Published
by: Lyon Capital Management, LLC - A Registered Investment Advisor
24B Grove Street * Pittsford, NY 14534 * Tel: 585-248-9821 *
www.lyoncapital.com
 |
Investing versus Speculating |
|
|
Fixed Income Values |
|
Revisiting Dividends |
|
Fixed Income Investing |
|
Investing versus
Speculating
By Doug Lyon, CFA
In 1999 and 2000 the process of investing
has taken a back seat to speculating. As the high-tech market mania continues, with only a
few stocks driving the market, one can accurately say that what we see are gamblers
instead of investors in the marketplace. We are not making a judgment, just stating a
fact. Man's natural tendency to be greedy now aided by the technological ability to
"obtain knowledge" and buy and sell stocks quickly has helped to produce a
market environment like the one we see today-investors paying too much for already
overpriced securities oftentimes for companies that have no earnings and leaving so called
"old economy" stocks behind for more exciting "new economy" stocks.
We see investors buying securities knowing
less about them than they do about the business their next door neighbor runs. Hype is
king and rational valuation of a security is almost non-existent. Take for example the
recent I.P.O. (Initial Public Offering) of Palm Corporation. 3Com Corporation brought this
stock to market. They offered less than 5% of the shares for sale in the I.P.O. On the day
of the I.P.O. the shares of the new company, ticker symbol PALM, zoomed from $36 per share
to over $150 ending the day at $95 while at the same time shares in 3Com dropped 21
points-even though 3Com held and continues to hold over 95% of the new PALM shares and
even though 3Com shareholders are slated to receive shares of PALM in a tax-free share
dividend. 3Com shareholders effectively own 1.5 shares of PALM for every share of 3Com. At
the end of PALM's first day of trading 3Com shares sold for $82 even though the PALM
portion of the stock was valued by the marketplace at $140 in the I.P.O. Go figure!
Eventually the mania we see will come to a
halt; in every other period of history frenzies have. For those with an interest in
investing, not speculating, we suggest an investment manager who understands how to assess
the value of a stock.
Here are a few of the things Lyon Capital
Management looks for when investing.
|
A
company with a product or service in high demand |
|
A
company with earnings |
|
A
company with a strong balance sheet (more assets than liabilities) |
|
A
company with a strong and long track record of making money |
|
A
company selling for a low price compared to their earnings |
|
A
company that can provide a return on investment not just in the short term but over the
long haul |
|
A
company that pays a high dividend |
Many of these kinds of
stocks are not favored by the market now. So we patiently wait, purchase more good values
at bargain prices and ride out the sure-to-end mania. Investing can be a painful process,
but patience, thorough study and rational decision making have been rewarded in the past
and will be in the future. $$
Fixed Income Values
By Doug Lyon, CFA
With the current marketplace teeming with
undervalued equity securities we have also discovered outstanding values in the fixed
income area, especially in REITs (real estate investment trusts), preferred stocks and
corporate bonds. We are finding yields for these relatively lower risk securities as high
as 9 to 15%. How can this be? Investors are overlooking bonds and preferreds offered by
established companies with very long track records of delivering on earnings and growth in
favor of the high flying techs. This presents opportunities for the astute investor. We
have been building strong fixed income portfolios for those who are risk averse or more
interested in current income. We have also been adding these securities to some of our
more aggressive equity portfolios because they are just too good to pass up. If you have
an interest in taking advantage of these same opportunities, give us a call. $$
Revisiting Dividends
By Doug Lyon, CFA
Last winter we wrote about dividends. For
serious investors who read this newsletter more attention to the topic is needed. Based on
experience there seems to be little correlation between stock buy backs and stock price
appreciation. There is however a very direct correlation between dividend payments made
and cash appearing in shareholders' pockets.
Throughout history dividends have been a
significant, though an often overlooked component of return generated by investments in
common stock. For the last 50 years the S&P 500 index has had an average annual
increase of 9.25%. Including dividends the return is 13.45%, a difference of 4.20% yearly.
Now that does not sound like much but over time the difference looms quite large. An
annual increase of 9.25% compounds to a cumulative return over 50 years of 8,305%. 13.45%
compounded over 50 years produces a return almost seven times as large. The comparison
holds over all periods of market history.
The conclusion is that dividends do
matter. So in this age of pundits and investment gurus touting companies with no earnings
and no dividends, we still look for companies that pay dividends and have a long track
record of doing so. We believe our clients will be well rewarded over the long term for
owning such stocks. $$
Electronic Newsletter Extra Feature
Article:
Fixed Income Investing
By Doug Lyon, CFA
Most of what you hear about these days
regarding investing is STOCKS, STOCKS, and STOCKS. Granted you may hear a snippet
about the bond market from time to time but not as much media attention is devoted to
bonds, cash and other types of fixed income investments. While they may seem boring
they are an extraordinarily important component of any portfolio
Basic Definitions
Fixed income securities are an obligation
of some entity, often a corporation, government or municipality, to pay the holder of
these securities a fixed payment. The amount and timing of the payment is almost
always designated when the security is first issued. A fixed income security is a
loan, the investor is the lender and the issuer is the borrower. The payment to the
investor is interest for the use of the money.
When the security is first issued a
maturity date (the date when the full amount of the principle is repaid) is established.
When an investor purchases a fixed income security he always has the option to hold
the security until it matures and collect the full principle at that time.
Most Lyon Capital Management clients have
portfolios that contain some fixed income securities. Fixed income securities are
used when an investor wants a predictable stream of income for a certain period of
time. These securities are also used as diversifiers to stocks. They tend to
generate lower returns than stocks but they are also are less volatile.
We use five basic types of fixed income
securities: United States Treasury securities, tax-exempt bonds, corporate bonds,
preferred stocks, and cash.
Treasury Securities
United States Treasury Securities are
obligations of the US government. These securities are considered to be the safest
securities in the world. Their interest payments and principal payment are
guaranteed by the US government. We use these as a risk-free base on which to build
most portfolios. The bonds pay interest semi-annually. The market for US
Treasuries is very liquid (they can be bought or sold at any time with very low
transaction costs).
Transaction costs include commissions as
well as a “dealer's markup”. Securities are bought and sold just like all
other goods of trade. A dealer buys for one price marks up and sells for higher
price. When an investor wants to buy a security she usually goes to a broker, gives
an order, and the broker goes to a dealer and, acting as the investor's agent, makes an
offer to buy. If the transaction is completed the investor will pay the broker a
commission for his work but the investor will also pay the dealer's markup. In this
day and age of ever lower commissions the dealer's markup is often much larger than the
commission. This markup is a hidden cost that is difficult to measure. Sometimes the lower
the commission, the higher the markup.
Tax Exempt or Municipal Bonds
Investors in tax-exempt bonds are exempt
from paying taxes on interest income received from holding the bonds. These bonds
are generally issued by state or local governments or municipalities. The
proceeds are used to fund certain projects or operations. For example the New York
State Thruway issues bonds. The proceeds are used to repair Thruway bridges. Almost
all tax-exempt bonds are exempt from federal income taxes. Most bonds are also
exempt from state and local income taxes if they are held by investors who are residents
of the state of issue. For example, if a New York State resident invested in bonds
issued by North Carolina she would pay no federal taxes on interest income received but
would pay New York State taxes on the income. In order to pay no state or local
taxes on the interest income, she would need to invest in bonds issued by a New York State
based entity or move to North Carolina.
The value of a bond is determined
each day by investors, brokers and dealers participating in the marketplace. A
bond's value is determined by, among other things, the level of interest rates, the level
of inflation, the credit worthiness of the issuer, and the time until the bond
matures. The bond's value as determined by the marketplace can change daily but the
amount and timing of the interest payments do not. Interest payments made by the
issuer of a bond are interrupted only in the event of bankruptcy.
The value of a bond moves in the opposite
direction from interest rates. The reason for this is the fixed payment of
income. As rates go up, the fixed payment is worth less. As rates go down, the
fixed payment is worth more. The longer a bond has until maturity or full repayment
of the loan principle, the more sensitive the value of the bond is to changes in interest
rates. As an investor, if you believe interest rates are likely to increase you want
to lend for a short period (so you can take advantage of the higher rates later on) and if
you believe rates are headed lower you want lend for a longer period (to lock in the
higher rate.)
Preferred Stocks
Preferred stocks are also fixed income
securities. At the time they are issued a dividend rate is set and it does not
vary. When investing in a preferred stock the issuer's creditworthiness is the
important variable.
The investor must weigh the potential
future return from the investment against the likelihood of the issuing company's ongoing
ability to continue to make preferred dividend payments.
The company issuing the preferred always
has the option of suspending the preferred dividend but often the dividend paid on the
company's common stock must be terminated before the preferred dividend is suspended.
Most dividend paying companies terminate their common dividend and suspend the
preferred dividend only under the most serious of financial difficulty. Preferred
stocks are called preferred because they receive preferred treatment over the common share
holders in two ways: the preferred stock dividends are always paid before any
payment is made to common shareholders and in a liquidation, the preferred shareholders
gets paid before the common shareholders get anything.
Many preferred stocks are classified as
"cumulative preferreds" this means that if the preferred dividend is suspended
any dividend payment not made is accumulated and if the company starts paying the dividend
again, the company must pay all dividends accumulated since the payment was initially
suspended. Common stocks do not have this feature. If a common stock dividend
is suspended then the common share holder can not ever recoup the lost payments.
Cash
Cash is the lowest risk fixed income
investment. Typically cash can be held, with an institution paying a minimal amount
of interest as shares in a money market account or as a Certificate of Deposit(CD).
A CD will usually pay a level of interest higher than a money market account because you
must hold the money in the CD for a set period of time or incure a penalty.
If you would like to discuss structuring a
fixed income portfolio with Lyon Capital Management, give us a call at 585-248-982 $$
|
