My Personal Advice and Perspective on Today's
Best Approach to Stock Market Investing
By: Robert Boshnack, Principal, Vision Investment Advisors & Chairman of Vision Financial Markets
January 23, 2008
This communication expresses my personal views as an investor on how I believe one can minimize the risk in stocks. I believe the best way to do this is to share with you what I have done with my own investment portfolio. Bear in mind this is my personal advice and opinions.
I believe the bear market that is unfolding will rival or surpass the bear market of 2000 that did not end for almost three years. The fundamentals appear even worse to me now than they did then. The real estate market is in as bad shape or worse than ever before in history and rarely, in my opinion, have we had such danger to our financial system, credit markets and the rest of the economy from the real estate contagion.
The following will crystallize my views:
I continue to believe that the contagion from the real estate and mortgage backed securities markets will spread to the rest of the economy, faster than most anticipate, depressing the market more and more as events unfold. Nonetheless, I believe we will see sharp market rallies as investors are convinced by Wall Street that each problem in the real estate and mortgage-backed securities markets is contained by some form of intervention by the Federal Reserve Board or government.
I acknowledge that such interventions can support the markets in the short term. However, as new problems appear, the market will likely make new lows until a bottom is finally reached. Unfortunately, this will be a protracted process that should last through 2008 and beyond. Trillions of dollars in illiquid securities will take many years to unwind. It will also take years to work off the ever increasing record inventory of homes. In fact, it commonly takes three to four years (or more) to work off the current level of excess home inventories, which I expect will increase still further in 2008!
For me, it is not a question of if, but when the stock market will experience more substantial declines officially qualifying it as a bear market. This is not a time for investors to "put their heads in the sand" and hope the myriad of problems affecting the economy will go away. Hope is a poor substitute for action. I believe the time is NOW to realign one's portfolio in an attempt to potentially capitalize on and not be victimized by a slowing economy and possible recession. With all the compelling information we now have as to the probability of a sharp economic slowdown or recession, I believe it makes good business sense for investors to act before the damage is done — not react after substantial losses are incurred! The stock market has, on average, historically fallen at least 20% leading up to a recession!
When Will the Bear Market End?
It is much too early to tell. However, keep an eye on existing home inventories. Every month we get more and more homes put on the market, with many due to foreclosures, adding to already record existing home inventories. Unfortunately, a recession will only add to the burgeoning existing home inventories. In my opinion, the bottom of the stock market will be within a few months after a trend begins with a reduction of existing home inventories.
My Personal Investment Advice
In the current highly volatile stock market environment which we are currently in, and what I expect to see continue at least until the end of 2009, with the market trending ever lower, I believe a '"less risky'" investment approach is the most prudent approach for investors. Investors should speak with a Vision Investment Advisors Supervised Person to determine if one of Vision Investment Advisors' managed portfolios is suitable to meet their goals and objectives. Keep in mind that professional money management is not suitable for all investors.
Back in August 2007, when we had the first 10% correction in four years, in the Dow Jones Industrial Average, I '"felt'" the bear approaching in spite of Federal Reserve Board intervention. I liquidated the majority of my assets, and invested the lion's share in municipal bonds and preferred stocks through Vision Investment Advisors.
Now, based on prevailing market conditions and the current prevailing prices, I am bullish on the wisdom of investing in preferred stocks. This is why:
I believe that the stock market, over a minimum of the next two years, will exhibit increasing risk and decreasing profit potential. It will be hard pressed to provide single digit returns and in all probability will experience substantial losses.
Preferred stocks normally do not move much and historically have been less volatile than their issuer's common stock. Keep in mind that past performance is no guarantee of future performance. But in 2007, the preferred stocks of many '"blue chip'" banking and brokerage firms followed their common stocks down sharply. While not falling quite as much, many of these preferred stocks fell the most in their history, some dropping 15% to 25%* below their par value. I believe that this was primarily due to the fear that still exists in the market concerning the exposure to the sub prime mortgage market by the large banking and brokerage companies.
I currently feel that banking and brokerage stocks are in a bear market. While other parts of the market may play catch up with the these stocks, I believe the worst is over and we have seen majority of the decline in the preferred stocks of select brokerage and banking stocks. These select preferred stocks, I believe, have gone down more in sympathy and fear with the entire banking and brokerage stock sector rather than based on their individual fundamentals.
Savvy investors know that fear presents opportunities for those who can see through the fear and use logic and reason to potentially capitalize on other people's fears. For investors who are suitable, I believe this is a good time to invest in preferred stocks of select banking and brokerage firms.
The biggest risk in a preferred stock is if the issuing company goes out of business and its preferred stock becomes worthless. Anything is possible. But how probable is it that a company with a strong balance sheet and earnings like Goldman Sachs will go out of business? Even if a big blue chip major brokerage firm like Goldman Sachs or a bank like Bank of America were in financial jeopardy, I believe deep pocket foreign investors would look to take advantage of it as an investment opportunity for them to get a piece of the firm, as has recently happened with Merrill Lynch and Citibank just to name a couple of examples. I personally view investing in investment grade preferred stocks of select large cap banking and brokerage firms to have less risk than most other non-guaranteed investments. I also believe they have the potential to earn 7% to 15% in total return**over the next three years. In my opinion, there is not an investment today that has less risk which can provide better potential returns than preferred stocks of select large cap banking and brokerage firms!
How to Obtain a Potential 7% to 15% Annual Return**
The current dividends on the select investment grade preferred stocks that Vision Investment Advisors utilizes currently ranges from 6% to 8%. The overwhelming majority of these stocks are currently trading at a discount to their par value of 10% to 25%. My investment strategy is not to try to time investing in the market, but rather to spend time in the market. Although the price of the preferred stocks will fluctuate with market conditions and may go lower in the near term, I believe within one to three years they will at least go back to near par value, as I believe the worst for the market will be behind us by then. If that is the case and the stocks go back to par value, an investor can potentially make 4% to 7% per year on capital gains over three years. (And more if the stocks go back to par sooner). There is, however, no guarantee that the prices on the preferred stock will return to par value or increase in value from current levels.
If an average dividend of 7% per year was maintained and if a 15% appreciation was obtained over three years; that would provide a potential 12% return on an annual basis. This is something which I strongly believe. With the current tax favored income from preferred stocks, with a 15% maximum tax on dividends if the stock is held over two months, and a 20% maximum tax on capital gains if the stock is held over one year, investing in preferred stocks has excellent tax favored benefits. Vision is NOT a tax advisor and does not provide tax advice. There is no guarantee that the current tax favored status of preferred stocks will continue. Please speak to your personal tax advisor for specific guidance.
Investment Strategy
In order to have the best chance for capital gains, I believe it is very important that you have goals and objectives that are suitable to a '"municipal bond mentality,'" where you only use money you would like to generate income and do not need to live on. By doing this I believe an investor will be much better able to ride out adverse movements in preferred stocks.
Logic Behind Preferred vs. Common Stock
The average annual return for the Dow over the past hundred years has been approximately 7%. In this dismal environment for stocks, why try for speculative gains, when those gains probably will not be greater than one can achieve in less volatile, comparatively less risky, income-producing preferred stocks?
Professionals Market
This is not a stock market for amateurs. In a bull market '"all ships rise with the tide.'" Over the past four years, it was relatively easy for stock investors to make money on their own. But with a bear market just beginning, picking stocks that may be profitable is much harder. I believe it entails selecting stocks to purchase that have been beaten down in sympathy with their sector, but still possess a sound balance sheet with the necessary fundamentals to produce good earnings…..which is currently Vision Investment Advisors' view of investing in both common and preferred stocks.
Please view our Web site at advicewithvision.com for a copy of our Form ADV Part II, which details our investment strategy, management fees and other important information. If you have any questions, please contact your authorized Vision Investment Advisor representative.
*Past performance is no guarantee of future performance.
** The yields quoted are approximate yields and are subject to market conditions. There is no guarantee that an investor will be able to purchase preferred stocks at the prices necessary to obtain the quoted yields and the potential capital gains. The yields quoted also do not reflect the impact of the management fees which are charged by Vision Investment Advisors for managing a client's portfolio.
Robert Boshnack is Chairman of Vision Financial Markets LLC, which is an affiliated company of Vision Investment Advisors. He currently owns preferred stocks in his personal accounts. Mr. Boshnack is an indirect owner of Vision Investment Advisors and therefore has a financial interest in Vision Investment Advisors.
Only Vision Investment Advisors approved Supervised Persons may discuss Vision Investment Advisors with clients and potential clients.
