A Little Holiday Musing

Following the Thanksgiving feast and visits with family, it’s time to return to more mundane fare like the real world.  The headlines lighting up the news this afternoon leads me to believe we’re in for another rocky ride when the markets reopen.  From the Ukraine at battle stations to the US closing the border in California one has to wonder if this is a precursor for the final month of the total Republican regime until some semblance of sanity returns to Washington in January.  One has to wonder if lobbing tear gas from the US into Mexico is technically an act of war.  Or if the Senate cares to address the apparent multiple treaty violations associated with the border closing.  It’s times like these that I regret (a little) giving up my pursuit of law as a career move to focus on business.  As an aside, it would be an interesting exercise to determine how much success the administration could have enjoyed had they not been so intent on breaking the rules first rather than changing them.


On a somewhat lighter note, It’s time for the annual Christmas shopping countdown.  You know the drill … the ability of retailers to forecast properly and execute impeccably during the season.  It appears the season began a little early with advertising starting around Halloween, but by and large most are putting on a brave face on their prospects.  Anecdotal evidence points more to lackluster with ample parking available locally, while retailers’ response is “an ongoing migration to online shopping”.  Perhaps, but here’s hoping additional “black eyes” don’t dampen the holiday spirit or the recent University of Michigan Consumer Sentiment index doesn’t have legs.


More analysts are coming around to the view I’ve held most of the year that the 2018 boom year was a one-off primarily due to lower taxes.  Forecasts are starting to arrive  and the consensus is for lower GDP growth.  The sad part is that much of this is self-induced.  Tariffs hitting the farm belt and now lower oil prices hitting the oil patch (Trump takes credit – I think it’s more likely a bribe. )  If credit is due its more likely the result of all the waivers he granted regarding Iran sanctions.  Regardless, some wells here in Texas are being capped and cap-ex is dwindling.  Oil in the $40-60 range makes some production unprofitable – and with them jobs, support systems, etc.  Farmers felt the pain earlier and now the pain is shifting.  One investment I was considering I’ve decided is too risky (for me) in this environment (oil patch support services).   Earnings reports also carried a cautionary tone.  I think it is now time  to be in a ‘wait and see’ mode.

Next week – November Results!

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My World of Banking

A comment thread on a recent post cornered part of my thought process recently.  I realized that I was assuming a baseline of knowledge of the audience.  For newer readers and newer investors, my apologies.  To that end, the questions raised by doptionsseller are worthy of greater elaboration.  I won’t dive into the history as the basics are generally known to all – The Financial Crisis decimating the industry from which new regulations were formed.  Regardless of your personal view on regulation, I’ve found over the years that with an understanding of the rules the game can be played more advantageously.  The following details a portion of my thought processes and the evolution my strategy has experienced.

THE TARP YEARS

In 2009, the FASB changed the rule on mark-to-market accounting with the result being renewed investment in financial institutions.  In 2013, I started reinvesting in the sector with banks that refused TARP – taking security over uncertainty.  All the while I kept my eye on the TARP recipients and in 2015 began investing in some that had repaid the government.  I also looked at some that were unable to repay but shied away as the bulk of the paper was auctioned by the government to hedge funds, one being Hildene’s Opportunities Growth Fund II.  

Some, like Blue Valley Ban Corp (BVBC), bought out the hedge funds preferred stock due to relatively onerous terms (5% rising to 9%).  In recent news coverage, they’re laying claim to victory.  While I concur great strides have been made, they still don’t pay a dividend and have a looming balloon payment due in 2020 (on a current 5.25% variable rate note).  In my opinion this is a company limping along the right path but looking over their shoulder for the next economic downturn.  Others have yet to repay the respective funds.  Either way, this space carries more risk than I’m willing to bear. 

Dodd-Frank Stress Tests (DFAST)

With the advent of DFAST, I realigned my methodology to conform with these standards with conventional wisdom being consolidation was a foregone conclusion.  The ranges being assets < $10B, $10-50B, $50-250B and $250B and over.  In 2014  most of my investments were in the $10 – $50 range.  As I realized banks had real costs associated with breaking the $10B barrier, in 2015 I migrated more into smaller asset sized banks.  The one rule I have (which I’ve broken a few times) is that a dividend is paid to compensate my patience.  This bucket is the majority of my bank holdings.

Mutual Conversions

In late 2015 I found another investing angle.  Similar to an IPO, thrifts converting to stock companies are called 2-step conversions.  The first being the sale of stock to their depositors and the second a conversion to a full stock company.  Flush with cash, I’ve seen minimal downside.  Patience is required as there is a three year wait (by law) before they can be acquired.

Courtney over at Your Average Dough invests in some conversions but takes it a step further by becoming an account holder first.  Trickier but more lucrative if you guess right.

Arbitrage

Another opportunity is subsequent with an merger announcement.  There are times when analysts waffle on their decision to recommend – or not.  BOKF’s recent acquisition of CoBiz is one example.  It was two days before analysts determined it was a good deal.  Meanwhile I picked some up before the price went up.  Cautionary note: The reverse can be true as well.


As you can see, there are multiple ways to play the game and my approach has changed with the times and as my knowledge/experience increased.    This type of investing is not for everyone either.  Only a portion of my portfolio is handled in this manner.  But if success arrives the gains can be stellar!

 

Uh-Oh …

In last weeks’ post I shared that effective January, my portfolio will experience two dividend cuts.  Based on how my holdings are structured, the overall impact will be a but a blip.  The greater hit is to my pride.  Other than M&A or spinoff activity, never have I experienced more than one cut in a year.  This, my friends, is with forty years of investing under my belt.  And now we have two announcements in the span of one week.  Also (and perhaps warranted), The Dividend Guy published a piece that essentially says that, “hey, I might have screwed up on OZK but at least I never invested in these dogs”.  Like yours truly.  Happy fifth year to you bud and let’s see if that record holds for another thirty.

Seriously though, the GE and OMI situations can’t be any more different.  The only commonality is the cut.  The Dividend Guy mentions a couple of others as well – which I don’t own.  I continue to be suspicious of the real strength of the overall economy as MAIN also announced a revision to their dividend policy (though not directly a cut).  As an investor looking toward dividends, if this is the beginning of a trend it may be time to pare some of the speculation and migrate towards a more conservative posture.

Meanwhile, in these types of circumstances I feel compelled to share my reasoning and anticipated reactions.

Owens & Minor (OMI)

I have to concur with Dividend Guy’s observation earlier this year that this was “dead money”.  I pretty much reached the same conclusion when I reduced my holdings by about 20% in 2015.  I was content with the minimal dividend growth due to their stellar track record.  The sea of change began in earnest in 2017 with fears of the Amazon effect.  Then a couple of losses to competitors (one being CAH).  Current pressure is hitting them on at least two fronts: the trend for hospitals to in-source and the ability to pass on increasing costs.

Being a patient investor I could accept all of the above and even a frozen dividend as they sort out the issues.  But an unexpected cut of this magnitude leads me to believe there is another shoe to drop.  Obviously I’m not alone in this concern on the earnings call, an analyst from Robert W. Baird & Co. asked the operative question, ” … And how comfortable are you with the covenants at this point on the debt position?”  Last time I saw this question was when Orchids Paper (TIS), another former DGI darling, was in their free fall.  I still like OMI’s logistics but they failed to capitalize on the head start they enjoyed prior to this advantage becoming a commodity. 

OMI accounted for 3.46% of my 2017 dividends received and through 3Q 2018 had been reduced further to 1.89%.  As this is an IRA holding I’m limited in the loss realization but intend to sell after ex-dividend and replace with a Canadian stock (with no tax withheld in IRAs).  I suspect my Q1 2019 numbers will see minor impact in the Y/Y growth.


General Electric (GE)

On GE, Dividend Guy’s analysis matches mine, hands down, purely from a DGI perspective.  GE, however (in my view) never regained their prior glory when the financial crisis exposed their warts.  There is but one reason to have GE in a portfolio and it’s not the dividend, it’s corporate actions – which include things like spinoffs (which were the subject of one of my muses).

As this type of approach is speculative in nature, it pays to be mindful of the weightings.  In my case, GE has ranged from 0.05% – 0.07% of total dividends for the past two years.  My self-imposed maximum for speculation is 1% per issue.  Therefore, I’m well within my targets.

So I consider this similarly to a currency trade where GE stock is the fiat.  The wild card is the exchange rate when the spins are finalized.  Best case is that GE is now fairly or under valued, in which case pending actions will be in my favor.  Worst case I get a unfavorable cost basis that reduces (under current law) my tax basis.  Therefore with minimal downside (unless GE goes belly-up) I intend to increase my GE holdings (once the price settles) to the nearest round lot and await the spins.


Therein lies my strategy for dealing with these events.  I’ll attempt to follow the adage: When life gives you lemons, make lemonade!

October 2018 Update

Octobers carry the weight of history on their shoulders and this year was true to form with some wild swings.  Though some sectors touched bear market territory (think housing), basically this month was a mere – but tumultuous – correction.  As we head towards this years’ finish line, there is no room for complacency as my fear is that storm clouds are forming heading into 2019 – basically a tale of two economies.  At the forefront of my mind are the two companies delivering notice of dividend cuts effective January.  I’ll dive into them in more detail next week but Owens & Minor  (OMI) a soon to be former Dividend Achiever which will probably be sold (-71.15% cut) and General Electric (GE) which will cut for the second year in a row this time by -91.67% to which I’ll probably add.  At least I have two months lead time to execute a strategy on my terms as the losses are already baked in.  October saw the S&P of drop 6.96% while my portfolio outperformed the index by decreasing 5.8%. YTD I’m ahead of the S&P by 1.36%.

Portfolio Updates:

  • lost COBZ, added additional BOKF as stock/cash merger completed
  • initiated new position: CL
  • initiated new position: BHBK
  • initiated new position: BNCL
  • initiated new position: HTH
  • initiated new position: SF
  • rebalanced and added to my ETF group (CUT, EWA, EWW, JPMV, VGK)
  • averaged down on OZK
  • added to CLX prior to ex-div

DIVIDENDS

My main focus resides on dividends.  Market gyrations are to be expected but my goal is to see a rising flow of dividends on an annual basis.  I’m placing less emphasis on the quarterly numbers as the number of semi-annual, interim/final and annual cycles have been steadily increasing in my portfolio.

  • October delivered an increase of 32.12% Y/Y, the impacts being dividend increases, special dividends and reinvesting merger cash proceeds into the portfolio.
  • October delivered a 10.52% increase over last quarter (Jul).
  • Dividend increases averaged 15.56% with 74.77% of the portfolio delivering at least one increase (including 2 cuts (GE, SRC).
  • 2018 Dividends received were 104.04% of 2017 total dividends exceeding last year’s on October 19th.

Note: I updated my Goals page to provide a visual of these numbers.  Based on Mr All Things Money’s instruction set with a conversion to percentages.  My code only updates when the monthly Y/Y number is exceeded.  Otherwise, the prior year actual is used.

Spinoffs:

GE‘s rail unit to spin then merge with WEB

GE to spin 80% of the health business

NVS proposed spin of Alcon scheduled for shareholder approval Feb 2019

On Oct 4, MSG filed a confidential Form 10 to spin the sports business

Mergers:

XRX merger with Fujifilm cancelled (still being litigated).

SHPG to merge into TKPYY

GBNK to merge into IBTX (shareholders approved)

GNBC to merge into VBTX (semi-reverse)

BNCL to merge into WSFS

BHBK to merge into INDB

Summary

My repositioning was completed and my 2018 dividends pretty much locked in.  I’ll  now focus on 2019 as it appears I need a head start with the dividend cuts looming.   🙂

Hope your October was equally as good – or better!

For Your Reading Pleasure

Every so often I update my directory omitting inactive or defunct blogs and generally get a feel for what the temperature is in the worlds I frequent less often.  This exercise was all the more telling in the general mood within the community.  One example being Young Dividend‘s monthly recap in which he notes, “Although the portfolio value fell, it is interesting to see that the dividend growth graph of my portfolio continues to climb upwards.“.  In a nutshell that is the reason we choose DGI.  Another analysis on staying the course comes from Time In The Market.  Points I like to keep in mind when the markets are volatile.  My friend Tom over at Dividends Diversify scooped my original thought for the week with his Can You Save Money at a Farmer’s Market piece.  My focus was on the Community Kitchens used by many of these vendors.  That concept will be fleshed out  further and arrive at some future point in time.

All good reads which I encourage you to partake.


Not to beat a dead horse, but I’ll  touch a bit more on Bank OZK which was one of last week’s topics.  Turns out The Dividend Guy featured this stock on his podcast the day before its precipitous drop.  To his credit he published a mea culpa on which the Seeking Alpha version received mixed reviews.  In my view, his laser focus on the dividend growth blinded his peripheral vision.  Not looking a little harder under the hood, so to speak.  Wolf Richter‘s  piece on the potential asset bubble in Commercial Real Estate (CRE) can highlight reasons a broader view is warranted at times.


Since I mentioned Wolf Street, a couple of additional articles grabbing my attention (including the comments) were, Why I think the Ugly October in Stocks Is Just a Preamble with a compelling argument and What Truckers & Railroads Are Saying About the US Economy.

Full disclosure: Long CASS whose data is the basis for his article.

As we come into the final week of the month, though my portfolio is down my dividends are up for the month, quarter and year.  The only suspense being the magnitude of increase!

 

Work Freedom Day

Once per year – assuming a static or growing portfolio – the day arrives where current year dividends paid exceed the prior years’ total dividends.  For me, yesterday (October 19th) was the day.  Now the term, coined by Dividend Life in 2014, is a little bit of a misnomer as I don’t work but the concept is applicable.  This compares favorably with last year (October 25th) but still shy of my all time best (in retirement) of October 4th in 2016.  The improvement this year is largely attributable to Tax Cuts and Jobs Act which resulted in increased regular and special dividends.  Whether this is a one-off or sustainable remains to be seen but as my mother was fond of saying, “Don’t look a gift-horse in the mouth.”


I’ve been noodling over an article for awhile – one of those that need to be absorbed in doses.  I see bits and pieces of me across all levels, but probably a three – maybe a four.  The relevance?  In a recent post (9 Sep) I stated:

Bank OZK (OZK) has had some curious moves of late with a costly name change and repositioning from federal to state oversight. These, along with their increasing exposure to high value CRE gives me pause.

Obviously the esteemed Jason Fieber is not among my handful of readers as he initiated a position on 1 October citing:

There are some concerns over its loan portfolio (when are there not concerns about a business?), especially seeing as how the bank has aggressively moved into construction lending in recent years. This tiny bank is behind some of the biggest projects in some of the biggest markets in the US.

But these concerns seem to be more than priced in. It’s almost as if the last four years of growth are worth nothing. Of course, growth could, and likely will, slow in the new construction market. And sticking to strict lending standards means opportunities might dry up.

The market’s (and my) concerns were that “strict lending standards” weren’t consistently followed.  Fast forward to Thursday’s earnings report:

On July 16, 2018, the Bank changed its name to Bank OZK, changed its ticker symbol to “OZK,” and adopted a new logo and signage, all as part of a strategic rebranding. As a result of this name change and strategic rebranding, the Bank incurred pretax expenses of $10.8 million during the third quarter and $11.4 million for the first nine months of 2018.

During the third quarter of 2018, the Bank incurred combined charge-offs of $45.5 million on two Real Estate Specialties Group (“RESG”) credits. These two unrelated projects are in South Carolina and North Carolina, have been in the Bank’s portfolio since 2007 and 2008, and were previously classified as substandard. The combined balance of these credits, after the charge-offs, is $20.6 million.

The CRE issues are centered on two projects in the Carolinas, one a mall with Sears exposure.  I have no conviction that these are one-time issues.  Much depends on the economy and the hurricane related recovery in this area.  Yet I couldn’t resist the the opportunity to average down yesterday on the 26% price drop.  So yes my crystal ball worked this time, but no I didn’t sell in September, nor did I short.  Which is why I may not be a Level 4.


Inspired by Catfish Wizard and Jim Cramer’s Power Rankings, this weekend I’ll add the 2019 DGI Picks by Sector as a Menu Item (fun and games only!).  If you’d like to be included, submit your top pick for each sector.  I’ll probably recalibrate the results around Thanksgiving to provide a level playing field.  🙂

Gamblin’ Man

Lord, I was born a gamblin’ man

David Pratter (parody of Allman Brothers Ramblin’ Man)

I’m not sure what it is about October that causes some vicious swings in the market but this year remained true to form.   When viewed through the prism of percentages the two day drop was merely a blip,  for newer investors I’m sure it was gut wrenching all the same.  While the President was quick to cast blame on the Fed,  this is the same man  that was quick to criticize the Fed for keeping rates artificially low.  Others cast the net a little wider to include trade tensions with China.  Kind of like saying , “Look at the man in the mirror first!”  We don’t have to look any further than PPG’s pre-announcement to identify the culprits: Accelerating raw materials and transportation costs, slowing China demand, weakening auto paint demand and a stronger US dollar.  I wouldn’t be surprised if additional surprises are in store as more companies announce.

What does surprise me a little is the fact that costs like PPG is incurring has not yet worked into the CPI or PPI numbers yet.    One pundit mentioned inventories were being drained so the full increase will be felt in the future – unless a China agreement is on the short-term horizon.  Perhaps …

I was able to capitalize on the rout a little on Thursday by adding to seven positions – notably the foreign ETFs along with BOKF and CL.  Unless markets go haywire again, I have only one more purchase on tap for this month.

To come full circle to the title of this post, our friend Jim Cramer is in the process of releasing his selections for 2019.  He’s doing this in the format of Power Rankings which is a unique approach but one I wouldn’t touch with a ten foot pole.  The reason: there is already an embedded mindset of investing being a form of gambling.  Cramer says, “we’re rolling out power rankings for each sector of the stock market, just like how gamblers use power rankings to gauge the strength of football teams”.  Hmm … but I will keep an eye on these selections.  Mysteriously they stopped after three sectors were released, perhaps related to the market selloff?  All I can say is during week 1, 11 of his 15 selections were under water … so what was advertised as a one week rollout is now on hold?  Perhaps market conditions weren’t conducive for his track record?  Any way, more to come on this front I’m sure 🙂