No One Knows When Rates Will Rise
As an investor, you must know that the Federal Reserve increasing interest rate hike is the hottest news around, yet economic data points towards this being a relatively bad decision. Rates have been kept at record lows, between 0 and 0.25 % since the end of 2008.
As I anxiously awaited the news yesterday, not much more came from it than previous meetings. As such, the earliest expected hike will be in September… however it could end up being in December – and hell who knows, maybe it’ll be in another year? The point is no one on Earth knows, yet stocks love to play fickle around this news.
A Bit Of Speculation (Don’t Hate Me)
REITs have suffered specifically due to the fear of increasing rates. I was looking to average down on a couple stocks, however I have no cash in my TFSA; and through a series of unfortunate events am forced to deposit solely into my taxable account for a couple more months. Interesting (yet obvious) how REITs shot up quite a bit as soon as the news was released that the fed would not be increasing rates. Of course, since people will not be getting better bond yields, they’ll be getting their income from REITs. Personally, I don’t think I’d buy bonds anyways. Especially considering they’ll probably be going up for quite a while after the first increase.
Personally, I’ll be holding off on purchasing anymore REITs for a while probably. I currently hold roughly 35% Real Estate in my overall Financial Independence Portfolio, and the losses are starting to show. While it’d have been great to pick them up at a discount and average down, I’m perfectly fine with taking a little break until September or December rolls around and see what happens – chances are REITs will drop further. At that point, it’s possible I’ll purchase up some more big name REITs – preferably H & R REIT, Plaza Retail REIT (though I’m having a bit of trouble being bullish on retail in general with so many retail stores closing down recently), Dream Office REIT and /or Pure Industrial REIT.
While REITs have been hammered a decent bit, utilities have also dropped a very large amount. Utilities have dropped 6.52% on the Toronto Stock Exchange (TSE) in the past one month. Considering utilities are generally stable income stocks… think Atco Ltd or Canadian Utilities Ltd, they too have been beaten down a bit when certain investors think “Oh… Why hold positions in these risky equity securities when I can have safe bonds and get a similar return” (though I still doubt bonds will return what the equity market can.. though I don’t have much of a clue either).
On the Energy side, things are so uncertain for now that while I’d love to dump a wad of cash into quite a few names, I just don’t know. Right now my favourite looking energy company is WhiteCap Resources Inc (TSE: WCP), which sports a very attractive 5.46% yield, pays dividends monthly, and has a P/E of 8.05.. sadly the company doesn’t have a long track record, but it looks pretty good. While I’d love to purchase more shares in CNQ or WCP or whichever energy company, I still think that it’s possible the market doesn’t know what to do in this sector, and with rate hikes looming, I don’t know if I should be making any more thousand dollar decisions.
Cash Is King
While this post may seem a bit off for readers who have read my other posts, you’ll often see me saying “Time in the market is more important than timing the market”, and I still stand by this, although a bit more defensively.
I’ve built up a position in the market – I’ve invested into a strong portfolio which generates cash flows, and so I can say that I am now spending time in the market. Of course, I’m sure there will be deals all over the place, and I’d love to take them if they present themselves to me, but I find more and more as time goes on, I’m becoming a bit more of a rigid investor, and I believe that’s a good thing.
For the time being and at least for the rest of this month and the next, I’d like to challenge myself from staying away from shoveling any more money into equities. I’d like to build up a cash reserve in my brokerage account so that when the time comes for “grown men to weep” (Kevin O’Leary), I’ll have a good amount of cash set aside to buy a good deal of shares.
I’d like to try and hold 25% of my current portfolio value in cash for really good value, potential purchases.
I believe this is a good decision for me. I feel as though I’ve been a little too trigger-happy on my recent purchases, and believe I can make better decisions coming up. This is a challenge for me, since I absolutely love purchasing stocks, but I’m sure I’ll be happy when a get that coveted stock at a 10% or 20% discount (and more shares!).
TL;DR (or Conclusion)
To conclude… the fed has not raised interest rates as some may have suspected. The earliest possible estimation of a potential rate hike is now set for September, though some (myself included) believe it’ll probably be around December.
The fact of the matter is that nobody knows, and the market has been playing a very fickle game in relation to every word that comes out of Janet Yellen’s mouth. While I would naturally just say “time in the market is better than timing the market”, and have points to back this up, I believe for my interests I would like to hold a minimum 25% cash position in my brokerage for really hot deals that’ll manifest in the coming months or year.
Hi DB,
I am not too concerned about rising interest rates, I think that the US market has been discounting the possibility of a rate rise already (Reits have lost a lot of steam recently, for example). In the end the effect on certain stocks is only temporary, as it is for bonds, it normally lasts in the short period then things get back to “normality”.
Keeping cash at hand on the other side is something that I am doing myself too, I am restricting the amounts that I pour into the market as I feel that some good opportunities might arise from short terms fluctuations (but not so much linked to US rates, I have my eyes set on Greece, Ucraine and a possible market crash in China).
I see that nobody ever mentions UHT, one of the Aristocrats (and Reit), have you ever considered it in your researches?
Keep the good work up, I also feel that I have improved my skills thanks to reading (and a little bit writing) the blogs!
Ciao ciao
Stalflare
Hey Stalflare,
I don’t believe I’m overly concerned either, and many of my positions seem to have also seen a decent correction – however, they’ve gone up quite a bit since there appears to be hope for Greece.
There are definitely going to be some sweet deals coming up, however everywhere you look in the market there’s a deal of some sort, somewhere, you just have to do your research.
I’ve never heard of UHT, but wow, I just looked at it and they have an incredible track record. Right now I’m staying away from the NYSE however until I open an RRSP so I’m not subject to withholding taxes.
You keep up the good work too man! We’ll look back a year from now and be in complete awe, I’m certain.
Take it easy buddy,
DB
While you’re taking a break, might I be so bold as to suggest the following book? http://www.amazon.ca/Value-Investing-Graham-Buffett-Beyond/dp/0471463396
Thanks for the article DB. Thanks for keeping us up to date. Good idea with building up your cash reserve. There will be lots of good opportunities so stay patience. I’m gonna build some cash myself and strike when we get some good deals as well. Take care my friend and always a pleasure. Cheers.
Hey DH,
Saving up some cash and striking when the best deals can be made is a great approach. I have no doubt you’ll definitely wreck the scene when stocks go on sale.
Best regards,
DB
A comment on REITs and utilities in general. You’re absolutely right, these are interest rate sensitive. REIT’s in theory should be less sensitive to interest rate increases if they have rent escalating clauses in their leases and they have locked in their funding costs for a sufficiently long period of time.
Utilities may be more sensitive to interest rate increases vs. REITs, as they may have less ability to increase prices (depending on extent of regulation) and pass these increases on to consumers.
I guess this is the trade off in searching for yield.
There a few ETF’s which take some of the guesswork out of searching for individual REIT’s. ZRE, XRE, VRE, RIT.UN, and RCO.UN are all exchanged traded REIT ETF’s which hold a diversified basket of REIT’s.
BMO offers two utilities ETF’s, ZWU and ZUT. ZWU holds a more diversified basket of utilities vs. ZWT. ZWT only has about 12 holdings in its portfolio (at last check), with high concentrations in Just Energy, Algonquin, Emera, Northland Power, and Innergex. You can see the holdings here. I think it’s quite risky given the concentration of holdings.
http://www.etfs.bmo.com/bmo-etfs/holdings?fundId=75756
ZWU is interesting because it holds a much more diversified basket of utilities, telcos, and pipelines, and it has exposure to both Cdn and US companies in each sector. The holdings are here. There about 67 holdings vs. ZWU’s 12.
http://www.etfs.bmo.com/bmo-etfs/holdings?fundId=86810
The fund also sells call options against its holdings, so it may have more of a variable yield vs. ZUT.
Ishares also offers a utilities ETF, XUT, which seems to almost interchangegable in terms of holdings vs. ZUT. There are only 12 holdings in total.
Important clarification, ZWU does NOT hold 67 holdings. It actually only holds about 22 stocks (comprising about 98% of fund holdings). The remaining holdings are short calls. Sorry about the misinformation!
Hey Dan,
I agree with all you said above. I always like when you comment because you always present me with a basket of opportunities. I will probably look further into the ETFs suggested however I did purchase ZWU as a pure income play when you first suggested it. It has a nice yield however I’m not too thrilled with the total expense fee. I do know that it’s definitely a lot of hard work though, so I’ll see where things go and hold onto it. It took a pretty bad dive recently, right after I bought it, but has come back up quite a bit this past week.
One other issue for me, personally, with ETFs is a lot of the time the distributions are somewhat “all over the place”. I’d prefer seeing a steady increase over time, as I try to invest in companies which consistently increase their dividends every year, it’d be good to find ETFs which can do the same.
At the moment, I’m thinking of diversifying into either international or emerging markets… It’d be great to find a fund which does both well in capital appreciation and consistent dividend increases… Perhaps you know of one?
Thanks for your help as always,
DB
Comparing it to the plain vanilla utilities ETF (ZUT), it holds all the Cdn telcos, US major telcos, all the Cdn pipelines and a couple of the US pipelines (including WMB which is in the midst of being acquired). The risks as I see them:
1) The manager writes calls on a portion of the holdings to generate additional yield. Therefore yield will be variable contingent on call premium
2) As a result of 1), if you get a spike in any of the holdings due to acquisition, the ETF only participates up to the short call strike
3) MER is .65%. Likely due to trading costs (constantly writing/rolling short calls). I think of this as cost of additional yield (there’s no free lunch)
4) Overall interest rate sensitivity, sector and market (systemic) risk. Can’t really get away from this. Had you bought any of the individual holdings in proportion to ZWU’s holdings between early May and beginning of June, the holdings themselves have all moved lower (with the exception of AT&T and maybe Veresen).
Was it just me or did the DOW break it’s all time high once the news on no interest rate hike was reported? Not to be political but the next U.S. president is going to be handed a shit storm if they adopt this country when it’s going into another mini-recession/market correction.
-Rich
Hi RF,
I don’t believe the DOW did break a record high when an interest hike was postponed. Everything’s been singing along this week though with talk of Greece.
Best regards,
DB
I know someone who’s implementing the permanent portfolio strategy whereby an investor keeps 25% of assets in cash. Historically it has worked out great because it lets you take advantage of market corrections and other opportunities. I have no idea when Yellen will raise rates either so I’m simply staying the course, but will remain flexible with my loans and fixed income holdings. If I were a betting person I’d say she won’t raise rates until the second half of 2016 or later but my speculation could be totally off lol.
Hey Liquid,
That’s good to see some other investors find a 25% cash holding to be useful. It’s definitely a really hard thing to achieve, as I’m constantly looking at stocks and wanting to jump in and buy all over the place, but holding myself back… I’m with you on a hike probably appearing somewhere in 2016, but that’s about all I can think of.
Best regards,
DB