A Simple Investment Portfolio

When it comes to investing you want to be diversified, consistent, and be in it for the long run.  There are so many opinions of the best way to invest.  It really comes down to your interest level and level of knowledge in investing.  I think the key is simplicity.

For most people they do not have the time or knowledge to invest properly.  One of the best investment companies is Vanguard.  Vanguard provides very low cost Mutual Funds and ETFs.  They never got into the Mortgage mess and are consistently rated very highly by clients.   The key though is the low cost which allows you to keep more of your  own money.

Here is my Simple Portfolio of only 4 Mutual Funds–I would invest 25% in each.  However, what is generally recommended is to invest your age in bonds.  So if you are 40 years old you would invest 40% in bonds and then 20% in the remaining 3 funds.

1) Vanguard Dividend Growth Fund: this fund invests in Large Cap companies that pay a Dividend.

2) Vanguard Small-Cap Index Fund:  this fund invests in Small Cap stocks that tend to have more risk but better growth.

3) Vanguard Total International Stock Index Fund: this fund gives you International Stock exposure.

4) Vanguard Total Bond Market Index Fund: this fund gives you exposure to the stability of bonds.  It is a mix of all types of bonds and pays a monthly dividend.

Disclaimer: Material presented on Bacigirl.com is for informational and entertainment purposes only and is the opinion of the author and should NOT be relied on or taken as investing advice. The information and content should not be construed as a recommendation to invest or trade in any type of security. Neither the information, nor any opinion expressed, constitutes a solicitation of the purchase or sale of any security or investment of any kind. Before acting on anything you read on this site, you must do your own research and you must come to your own conclusion which you will ultimately be responsible for, including any loss you may incur.


Accelerating Your Mortgage Payments

People are constantly looking at refinancing a mortgage.  This might be an attractive option if you plan on paying a mortgage for 15+ years.  The problem is for people that are under 10 years away from paying off their mortgage.  For the latter case it might not always be worth it.  You need to do your due diligence.

With 5 year arms below 3% it is very tempting to think about refinancing.  Just remember re-financing also can involve a lot of fees.  This is why it is usually only worth it in the long run because it is only with time that those fees are saved through a lower payment.

There is however an easy way to accelerate payments and reduce interest.  The best way to reduce your home mortgage quickly is to participate in a 26 Payment Plan. Usually these plans are free and offered by all mortgage companies. In this plan instead of paying your mortgage once a month you will pay half the amount every 2 weeks. Since you are paying every 2 weeks you will end up making 1 extra monthly payment per year or 26 payments (13 monthly payments) per year.   By paying every 2 weeks interest does not build up all month long since you are paying more frequently.

I know that paying 1 extra payment per year can be difficult but the upside is that it will generally take 7.5 years off a 30 year fixed mortgage. If you use a mortgage calculator you will see that it will save you 10,000s of dollars.

Re-Visiting My Rules for Investments

It is worth going back to your rules of investing from time to time.  This is what keeps us grounded and disciplined so that we do not start following the latest trend.   Remember that slow and steady wins the race.  Warren Buffet once said ” I am greedy when others are fearful and fearful when others are greedy.”  The take away message is that oftentimes we are swayed by panic.  For example, in 2008 GE one of the Worlds greatest companies was trading just below $6.  I purchased some but I wish I had purchased more as the company is now pushing $20 a share.

So are some rules:

  • I am an investor–I do not trade my investments frequently.
  • I am also a saver–I routinely invest each month using my savings.
  • I know every asset has risk and I consider the risk before buying.    I accept the risk by owning a diversity of assets.
  • I have an investment plan and plan for allocation.
  • I invest regular amounts each month in both falling and rising markets.
  • I spread out my investments among stocks and bonds.
  • My share of bonds equals my age.
  • I rebalance once a quarter.
  • I know that stocks are risky in the short run but not so risky in the long run.
  • I force myself to sell high and buy low.  Patience is the key here.
  • I put at least 20 percent in international assets.
  • I stick to my plan and try not to check my stock balances every day (this one is not easy).

Money: Only 7 Investments You’ll Need by Jim Wang

Money Magazine recently released the only 7 investments you’ll ever need and, surprise surprise, my favorite firm, Vanguard, was listed first choice for five of the seven. Their founder, John Bogle, was a major proponent of index funds and it shows in their offering, as almost all of Money’s choices were low-expense ratio index funds.

Need another reason to have a mutual fund account at Vanguard? (No, Vanguard doesn’t sponsor this site!)

Blue-chip US-stock fund: Fidelity Spartan 500 Index (FSMKX) because it replicates the S&P 500 with an expense ratio of 0.10% (coincidentally, Vanguard’s version, the Vanguard 500 Index Fund Investor Shares (VFINX) is 50% more expensive with a ratio of 0.15%).

Blue-chip foreign-stock fund: Vanguard Total International Stock Index (VGTSX) because of its solid performance, beating 90% of its peers, and because it’s an index fund with an expense ratio of 0.27%. Another Vanguard fund, the Vanguard FTSE All World Ex-U.S. ETF (VEU), was listed as an alternative.

Small-company fund: T. Rowe Price New Horizons (PRNHX) is an actively managed fund, one of the few actively managed funds they selected, and is “one of the most efficient of the actively managed crowd.” Considering it is actively managed, an expense ratio of 0.8% is pretty good, about half the average.

Value fund: Oh look, another Vanguard fund – the Vanguard Value Index (VIVAX) and its 0.2% expense ratio and a record that trumps 78% of its peers. Value funds go after investments that appear overlooked or beaten down and try earn a little off those cigar butts and dividends, rather than looking for growth potential.

High-quality bond fund: Vanguard Total Bond Market Index (VBMFX) snags this category with a 0.2% expense ratio. Bonds are good to be the rock in your portfolio to give you some grounding as your other investments shoot up and crash down. 🙂

Inflation-protected bond fund: This last category was won by Vanguard’s Inflation-Protected Securities Fund (VIPSX) and it’s 0.2% expense ratio (Vanguard’s index funds are ridiculously efficient). “Among TIPS funds, Vanguard Inflation-Protected Securities has several things going for it, including lower costs and better management than you would get if you assembled your own TIPS portfolio. While the fund returned 6.6% over the past five years, you shouldn’t expect it to make a pile of dough. Its job is to protect the money you already have.”

BARRON’S COVER Even Better Than Bonds

Even Better Than Bonds
With bonds fully priced, it may be time to swap into preferred shares, utility stocks and other investments that produce income but offer protection if interest rates rise.
TIRED OF THE PUNY YIELDS ON YOUR BONDS? Worried that interest rates and inflation will rise, clobbering their prices? Now may be the time to start moving into high-yielding stocks, while scaling back fixed-income holdings.

Bonds rode the price roller coaster up as interest rates fell. They could take a scary plunge if rates shoot up.
This means buying utility and telecom stocks, which have lagged behind the overall stock market this year, as well as master limited partnerships focused on the transportation of natural gas and oil-related products. Other alternatives to traditional bonds include bank preferred stock and convertible securities.

In contrast to bond yields, many of which are near multi-decade lows, yields on these alternatives often run in the 5%-to-9% range. The underlying investments also offer the potential for capital gains and rising income to offset inflation. In addition, income from most of these investments now benefits from favorable tax treatment.

Chuck Lieberman, chief investment officer at Advisors Capital Management, a Hasbrouck Heights, N.J., investment advisor, calls this “investing for income with growth. This strategy offers growth of income and principal, in contrast with a fixed-income portfolio.” Lieberman is partial to master limited partnerships, high-dividend stocks, preferred shares and convertibles. Another alternative to U.S. bonds is foreign sovereign debt, which offers a hedge against a weakening dollar.

Master limited partnerships could be the past decade’s quietest investment success, generating annualized returns of 18%, against 15% for gold and about zilch for the Standard & Poor’s 500. While the MLP market has rallied sharply this year, major operators like Kinder Morgan Energy Partners (ticker: KMP), Enterprise Products Partners (EPD) and Boardwalk Pipeline Partners (BWP) still yield 7% to 8% and have good growth prospects.

Bill Gross, the managing director of Pimco, the giant bond manager, wrote recently in his monthly commentary that electric-utility stocks looked attractive. He noted that their dividend yields now exceed those on utility bonds, while offering the added benefit of more favorable tax treatment than bond interest. “Growth in earnings should mimic the U.S. economy as it always has, and importantly, utilities yield 5% to 6%, not 0.01%,” Gross wrote, the 0.01% yield referring to the pitifully low yields on money-market funds.

The two major U.S. telecom operators, Verizon Communications (VZ) and AT&T (T), have trailed the S&P this year and their shares yield more than 6%. Preferred stock from Bank of America, Citigroup and Wells Fargo yield 8% to 9%. Those yields are down from the teens at the market’s bottom in March, but still look attractive, given the banks’ improving balance sheets and a recovering economy.

Many investors view the stock market as a minefield and the bond market as a haven. But at very low yield levels, bonds become dangerous. “If there is a little bit of a bubble somewhere, it’s in the bond market,” Lieberman says.

The “safest” part of the market, Treasuries, seems to be the most overvalued, and high-grade corporate bonds don’t look much better. Treasury yields range from just 0.85% on two-year notes to 4.4% on 30-year bonds, while high-grade corporates generally offer 3% to 5%. Federally backed mortgage securities also look unattractive at 4% yields. These securities are apt to return little or nothing after inflation and taxes.

While investors are apt to have their principal repaid if they hold their bonds until they mature, they will suffer losses if rates rise and they sell prior to maturity. As for investors in bond funds, they typically have no guarantee of getting their money back. And the funds often levy stiff management fees on their holdings.

Vanguard is an exception, but even with the help of low fees, its big mortgage and muni funds don’t yield much. Both the $37 billion Vanguard GNMA Fund (VFIIX) and the $26 billion Vanguard Intermediate-Term Tax-Exempt Fund (VWITX) yield about 3%. These funds carry annual expenses of less than one-quarter of a percentage point, roughly a quarter of what their rivals charge. It’s tough to justify taking a fee of a percentage point for a fund invested in 3% or 4% securities, but many fund companies do.

Low yields haven’t prevented a stampede into bond funds, which have had more than $40 billion in net inflows during each of the past three months from risk-averse investors who have been pulling money from domestic stock funds.

The Treasury and mortgage markets look particularly vulnerable because they are being supported by the Federal Reserve’s keeping short rates near zero and by its purchases of these securities. The Fed’s $1.25 trillion program to buy mortgage securities is due to end March 31.

Essentially, bond investors are giving cheap money to American business, the Treasury, new home buyers and overleveraged homeowners. The game may end badly for bondholders because rates are apt to rise in 2010 and 2011 from what appear to be artificially low levels.

The municipal market, a favorite of individual investors, looks overpriced for maturities of under 10 years, where yields are under 3%, and fairly priced for long-term maturities, where yields are around 5%. To get yields close to 6%, investors must buy dicier debt like that of California.

Many investors are chasing the junk-bond market, but the 50%-plus returns seen there this year will be unattainable in 2010, because yields have dropped to an average of 8% from 20% at the start of 2009. Yields on money-market funds are at or near zero, effectively resulting in a confiscation of investor money after inflation.

Real-estate investment trusts have attracted yield seekers, too. But REITs, up nearly 50% in the past 12 months, are no longer a bargain. Green Street Advisors, a Newport Beach, Calif., advisory firm, recently termed them “pricey,” in part on high valuations based on earnings relative to the S&P 500. Public-market values of real estate also are high compared with those in the private market. REIT dividend yields are averaging just 4%, and fundamentals in many sectors, including apartments and office buildings, look weak. Net operating income could fall in 2010 for the second straight year.

With all that in mind, here’s a look at some sectors that do provide decent yield alternatives to traditional bonds:

MASTER LIMITED PARTNERSHIPS: This $100 billion group is dominated by companies like Kinder Morgan, Enterprise Products and Magellan Midstream (MMP), which transport natural gas, jet fuel, heating oil, gasoline and other petroleum products.

Despite generating some of the best returns of any asset class in the past decade, MLPs are unfamiliar to most investors. That ought to change, because MLPs now provide 7%-to-8% dividend yields, and much of that income is tax-deferred. Dividend growth could run in the mid- to-high-single-digit range in the coming years, resulting in total annual returns above 10%. Kinder Morgan, one of the largest pipeline MLPs, recently said it will pay $4.40 in distributions in 2010, up 5% from 2009’s level. Its shares, at 56, yield 7.8%, based on the expected 2010 distribution.

“Think of an analogy to toll roads,” suggests Lieberman. “Pipelines are expensive to build, but operating costs are relatively low, which means they generate outstanding cash flow that services debt and finances sizable distributions to owners.” Pipelines are utility-like because their rates often are set by federal regulators.

Pipeline shares were slammed in late 2008 because of concern about reduced access to the capital markets. MLPs rely on equity and debt financing for expansion, as they typically pay out nearly all their annual cash flow in dividends. The fears about market access didn’t materialize and the stocks have come roaring back with the Alerian MLP Index (AMZ) up 65% in 2009 (with dividends included).

For many large master limited partnerships, 70% or more of their dividends — technically distributions — are tax-deferred. That’s because dividends usually are far greater than reported net income, largely as a result of noncash depreciation expenses.

Let’s say an MLP pays a $2 annual dividend, 80% of which is tax-deferred. An investor would owe income taxes on only 40 cents of that dividend (but the 40 cents would be taxed at regular-income rates, not the preferential dividend rate). The other $1.60 wouldn’t be taxed and instead would reduce the investor’s cost. If the investor paid $25 a share for an MLP, the cost basis would be reduced to $23.40. Taxes would be paid on the $1.60 when the shares are sold.

Many investors — particularly the elderly — simply hold MLP shares, with the intention of putting them in their estates. This essentially results in permanent tax deferral and a muni-like income stream, if the investor’s estate isn’t subject to federal inheritance taxes. Taxes on the sale of a long-held MLP can be high because an investor’s cost basis can drop toward zero after many years of dividends.

MLPs are best held in taxable accounts: they can cause tax headaches in IRAs and other tax-deferred accounts. Investors need to know that they will get an annual K-1 tax form, not a standard 1099, and that can complicate annual filings. Another wrinkle: MLPs often share annual income gains with general partners, or GPs, some of which are publicly traded. This can limit dividend increases. Magellan Midstream has an advantage because it has combined its limited and general partners, meaning there is no GP to cut into the income allocated to the limited partners.

Utilities: Because they’re seen as defensive, utility stocks have trailed the market. The Dow Jones Utilities Average has risen just 4% this year, versus a 22% gain for the S&P 500. But investors are warming to utilities, which rose 3% last week.

Until recently, the sector has been held back by various factors, including reduced power consumption, that have dampened profits at Midwestern utilities like First Energy (FE) and American Electric Power (AEP) that have a lot of industrial customers. Another negative has been the plunge in natural-gas prices, which has reduced the price advantage that nuclear utilities like Exelon (EXC) had over gas-fired rivals.

Regulated utilities, such as American Electric Power (AEP), Duke Energy (DUK), PG&E (PCG), Consolidated Edison (ED) and Southern Co. (SO), trade around 13 times projected 2009 profits and roughly 12 times estimated 2010 net, a discount to the S&P 500. “This is a safe level of valuation, and a lot of bad news already is discounted,” says Hugh Wynne, utility analyst at Sanford Bernstein. Wynne, who notes that utility dividend yields average close to 5%, favors laggards such as Exelon and FirstEnergy, as well as PG&E.

PG&E, at 43, trades for 13 times projected 2010 profits of $3.42 a share. The other big California utility, Edison International (EIX), also looks appealing, trading near 35, or 10 times next year’s estimated earnings. Bulls argue that the company’s regulated utility business is worth almost as much as the stock price and that investors effectively are paying little for its independent power division, Edison Mission Group, whose profits have been hit by weak power prices.

As an alternative to individual stocks, investors can buy the Utilities Select Sector SPDR (XLU), an ETF that trades around 31 and yields 4.1%. Several closed-end funds focus on utilities. One is Cohen & Steers Select Utility (UTF), which at its recent price near 15 — an 11% discount to its underlying net asset value — was yielding 6%.

TELECOM SHARES: Verizon and AT&T have perked up lately, although their slight losses this year leave them way behind the market. The telecom business faces greater challenges than electric utilities because Americans continue to cut the cord to wireline phones, eroding a once-lucrative business. Yet both companies remain financially solid, trade for low valuations, carry juicy dividends around 6% and are strong players in the wireless market. Reflecting its control of the country’s top wireless operation, Verizon, at 32, trades for about 13 times projected 2010 profits of $2.45 a share. AT&T, at 28, fetches 11 times estimated 2010 cash earnings of $2.50, which exclude about 25 cents of goodwill amortization from acquisitions.

Other high-yielders among big companies include major drug companies Bristol-Myers Squibb (BMY), Merck (MRK) and Eli Lilly (LLY), as well as cigarette makers like Altria Group (MO) and Lorillard (LO). They yield anywhere from 4% to 7%.

PREFERRED STOCK: This market was hit in 2008 by multiple shocks, including the bankruptcy of preferred issuer Lehman Brothers, the banking industry’s troubles and the government’s surprise decision against protecting preferred shareholders of Fannie Mae and Freddie Mac, when Uncle Sam effectively seized those mortgage agencies. Fannie and Freddie preferred trade for about five cents on the dollar.

After bottoming in March, preferreds have surged, with most yields dropping to 6% to 9%. “Preferred stock is subject to the same inflation problem as bonds,” Lieberman says. “But yields are significantly higher. That provides sufficient compensation…for the lack of inflation protection.”

Citigroup’s trust preferred securities, like its Series C, yield more than 9%. Bank of America’s 7.25% Series J preferred trades around 21, for a yield of 8.60%, and Wells Fargo’s 7.50% Series L preferred trades near 900 for an 8% yield. The Wells Fargo issue has a face value of $1,000, as opposed to $25 for most preferreds.

JPMorgan’s preferred has lower yields, just under 7%, reflecting Wall Street’s favorable view of the bank. Many foreign banks have issued preferreds; Lieberman likes Barclays, whose preferred yields about 8.5%. Among REITs, the largest preferred issuer is Public Storage, owner of self-storage facilities. Its preferred yields more than 7% and looks pretty safe, given the company’s solid balance sheet.

There are two types of preferred. Regular preferred is a senior form of equity, while trust preferred is junior debt and is senior to regular preferred. Therefore it is safer, but it generally yields less. The advantage of regular preferred is that its payouts are taxed at the preferential dividend rate of 15%, while trust-preferred dividends are taxed as ordinary income.

CONVERTIBLE SECURITIES: These hybrid securities, which can be converted into common shares under preset conditions, were battered in 2008 by a weak stock market, the junk-bond market’s collapse and forced sales by leveraged convertible hedge funds. But convertibles have risen sharply this year, with Putnam and Fidelity convertible mutual funds up 50% to 60%. The catalysts: the sharp rally in the shares of the generally more speculative companies that issue converts and the junk market’s big gains..

This makes for slimmer picking than in early 2009, when investors could get 10% to 15% yields on reasonably solid converts. Be forewarned: It’s tougher to buy converts than preferred stock because many convertible bonds are traded in an over-the-counter market where bid/offer spreads can be wide for individuals buying $25,000 to $100,000 of the securities. Convertible funds are a better bet for most investors.

For those willing to do their own work, converts can be an attractive lower-risk alternative to common stock, while offering much of common’s appreciation potential.

The money-losing airline industry has needed to raise capital and their converts carry lower rates than regular debt. Issuers include USAirways Group, UAL (parent of United Airlines), Continental Airlines and JetBlue Airways.

Chip maker Micron Technology has a 1.875% issue trading around 85, yielding 5% with a hefty conversion premium of 50%.

One way to play Ford is via its Series S convertible preferred stock, which trades around 36. Ford stopped paying dividends on that issue this year, but some investors are betting the reviving auto maker may resume the payout in 2010 and give investors unpaid dividends of more than $1.50 a share. If Ford resumes the $3.25 annual dividend, the yield would be 9%. The car maker must pay the preferred dividend if it wants to resume a common dividend.

In sum, while hardly anything is as cheap or attractive as it was earlier this year, MLPs, utility stocks, preferred and converts offer appealing alternatives to increasingly unattractive bonds.

10 Life and Money Lessons Learned from Immigrant Parents

Some of the lessons are what would be described as old school and some may be overly simplistic, but the hard truth is that each lesson works!

Lesson 1: “Save like you have no job and 6 mouths to feed.”

For my parents, saving was akin to a religion. They didn’t save 10 or 20 percent of their paycheck; rather they saved close to half of their take home pay. I suspect the urge to save is an instinctual feeling for many recent immigrants who arrive in a new country with no job and no home. The ability to save such a large percentage of what they made was dependent on controlling how much they spent each week. If you live well below your means you can save a large percentage of your weekly income.

Lesson 2: “Look for non-material ways to feel rich.”

My parents have never owned a fancy car or purchased luxury clothes or items. My parents hardly dine out or buy pre-cooked or packaged food. Rather, Annunziata and Tommaso find true fulfillment in family, great food, wine, and visiting the country where they were born. My parents appreciate nice, material things, but they are not defined or fulfilled via acquiring the aforementioned things.

Lesson 3: “Use your network for help.”

This means finding an uncle who does plumbing and a cousin who is a paralegal at a law firm. My parent’s family network has helped me, personally, with home improvement, legal advice, emergency situations (taking care of babies or a ride to the hospital), etc. If I had to pay a stranger every time I needed something done in my life, I would not only be broke, but I would lack real friends and family. The real life lesson here is to nurture family relationships and not rush to pay someone to do something for you. (There are other ways to reward people without a large check).

Lesson 4: “What’s a credit card?”

If you look at my dad’s wallet on a typical day it would resemble George Costanza’s wallet from Seinfeld – full of notes and papers and a good amount of cash. My father pays for everything in cash, and if he doesn’t have the cash, he will either not purchase the item or go to the bank and take out money. My parents have had very little credit card activity over the last 30 years, and I think it’s a key component to their practical lifestyle – (that is to say, you can’t buy stuff if you don’t have the cash!).

Lesson 5: “You can’t count on your job – always have other sources of income.”

My parents bought a two family home shortly after arriving in the US. The logic behind purchasing a two family home centered on having a monthly reoccurring revenue stream outside of a normal job. Sure, they would have liked a single family home with a larger yard and without constant maintenance in their rental unit, but they like the cash more! Do you have cash coming in every month outside of your normal job? If not, you may not be as financially secure as you think you are!

Lessons 6: “Do it yourself.”

My parents are both incredibly crafty. My dad performs his own car repairs, produces homemade wine, renovates his own home (including plumbing and electrical), cuts his own grass, and more. My mother makes all of her own food, cans tomatoes and vegetables, sews, cleans, and grows and tends a garden, among many other things. My parents have often told me that if the world were to fall into disrepair they would have no problem living their life. (They are independent and self sufficient).

Lesson 7: “Trust your family, be wary of everyone else.”

This may sound like a line out of the Godfather, but the fact that American society is based on a capitalist operating principle will motivate everyone from the shop owner to the general contractor to make as much money as possible from you, and there are no safety nets when it comes to preserving the wealth you’ve worked hard to acquire. This life lesson is akin to former Intel CEO Andy Groove’s line: “Only the Paranoid Survive.”

Lesson 8: “You are not defined by your job or fame.”

A job or career usually defines most adults in Anglo-Saxon cultures. Ask any typical American about their life, and the narrative usually centers on their work or job. If you ask the typical person from Southern Italy about their life, they’ll tell you stories about their family, homeland, last name, daughters, sons, food they grow, or wine they make. (I swear this isn’t connected to the high unemployment rate.) My parents are defined by who they are and not the job they do for someone else or the amount of money in their paycheck each week. This is a powerful principle to live by, and once you truly embrace it, the byproduct can be quite liberating.

Lesson 9: “Think big picture.”

Do you ever become overwhelmed by a problem you can’t, for the life of you, see past the immediate future? Maybe you’re worried about your job or if little Timmy will get accepted to Harvard in a few years, for example? These are illustrations of “small picture” thinking, and it can handicap many individuals from getting through tough moments in their life. Like many immigrants, my parents had to somehow block out the immediacy of not having much when they arrived in the US, in order think long term about the type of life they would someday lead.

Lesson 10: “Ignore your neighbors.”

I’m convinced that many individuals lead their life according to the goings-on of their neighbors. For example, if Doris next door leases a shiny new German sedan, you may be compelled to question the worth or legitimacy of your 10-year-old Ford sitting in the driveway. If, by the miracle of home refinancing, Doris adds another 800 square feet to her over-leveraged center hall colonial, you may all of sudden feel cramped in your tiny Cape-Cod-style home. What is my parents’ opinion of neighborhood goings-on? Make friends, and be a good neighbor, but don’t follow the neighbor into debt and materialism.

Rules for Investing

  • I am an investor–I do not trade my investments frequently.  
  • I am also a saver–I routinely invest each month using my savings.  
  • I know every asset has risk and I consider the risk before buying.    I accept the risk by owning a diversity of assets.  
  • I have an investment plan and plan for allocation.
  • I invest regular amounts each month in both falling and rising markets. 
  • I spread out my investments among stocks and bonds.
  • My share of bonds equals my age.  
  • I rebalance once a quarter.  
  • I know that stocks are risky in the short run but not so risky in the long run.
  • I force myself to sell high and buy low.  Patience is the key here.  
  • I put at least 20 percent in international assets.  
  • I stick to my plan and try not to check my stock balances every day (this one is not easy).
  • I try to remember the words of Warren Buffet –” I am greedy when others are fearful and fearful when others are greedy.”

Cash Flows and Due Diligence from Dividendsvalue.com

The street focuses on quarterly revenue, EPS, EBIT, EBITDA and margins. The income statement is where you find all the metrics that the street loves. It therefore must be the most important financial statement. Not!

In my opinion the most important financial statement is the lowly cash flow statement. Unfortunately, it is probably the least used and most misunderstood statement. Ultimately cash flow is what drives the value of any financial asset. The reason analysts look at revenue, EPS, EBIT, EBITDA and margins, they are trying to estimate a cash flow number.

The balance sheet is a snapshot of a company’s financial position (assets and liabilities) at a single point in time, while the income statement summarizes a company’s income and expenses over an interval of time to determine if a profit was earned. Both of these financial statements are prepared using accrual-basis accounting which matches revenues with the associated expenses to generate those revenues in the same period. This leads to a disconnect between cash and earnings.

For example, during the quarter a company sells some surplus land for cash. The attorney who handled the paperwork did not bill the company by the end of the quarter. Under U.S. accounting rules (SFAS 5 Accounting for Contingencies), you would record an expense on the income statement and a liability to pay the attorney on the balance sheet, although no cash has been paid. The balance sheet and income statement are not the best places to look when you want to understand what is going on with cash. The cash flow statement is not based on accrual accounting, but instead is a cash-basis report focusing on inflows and outflows of cash. It adjusts out transactions that do not directly affect cash receipts and payments, such as adding depreciation back to net earnings.

The cash flow statement allows investors to understand how a company’s operations are running, where the cash is coming from and how it is being spent. Transactions are categorized into the cash flow statement’s three sections of operating, investing and financing activities. The accounting rules are very specific in defining what goes into each section, which ensures a degree of comparability between companies. Each section is discussed below.

Operating activities measure cash generated from core business operations – the sale of the company’s products and services. Included here are income and costs associated with production, sales, delivery, as well as collecting cash from customers. Cash from operating activities should always be positive and greater than the company’s net income. Earnings are considered “high quality” when operating cash flow is consistently greater than net earnings. If operating cash flow is less than net earnings, this is a strong signal you need to look deeper into the financials with a critical eye.

Investing activities focus on the purchase of the long-term assets the company needs to make and sell its products, along with any sales of long-term assets. This section also includes business acquisitions and strategic investments.

Financing activities include the inflow of cash from the sale of stock or issuance of debt, as well as the outflow of cash as dividends, purchases of treasury stock and repayment of debt.

Conclusion: As an investor, you want to pay close attention to the cash flow statement. Given the complexity of today’s accounting rules, earnings on the income statement and assets and liabilities on the balance sheet are often misleading (e.g. mark-to-market of a derivative, recording an asset for an asset retirement obligation). When a company consistently generates more cash than it uses, it will be able to increase dividends paid, buy back shares, reduce debt, or acquire another company. As a dividend investor, I want to know my company is financially capable of paying me a higher dividend each year, and the cash flow statement is the first place to look when making this determination. Do you use the cash flow statement when evaluating a company?

Rules to Investing

The founder of Vanguard spoke of 8 Rules of Investing that are worth remembering:

  • Select low-cost funds
  • Consider carefully the added costs of advice
  • Do not overrate past fund performance
  • Use past performance to determine consistency and risk
  • Beware of stars (as in, star mutual fund managers)
  • Beware of asset size
  • Don’t own too many funds
  • Buy your fund portfolio – and hold it

Opening a Vanguard Account

I just opened a new Vanguard Account.  The process took about 10 minutes and was very easy.  The only thing to be aware of is that a new account requires a minimum of $3,000. for each fund that is opened.  The great thing about Vanguard is the account expense fees are very low.  Most of the mutual funds at Vanguard have an expense fee of around 0.20%.  Mutual funds generally have fees in the 1% range.  So the savings are substantial.

I decided to open the Vanguard account in order to diversify my portfolio and reduce risk just in case another major financial institution goes broke.  I currently have an E-Trade account that is used to purchase stocks that focus on dividend yield.  I also have a Merrill Lynch Account that is professionally managed.

I will post my mutual fund strategy in the next blog.