Taking Stock


House Prices Down, Stock Dividends Up

Stocks ended May on an upbeat, then sold off the first chance they got in June. These Midsummer Eve antics are likely to continue until the fall, when markets normally firm up. The next clear direction will come in a few weeks as second quarter earnings reports begin to trickle in. As recent market selling indicates, anxious investors are fretting that the global economic recovery may stall.

Overall, that seems highly unlikely as technology, medical and most manufacturing sectors are doing quite well. The problem lies with the housing sector where recent reports show home prices backing down to 2002 levels while an overhanging “shadow inventory” of bank owned or seriously delinquent properties is estimated to hold almost two million houses.

Almost every bank and other financial institutions own some piece of these troubled assets. The Old French origin of the word “mortgage’ as “dead hand” fits all too well and a vigorous economic recovery will need to escape this grasp. Until then, I feel investors should avoid stocks in the housing and housing finance sectors, including almost all bank stocks. Sinking home prices dampen consumer spirits, demanding caution with most retail stocks.

Fortunately, there are lots of nicely priced stocks in less occluded sectors where companies are increasing their earnings. Volatile markets will remain with us so stocks that pay dividends will leave investors feeling less naked whenever three-digit drops come along. Brookfield Partners (BIP-$25), Bristol-Myers (BMY-$28), DuPont (DD-$52), Digital Realty (DLR-$61), Intel (INTC-$22), Novartis (NVS-$63) and Seaspan (SSW-$17), among others, are offering yields from regularly increased dividends of 3% or more. That beats the yield on 10-year Treasury bonds, which lack the upside potential of these stocks.

Even before the bad days of the financial crisis, I recommended certain closed end bond funds for their superior income returns. They became even more useful in tough times with yields over 10% and attractive discounts from their net asset values. These virtues have not gone undiscovered and their prices have risen, lowering discounts and yields. Credit Suisse Income (CIK-$4), which I recommended in 2009 at $3 with a 12% yield, still yields 8% but trades at a 3% premium.

It remains a solid hold but new funds should go into WF Multi-Sector Income (ERC-$15), which yields almost 8% and has a cushioning 7% discount from net asset value. Amateur investors tend to overemphasize credit risk and yield while overlooking the risks to principal of longer maturities that will result from the inevitable return of higher interest rates. This fund’s holdings have an average duration of 4.5 years, providing flexibility to adjust to higher rates.

Franklin Trust (FT-$7) and ING Global Real Estate (IGR-$8) still trade at 7% discounts with monthly yields of 6-7%. Business development corporations offer even higher yields but have been more volatile amid concerns for the economic recovery. Current buys are Gladstone Investment (GAIN-$7, 7% yield), Prospect Capital (PSEC-$11, 10% yield) and TICC Capital (TICC-$10, 10% yield).

Discounts and dividends are useful cushions among market fluctuations but there is nothing better than superior earnings performance. That’s why Apple (AAPL-$345), which doesn’t pay a dividend, remains my largest position. Overall, quality stocks enhanced with rising dividends remain a superior investment. House prices, once thought almost invincible, are now down 33% since 2002, worse than the 31% decline in the Depression of the 1930’s. Those prices needed 19 years to recover. We live now in a much more vibrant economy and price recovery will take less time but will demand investment care.

Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1993. [email protected] (949)494-1376/ (800)697-2622 www.crowellroberts.com


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