The Dividend Cafe - October 14 PODCAST Dividend Cafe

Episode Date: October 13, 2016

October 14 PODCAST Dividend Cafe by The Bahnsen Group

Hello and welcome to this week's Dividend Cafe podcast. It has been a crazy week as we returned from New York last Sunday and re-entered office life bright and early Monday. From the developments in the presidential race to the somewhat volatile market to the onset of Q3 earnings season. It certainly was not a quiet week. We're going to take a look at all those issues and discuss a few other things. A little bit of recap from our New York due diligence trip as well. So we'll get into it. And please do reach out to us by email with any questions you may have about all this and more. do reach out to us by email with any questions you may have about all this and more. Well, do we need to get out those broomsticks after all? It's our opinion that the smart money is believed ever since Donald Trump secured the GOP nomination that while Hillary Clinton was

widely favored to win the presidency in terms of the betting markets and polls, there was virtually no scenario any credible pundit could point to whereby the Democrats would take a majority position in the Congress. And so, therefore, status quo was the most likely and acceptable to markets scenario. As Donald Trump's recent collapse in the polls increased the chances of a Democratic sweep whereby they take the House in addition to, you know, keeping the White House potentially? We don't think so, though certainly it bears watching as we get closer to election day. Many critics are fond of saying that they don't trust the polls, and that's fine, but the empirical indicators at this point still favor a Republican House and a Democratic president.

Can things change in the next few weeks? Sure. But this is the scenario we think is most likely and that we think is most priced in the markets. As an aside, I plan to write a piece for Forbes this weekend, which we'll also put out on DividendCafe.com evaluating the most important market ramifications of such a political scenario. Well, she loves me, she loves me not. Are MLPs correlated to oil or not? I mean, one month the buzz is all about oils dropping, the pipelines are doomed, despite all the evidence to the contrary. In another another month the story's totally changed. The fact of the matter is is that oil has gone from $40 to $50 in the last two months plus 25% while the MLP index is actually down a couple pennies in that time frame and in other parts

of the year oil was dropping while MLPs were advancing dramatically. Non-correlation means non-correlation, and the reason the pipelines do not respond in perfect concert or even remote concert sometimes with the price of oil is because A, the revenue model of pipelines is volume-driven, not price, and B, so many pipeline companies are now driven by natural gas, natural gas liquids, not crude oil. The only thing to fear is the antidote to fear itself. I actually do not believe in the short or medium term there is a lot of risk to bond yields going significantly higher, pushing bond prices dramatically lower.

pushing bond prices dramatically lower. Unfortunately, the reason for this is I do not believe the economy is strong enough to put our 10-year yield too high into the 2% plus range. It sits right now at 1.75%. A 10-year at 175 and a 30-year treasury at 2.5% is not reflecting a super strong economy. And we're sitting on a pretty flat yield curve altogether. The flatness refers to how close together the yields are compared to different maturities. Steepness would mean a large gap from like, let's say a two-year bond to a 10-year bond, and then a 10-year bond to a 30-year bond. But even though I see the 10-year bond yield reasonably contained for the time being, I also recognize that even a modest upside surprise in inflation could push that incrementally higher and cause the asset classes most people

think of as their safe money, high quality treasury bonds, corporate bonds, municipals, to drop in price. Yes, all investments have a risk associated with them. We just prefer to be compensated for the risks we take. A little bit of this, not so much of that. Much of the story in Q3 stocks depended on what sectors one was invested in. Certain technology names, especially chips and semiconductors, did quite well. The whole tech sector was pretty strong, top performer for quarter three. But energy and financials were two other spaces that were very strong, whereas utilities was down nearly 10% for the quarter. They used to call utilities widow and orphan stocks.

hoarder. They used to call utilities widow and orphan stocks. Not anymore. Pick a country, any country. Where does the most risk and catalyst for volatility exist around the world right now? Most would suggest China, and we're pretty much in that camp. But the September exports figure were terrible there, and imports were disappointing after what had been a strong August. But the way in which the Brexit gets administered as UK goes forward exiting the very troubled European Union, it certainly has plenty of chance to stir up some more volatility around England, UK, Europe as well. Let's not forget Italy either. Their deeply economy, as many EU loyalists in the country wondering if there's a path for them to an Italia exit. That could be very useful for creating volatility. So there's macro events and situations around the globe that could be troublesome at given

moments in the months and years ahead. Then again, when exactly has that ever not been true? The new China is like the new normal, a new pile of nonsense. We heard over and over again eight years ago about a new normal in capital markets and what exactly it was supposed to mean and how it was supposed to be invested was never quite made clear. A theme in global investing for several years has been the idea that Indonesia, Malaysia, Vietnam, the Philippines, other Southeast Asian countries were replacing China as the sort of trade and labor hub. The reality is that each of those countries has their own particulars that matter. They are not monolithic. They're not a singular entity. Some have strong economic fundamentals. Some do not.

not a singular entity. Some have strong economic fundamentals, some do not, but to treat a group of four or five sovereign countries with different deficits, interest rates, labor markets, specialties as one in the same is bad economics. All roads lead to debt. If you want to talk about anything impacting markets, threatening countries, damaging companies, hurting families fiscally, or generally impairing a portfolio result, it will always and forever have something to do with debt. On the offensive side of the ball, investors need organic growth. We know that. Free cash flow, profits, earnings, dividends. But what ultimately does damage, what doesn't merely fail to add offense, but actually subtracts and often destroys is excessive debt. Over-leverage is what does companies in, period. A period of easy money, low cost money, anxious attempts to stir up credit, all do good things in the moment, but they stir activity. Productive debt

can often generate productive and even sustainable growth. But what we just cannot take our eyes off of right now is that companies have added more debt to the balance sheet than they have added earnings. This matters and it behooves us to play offense without ever failing to play defense. Income where you least expect it. We have seen investors pour capital into emerging markets bonds these last four months, though largely institutional investors, not as heavy on the retail side. And we have rightly proclaimed that this was largely a yield grab, driven by the desire to generate extra income relative to what was available in other developed country bond markets, where yields are either negative or barely above zero. What has not gotten enough attention is how the income story may be quite attractive for years to come in emerging market stocks as well.

More and more EM companies are paying a dividend. A good percentage pay a much more attractive dividend than their developed counterparts. And most importantly, there is ample room to grow these dividends as these companies and countries mature past a fixed payout ratio into a more opportunistic way of approaching dividend payments to shareholders. of approaching dividend payments to shareholders. In other words, bottom line, we think there is a real secular story of dividend growth out of the emerging markets in the decade ahead.

We provide some charts to that effect. I'd encourage you to look at it, dividendcafe.com as well. I'll end you with a quote of the week from Coach Lou Holtz, formerly the coach at Notre Dame. It's not very often you're going to get this Trojan to quote Notre Dame, but it's a great quote, particularly when we apply it to our world of investment management.

You don't need the big plays to win. You just have to eliminate the dumb ones. Very true of football and very true of portfolio management, we think, as well. Very true of football and very true of portfolio management, we think, as well. So please reach out to us if you're interested in listening to our national conference call this coming Wednesday, the 19th. We'll be talking to callers all over regarding the specific meetings I just had in New York City and recapping for clients and guests what our key takeaways were and what changes in portfolio positioning we're embarking upon. We'd love to have you participate. We welcome Kimberly Davis this week as a new partner

at the Bonson Group, and you can read more about that at DividendCafe.com as well. So I'm going to leave it there. We've kept it right there at 10 minutes on this week's Dividend Cafe podcast. Please have a wonderful weekend. We'll come back at you next week.