Public Service Announcement

After a career in the grocery business, one of my grandfathers was a public accountant. People would bring their tax information to his house and he would complete their tax returns. He always wore a long sleeve white shirt and a tie tucked into his shirt a few inches below the neck. He insisted that my uncle Ray (1922-2013) wear a tie as a boy when he delivered the news on his paper route.

I thought about my grandad when we sent a check to the U.S. Treasury with our 2023 Form 1040-V. As I read the instructions attached to the top of the form, this paragraph caught my attention:

No checks of $100 million or more accepted. The IRS can’t accept a single check (including a cashier’s check) for amounts of $100,000,000 ($100 million) or more. If you are sending $100 million or more by check, you will need to spread the payments over two or more checks, with each check made out for an amount less than $100 million.

One check was all we needed, but some of you might be impacted by this rule, so I’m passing the IRS instructions along for your convenience.

I would enjoy talking with Irl F. Hicks (1891-1973), Jellico, Tennessee, circa 1950, about the paradox of the IRS notice to those paying over $100,000,000 in taxes while many Americans struggle to save for retirement. I would ask his opinion the Annual Letter of Larry Fink, CEO of BlackRock, the world’s largest asset manager, who’s working to rebuild our trust, our infrastructure and our hopes for retirement.

Nvincible?

I’m a Josh Brown fan, but not a client. He’s a CNBC stock market analyst. For years, I ignored Josh’s bullish view of Nvidia. On 11/18/21, he explained Nvidia’s leadership in tech, but my focus is dividends, and at $321, NVDA looked very overvalued. I dismissed it.

On 3/28/23, Josh said, Many companies will benefit from artificial intelligence and Nvidia will be the “Grand Marshal” of the AI bubble “parade.” Finally, on 11/30/23, after much study, in spite of the $469 price, I bought 25 shares for a long-term investment in my IRA. I added 10 more at $490 on 12/15/23, giving the IRA 35 shares at a cost basis of $475. I planned to add no more and “let it ride.”

On 1/25/24, I sold 5 shares at $619. It usually takes months if not years for one of my stocks to grow enough to trim to keep positions in relative proximity. On 2/5/24, I sold another 5 shares at $690. The IRA now holds 25 shares. Nvidia closed yesterday at $735.38.

Josh said, “You may not see another stock like this in your investing lifetime.” Nvidia’s quarterly earnings report on Wednesday reflected growth that exceeded the most bullish expectations, so the stock rose over $110 per share on Thursday. Stock prices are ephemeral. It could drop sharply today. Nvidia is volatile, not invincible. Caveat emptor.

I’m sharing my Nvidia story to say that I listen to Josh because he’s humble. He owns his mistakes. On Wednesday he wrote about “The New Era of Market Commentary,” featuring two young researchers, Nick Colas and Jessica Rabe. Josh wrote, “Nick and Jessica are not only bright–they are reputable, credible, authentic and humble. They know a lot–and they know enough to know what they don’t know. This sounds obvious–why wouldn’t everyone carry themselves this way? It’s not obvious.”

From “Josh Brown, CEO,” Ritholtz Wealth Management

The power of “No”

Every young investor benefits from the experience and wisdom of an older family member, friend, colleague or mentor. Warren Buffett (born 1930) was doubly blessed by his relationships with Benjamin Graham (1894-1976) and Charlie Munger (1924-2023). Buffett called Munger the Abominable “No” Man because of his instinctive ability to say “No” to a bad deal and his ability to convince Buffett to avoid problematic investments.

This week’s theme is the “Christ the King,” and as I watched the videos about Munger linked in this post, I became freshly aware that to say “Yes” to the Kingdom of God is de facto a way of saying “No” to the ways of power and “lording it over others” that have been common among earth’s monarchs and tribal/national leaders. Munger understood that if all one accomplishes in life is the accumulation of great wealth, “it’s a failed life.”

From a 9:26 minute conversation between John Fortt and Becky Quick about Charlie Munger, including excerpts from her November 14th interview with Munger

ETHIC$ 3.0

I promised this final post about financial markets would include a word about “social justice,” which is redundant since society is inherent in the word justice. But, social justice is a useful term, described by the San Diego Foundation: “equal rights; equal opportunity; equal treatment.” I’m for it. Good companies are for it. Justice is essential in a democracy. And, democracy is essential for markets.

The modern investment club movement began in 1951 with the belief that broad equity ownership is healthy for democracy. Though more folks now own financial assets, wealth is even more concentrated, documented by Pew Research in 2014, by the UK Parliament in 2018. and by the 2022 World Inequality Report. This trend is an ethical issue and a direct threat to democracy and the social order.

Authoritarian movements threaten democracy and markets. Today’s US version of authoritarianism presents ethical issues for individuals, corporations, investors–and faith groups. White Christian nationalist movements embrace authoritarian ideology and provide a religious veneer that has caused many well-meaning people to forget what the Third Reich and World War II were about.

From “Understanding White Christian Nationalism,” Yale University Institute for Social and Policy Studies, October 4, 2022

ETHIC$ 2.0

This is the second of three posts about ethics in investing, which conclude a series of posts about financial markets. My goal is to practice a consistent, coherent, holistic approach to financial ethics–making, saving, giving and spending money–as a good neighbor, a faithful member of a congregation, a tax-paying citizen in a democracy, a corporate shareholder and a consumer of goods and services.

Justice issues are a perennial concern. Each era has its ethical challenges. My financial ethics are shaped by the historical moment of my brief tenure on earth. In an era of climate change, this means conserving resources, living simply, encouraging sustainability, and investing in companies with healthy ESG policies and practices. My carbon footprint matters, as does my portfolio’s.

I own shares in three energy companies. I’m for cleaner energy. The technology for totally “clean energy” isn’t yet available. I’ve owned shares of renewable energy companies such as Enviva (EVA), and I discovered that even wood pellets can be controversial. These are tough issues. Every sector has sustainability challenges, but many corporations are making ESG progress.

As a shareholder, I pay attention to executive compensation. I want execs to be long-term shareholders whose interests align with shareholders. Exorbitant compensation is unjust and weakens democracy. Robots and artificial intelligence can free humans for other work and creative activity. The ethics of work are both exciting and scary. If all work is done by robots, how does one earn a living?

From “Highest-Paid CEOs,” Executive Paywatch, AFL-CIO

ETHIC$

Recent posts focused on my 40+ years in the stock market. I’ll wrap-up this series with three posts about ethics. I consistently fail, but my goal is to integrate ethics into all my financial decisions by living with an attitude of abundance, not scarcity and a glad and generous heart.

My life in the market began with an investment club of friends who enjoyed making collaborative decisions. I have remained in the market because I could see its potential to provide supplemental retirement income and to provide a way to help medically disadvantaged family members.

In 2010, the first $1000 distributed from my IRA was a direct gift to a United Methodist college we were trying to keep afloat. This year, 40% of my IRA distribution goes directly to our congregation. Some US tax laws include provisions that encourage generosity to charitable organizations.

One of my early investments was the PAX World Fund, the first “socially responsible” mutual fund, founded in 1971 by United Methodist clergy Luther Tyson and Elliot (Jack) Corbett, who pioneered in ESG investing (environmental, social and governance consciousness).

Tomorrow: climate change, clean energy, and compensation for corporate executives. Sunday: social justice and the threat to democracy by the increasing concentration of wealth in the hands of a few and the dangerous growth of white Christian nationalist movements.

From Generous Frugality: an alternative approach to money, by Canadian (now New Zealander) Brenda Wang

Dividend yield

Business development companies and real estate investment trusts are exempt from federal corporate income tax if they distribute at least 90% of taxable income to shareholders. Congress did this to encourage investment in these sectors. Over the years, I became familiar with, and comfortable with, REITs, but I didn’t have the same level of familiarity or comfort with BDCs.

I learned that my brokerage firm offers strong BDC analysis. Based on the depth and detail of their research, I built positions in twelve BDCs. Today, BDCs account for more than a quarter of the portfolio’s value and more than half of its income. Most BDC investments are in the form of loans to small and mid-size companies. This BDC exposure lowers the average credit rating and adds more risk.

The BDC sector grew and matured since I dabbled in it a decade ago. Some BDCs are run by major financial companies (such as Barings, BlackRock and Blackstone). Institutions (such as Sun Life and the Teacher Retirement System of Ohio) looking for “alternative investments” have been drawn to BDCs. I don’t trust my current ability to manage a dozen BDCs, so I lean on my brokerage firm for this.

With 12 high-yield BDCs in the portfolio, I increased my focus on quality in the other 24 companies, which form the core of the portfolio. I increased exposure to Microsoft and Apple. I added some relatively low yielders I’ve admired, but avoided, for many years: Colgate-Palmolive, Nike, Abbott Labs, United Healthcare and Costco. The day after my first Costco hotdog, I added it to the portfolio.

Nine of the business development companies are rated BBB- by Standard & Poor’s, Fitch or Kroll. Until I develop a ranking strategy I’m using a pre-S&P tool called the alphabet:

• Barings BDC Incorporated (BBDC);
• BlackRock TCP Capital Corporation (TCPC);
• Blackstone Secured Lending Fund (BXSL);
• Blue Owl Capital Corporation (OBDC);
• Capital Southwest Corporation (CSWC);
• Crescent Capital BDC Incorporated (CCAP);
• Golub Capital BDC Incorporated (GBDC);
• Sixth Street Specialty Lending (TSLX);
• SLR Investment Corporation (SLRC).

I could not find current credit ratings for the other three BDCs in the portfolio: Fidus Investment Corporation (FDUS); PennantPark Investment Corporation (PNNT); and WhiteHorse Finance Incorporated (WHF).

As of October 31, 2023, the aggregate portfolio yield was 6.14% for the 36 equity holdings and a 5.83% cash position.

In addition to prior disclaimers in this series of posts, be aware that companies in the relatively young BDC sector tend to be more opaque than traditional corporations. Information is not as easy to find, credit ratings tend to be lower than many corporations, and BDC loans to companies do not have the same regulatory oversight as banks. I’m not a financial advisor and this isn’t financial advice!

From “Top 57 Largest Business Development Company Rankings by Total Assets,” Sovereign Wealth Fund Institute

What am I missing?

The stock market has taught me countless lessons since 1982–often by trial and error. Many market lessons have broader application. Some become life lessons. Sometimes lessons learned in other dimensions of life can be applied to portfolio management. Everything is connected!

Sometimes I don’t use a map because I think I know where I’m going. After a few wrong turns, I seek help from Google Maps or MapQuest. Sometimes I think I know how to fix something and midway through the project I look for the instructions. Here’s one stock market example:

I’m in a happy (18-year) relationship with a very helpful brokerage team. I’m comfortable consulting each one of them. They’ve made suggestions along the way, but for the first 17 years, I made virtually all the investment decisions. A year ago the team leader, a good friend, said:

“You’ve done a great job managing your portfolio, but you’re not taking advantage of our deep research department. You’re missing some opportunities. Our compliance department says if you don’t use our resources, you might as well go to an online firm that doesn’t offer advice.”

I listened. I began reading their “Morning Notes.” I now read their analysis and focus on companies they rate “Outperform” or “Strong Buy.” It’s a treasure I ignored for many years. Tomorrow, I’ll share one big discovery that has completely reshaped my approach to portfolio management.

The life lesson I’ve drawn from this experience is to look 360° around and ask: “What am I missing?” “What resources am I ignoring?” “Who can help me see a more complete picture of reality?”

Cathey Leach sunset photo of Friar at Kingston (TN) Waterfront Park, October 24, 2021

Dividends

Since 1982, I’ve read the monthly Better Investing magazine. Each issue includes a “Stock to Study” and an “Undervalued Stock.” The November stock to study is Edwards Lifesciences, the world’s leading supplier of heart replacement valves. The undervalued stock is 3M Company. Featured companies may or may not pay a dividend, but BI has helped me see the role of dividends in a portfolio.

Around 2008, as I moved closer to retirement, I adapted William Bengen’s 1994 “Four Percent Rule,” which posits that annually one can safely distribute 4% of the value of an IRA or 401k. I set a goal to create a portfolio with a 4% dividend yield, so that dividends would provide cash for distributions.

Legendary portfolio manager Peter Lynch said his bedtime reading was a Handbook of Dividend Achievers, companies that had raised the dividend for 10+ consecutive years. This led me to David Fish (1949-2018), whose “Dividend Champions” had raised their payout for 25+ consecutive years.

I rank my 24 portfolio companies by their Standard & Poor’s credit rating. For those with the same rating, the tie-breaker is their consecutive years of dividend increases. Johnson & Johnson’s AAA rating earns first place (61 consecutive years of dividend hikes). Microsoft’s AAA rating earns second place with 21 years. Apple’s AA+ rating places third. The next five have AA- credit ratings: Procter & Gamble (67 years), Colgate-Palmolive (60), Chevron (36), Nike (20) and Cisco (12).

CME Group and Abbott Laboratories also have AA- credit ratings and both have ten consecutive years of dividend increases. The tie-breaker is a “dividend safety score” from Simply Safe Dividends. Fifty is SSD’s average score and 99 is the highest score. CME’s 96 safety score bests Abbott’s score of 71. Three portfolio companies have A+ S&P ratings, led by Costco’s 20 years, followed by United Healthcare’s 14 years (safety score 99) and Bristol-Myers’ 14 years (safety score 79).

Prudential and Prologis have S&P credit ratings of A, with 15 and 10 consecutive years of dividend growth, respectively. Four portfolio companies have A- credit ratings: Union Pacific (16 years), United Parcel Service (13 years), EOG Resources (6 years, 82 safety score), and Conoco Phillips (6 years, 61 safety score). The final five portfolio companies are real estate investment trusts. Three are rated BBB+, led by NNN REIT (33 years), WP Carey (26 years), and Extra Space Storage (14 years). Agree Realty is rated BBB and Starwood Property Trust is rated BB.

Please remember (from yesterday’s post) that this is neither financial advice nor a recommendation about any security. It’s just my story.

From “For Dividend Investors, Time Pays,” by Danny Noonan, Morningstar, April 25, 2023

We are gatherers and hunters

Humans seem to congregate as either primarily gatherers (farmers) or hunters (looking for game to eat). The Bible shows evidence of conflict between vineyard farmers and nomadic shepherds. A US TV western theme was conflict between free range cattle drivers and fence-building farmers/settlers. But, we inherit both traditions. We all have some gathering and hunting DNA.

The stock market teaches one to hunt for good investments at attractive prices. There’s an emotional rush when one finds a company that meets the desired criteria. Portfolio management is like tending a garden: Add to successful holdings and weed-out floundering companies. Hunters may tend to trade too often. Gatherers may tend to be too complacent with what they have.

My sources are eclectic. Like every investor I know, I’ve picked up many ideas, traits and habits from a variety of sources. My friend Bob Wells (1946-2020) introduced me to Lowell G. Miller, who said the average person won’t become an accomplished accountant to understand a company’s financials, but that task can be outsourced to competent “screeners.”

Miller suggests choosing companies with a Standard & Poor’s credit rating of BBB+ or higher Like every investor I know, I’m idiosyncratic. My spreadsheet ranks my 24 portfolio companies according to the criteria I’ve developed, the first being their S&P credit rating. This subtle prioritization keeps me from trading too often and makes me more of a gatherer/investor, rather than a hunter/trader:

• AAA, Johnson & Johnson (JNJ), Microsoft (MSFT);
• AA+, Apple (AAPL);
• AA-, Procter & Gamble (PG), Colgate-Palmolive (CL), Chevron (CVX), Nike (NKE), Cisco (CSCO) CME Group (CME), Abbott Laboratories (ABT);
• A+, Costco (COST), United Healthcare (UNH), Bristol-Myers Squibb (BMY);
• A, Prudential (PRU), Prologis (PLD);
• A-, Union Pacific (UNP), United Parcel Service (UPS), EOG Resources (EOG), Conoco Phillips (COP);
• BBB+, NNN REIT (NNN), WP Carey (WPC), Extra Space Storage (EXR);
• BBB, Agree Realty (ADC);
• BB, Starwood Property Trust (STWD).

(This is neither financial advice nor a recommendation about any security. It’s a glimpse of some eclectic resources I use to construct an idiosyncratic method of stock study. Everyone’s situation, goals and risk tolerance is unique. This post by an eccentric blogger isn’t a “go and do likewise” document.)

From The Single Best Investment: Creating Wealth with Dividend Growth, by Lowell Miller, who retired in 2020 from Miller/Howard Investments, Inc. This book is available as a free PDF download from Miller/Howard. Miller’s comment about credit ratings is in Chapter Four.