A HITCHHIKERS GUIDE TO THE STOCK MARKET

   When I was an undergrad at Cornell, I used to walk up the hill past the Johnson Art Museum every day.  It was a giant building shaped like an old-fashioned school desk.  At the time, I thought the money for the building had come from one of the Seward Johnsons of Johnson and Johnson fame.  I learned later, that in fact, the money had come from the other Johnson family, SC Johnson. 

   Why am I writing about this?  Because SC Johnson is the largest privately held company in the world and the maker of such popular products as Windex and Pledge.  The family made its fortune on Saran Wrap and they never went public.  You cannot buy stock in SC Johnson no matter how much you might want to.

   

   The question I want you to ponder is this:  In all of this market turmoil has the value of the SC Johnson company changed?

   Stock prices go up and they go down, but the underlying value of the companies that those stocks represent does not change.   There is no question that companies like Apple, Coca-Cola, General Electric, and Next Era Energy (Florida Power & Light) have value.  There is also no question that most of these companies (and their peers) will have greater value in 5, 10, and 20 years.  They will have greater value because they will pay a larger dividend per share than they do today.

   I expect that the correction we have seen over the past few days to be short lived.   Today’s activity is very informative.  Panicked investors stewed over the weekend and lined up to get out this morning.  The market went down over 1000 points at the open and then rallied back.

   As I write this the market is down around 200 points and a number of stocks we hold have moved into positive territory.  My message is, DON’T PANIC.  People that gave into their fears over the weekend are already regretting that decision.

The Real Secret of Dividend Investing

 

In 1917,  the Dodge Brothers, John and Horace, sued the Ford Motor Company because they wanted a dividend.  Two years later, a final Judgment was entered in favor of the Plaintiff shareholders in the amount of $19.3 million.   The Michigan Supreme Court looked past Henry Ford's argument that he wanted to put "the greatest share of our profits back in the business" and held that "[a] business corporation is organized and carried on primarily for the profit of the stockholders."

There are essentially three ways to value a business.  All of those methods involve multiplying either the earnings, the revenues, or the dividends by a factor.   The factor varies based on the type of business and the prevailing interest rates.  

Frequently when valuing a private enterprise like a pizzeria or a parking lot, the multiplier is applied to revenues.  A dry cleaner, for instance, might sell for 70-100% of annual revenues; while a liquor store will only fetch 5% of annual sales plus inventory.

It is common when looking at stocks to value the stock based on a multiplier of earnings.   We call this multiplier the P/E or Price/Earnings Ratio.   A stock selling for $36 a share with $3.00 a share in earnings would have a P/E Ratio of 12 (12x3=36).   Arthur J Gallagher, one of the nations largest publically traded Insurance Agencies current trades at P/E multiple of 16 and 1.6 times sales based 2015 estimates; numbers that are not that far off of what you would expect to pay for a local accounting firm. 

When you think about it, the true value in owning a business or a portion of a business comes from the dividend and the expectation of future dividends.   If we lived in a world where the buying and selling of interests in a business wasn't facilitated by modern stock exchanges then the ONLY value a share of stock would have would be the dividend.   In other words, if you could not sell it then the only benefit you would get out of your stock would be the dividend.

It has been rightly said that the value of an asset is what it pays you.   Earnings and Sales are informative because they are indicative of what the business can pay in the form of a dividend and the dividend is what we want.   More importantly, we want the stream of dividends going forward.  

The real secret of investing in dividends is that we are not buying the dividend today; we are buying a rising stream of cash flow in the form of expected future dividends.   Ten years ago (in February of 2005)  we could have bought a share of Johnson and Johnson stock for around $64 a share.  The dividend at that time was $1.14 a share for a yield of 1.75%.  Over the next 10 years the price per share increased to around $105 per share (an increase of 64%).  Over that same time frame the dividend increased to $2.80 (an increase of 145%).  An investor putting $6400 into Johnson and Johnson stock in February 2005 would have received $4100 in capital appreciation and $2018.50 in total dividends. 

What is significant is that one third of the total return for this 10 year period came from dividends alone!  What is exciting is that based on her original purchase price, our hypothetical J and J investor is now earning a yearly dividend equal to 4.8% of her original investment.  (An investor purchasing the same stock 20 years ago would now be receiving an annual dividend equal to about 18% of their original purchase price.) 

And that brings us to the real value of a dividend portfolio.  When looking for dividend stocks do not become overly enamored by the current yield, instead look at the "future yield."  This years dividend has value, but the real value of our investment lies in  increasing income stream stretching off into the ever receding future. 

Why I am bullish!

Why I am (and remain) bullish!

I have been a professional investor for over 30 years and the first thing I want to say is that this is what a bull market feels like.  The market goes up regularly, almost every single day.  It goes up in small increments.  Then, it will move sharply lower for a short period of time, often just a day, before rebounding and begin the slow move upward.  If you think back to the last panic or correction in 2008 and 2009 we had exactly the opposite phenomenon.   The market went down with gut-wrenching regularity.  Sure we had an occasional rally, but each one was followed by a swift move to the downside erasing the one day gains as the market moved inexorably lower.

The above chart is incredibly sexy and makes me very excited for the near and mid term future for stocks.  To explain it, let me start with a basic principle: the intrinsic value of stocks and the underlying companies always goes up.   (This is not true for every individual corporation on the S&P 500 or even the Dow, but it is certainly true for those corporations as a whole.)  The price of the stocks fluctuates around that intrinsic value sometimes wildly.   As a result, we have these powerful bull markets that always end in an excess of exuberance.   When the bubble of irrational exuberance bursts, stocks plummet and we end up with a "lost decade."  We had two of these "lost decades" in the 20th Century; 1929-1942 and again from 1967-1982.   After each "lost decade" the market rose precipitously for a long period of time eventually increasing the value of a basket of stocks exponentially. 

Looking at the chart, we see that we seem to have completed another "lost decade."   If history repeats itself, the next 15-20 years should take the market to dizzying levels.   I would suggest it is a ride you cannot afford to miss.

Scott A. Grant
www.standfastic.com

Why I held onto my GE stock. (and why I am glad I did)

Why I held onto my GE stock. (and why I am glad I did)
Originally published on Facebook 4/10/2015

We have owned GE since at least 2009 in most of our accounts. The stock has been stuck around $25 for almost 2 years now and there have been many occasions where a client or friend has tried to talk me into selling because "the stock isn't going anywhere."
I resisted the temptation to dump the company and here is why. I like the business. The world needs more and more electricity and most methods of generating electricity involve using a turbine. GE makes turbines for electricity and jet planes and anything else that uses a turbine engine. I also liked the dividend. I was happy to get paid 3.5% while I waited for the stock to go up.

But the biggest reason was the "Al Slotnick Rule". Al was an early client of mine at EF Hutton and one of the smartest investors I have ever met and he had a rule: "never sell anything." When you think about it, it is not a bad rule. Most investors hurt themselves by trading too frequently. They give up the huge compounded returns that can only be earned over years if not decades.
I will be honest, I break the Al Slotnick Rule from time to time. Last year I took a fairly large profit in Merck and the year before I did the same with Verizon. And, this year I took a loss on IBM. In each case I thought the money could be better invested and I DID NOT make the decision to sell lightly.
If you start out with a default rule that you will never sell you tend to be more selective when you buy something (a good thing) and you tend to think long and hard before you sell (another good thing).
Today, General Electric jumped over 11%. We think the stock will go higher. Patience is a virtue!