and rather uneventful over the past five years (my own estimates used for the back half of 2015). Of note however is depreciation/amortization costs have been increasing dramatically due to the large capital investments the company has been making over the past five years, developing relatively more expensive wind/solar farms and the costs associated with the Carty Generating Station. Overall, this is steady-as-she-goes results that utility investors like to see. (click to enlarge) Frequent readers of my utilities research know that I look for solid coverage of capital expenditures and dividends from operating cash flow for mature utilities. Starting in 2013, Portland General reversed course and begun stepping up the leverage as capital expenditures rose for the natural gas plants at the Carty Generation Station and the old Boardman location. To fund this, Portland General issued $865M in long-term debt in 2013/2014 and also issued $67M worth of common stock in 2013 to cover the cash flow gaps. While this picture looks currently worrisome, it should moderate over time. Capital expenditures are expected to fall from the $600-650M range in 2015 to $289M in 2019, back to levels we saw in 2011/2012 when cash flow was positive. Unfortunately, Portland General won’t see much recovery in the form of increased rates because of offsetting factors, based on the overall breakdown of the 2016 rate case filing: (click to enlarge) Conclusion Portland General saw a little bit more renewed interest after the 7% dividend increase in 2015, well in excess of 2% annual growth from 2009-2014. In regards to operating income, however, 2016 looks unclear given the poor weather outlook. Earnings per share are likely to be flat to down in 2015/2016, so I would not expect a repeat of that hefty 2014 dividend increase. Before entering a position, I would like to see the valuation come down along with more visibility on completion of the two big natural gas facilities (early 2016 should give excellent insight into schedule on Carty Generation Station). Overall, however, shares are quite fairly valued given the long-term prospects of the region. Being long won’t hurt you.