With all the spooky headlines in the news today, it's no wonder
everyone is piling into bonds. The Investment Company Institute ((
)), which tracks mutual fund data, showed -88% of the $14 billion
came from equity funds relative to bonds and hybrid securities.
With the masses flocking to bonds, it's no wonder yields are
hovering near multi-decade historical lows. Stocks on the other
hand are the Rodney Dangerfield (
see Doug Kass's
) of the investment world - they get "no respect." By flipping
stock metrics upside down, we will explore how hated stocks can
become the beloved on steroids, if viewed in the proper
Davis on Debt Discomfort
Chris Davis, head of the $65 billion in assets at the Davis
Funds, believes like I do that navigating the "bubblicious" bond
market will be a treacherous task in the coming years. Davis
The only real bubble in the world is bonds. When you look out
over a 10-year period, people are going to get killed.
In the short-run, inflation is not a real worry, but it if you
consider the exploding deficits coupled with the exceedingly low
interest rates, bond investors are faced with a potential recipe
for disaster. Propping up the value of the dollar due to sovereign
debt concerns in Greece (and greater Europe) has contributed to
lower Treasury rates too. There's only one direction for interest
rates to go, and that's up. Since the direction of bond prices move
the opposite way of interest rates, mean reversion does not bode
well for long-term bond holders.
Earnings Yield: The Winning Formula
Average investors are freaked out about the equity markets and
are unknowingly underestimating the risk of bonds. Investors would
be in a better frame of mind if they listened to Chris Davis. In
comparing stocks and bonds, Davis says,
If people got their statement and looked at the dividend yield
and earnings yield, they might do things differently right now.
But you have to be able to numb yourself to changes in stock
prices, and most people can't do that.
Humans are emotional creatures and can find this a difficult
What us finance nerds learn through instruction is that the
price of a bond can be derived by discounting future interest
payments and principal back to today. The same concept applies for
dividend paying stocks - the value of a stock can be determined by
discounting future dividends back to today.
A favorite metric for stock jocks is the P/E (Price-Earnings)
ratio, but what many investors fail to realize is that if this
common ratio is flipped over (E/P) then one can arrive at an
earnings yield, which is directly comparable to dividend yields
(annual dividend per share/price per share) and bond yields (annual
Earnings are the fuel for future dividends, and dividend yields
are a way of comparing stocks with the fixed income yields of
bonds. Unlike virtually all bonds, stocks have the ability to
increase dividends (the payout) over time - an extremely attractive
aspect of stocks. For example, Procter & Gamble (
) has increased its dividend for 54 consecutive years and Wal-Mart
) 37 years - that assertion cannot be made for bonds.
As stock prices drop, the dividend yields rise - the bond
dynamics have been developing in reverse (prices up, yields down).
With S&P 500 earnings catapulting upwards +84% in Q1 and the
index trading at a very reasonable 13x's 2010 operating earnings
estimates, stocks should be able to outmuscle bonds in the medium
to long-term (with or without steroids). There certainly is a spot
for bonds in a portfolio, and there are ways to manage interest
rate sensitivity (duration), but bonds will have difficulty flexing
their biceps in the coming quarters.
Read the full article on Chris Davis's bond and
earnings yield comments
Sidoxia Capital Management ((
)) and some of its clients own certain exchange traded funds and
WMT, but at the time of publishing SCM had no direct positions in
PG, or any other security referenced in this article. No
information accessed through the Investing Caffeine ((
)) website constitutes investment, financial, legal, tax or other
advice nor is to be relied on in making an investment or other
Cramer's Lightning Round - One of the Worst Stocks
in the Dow (6/9/10)