1st Qtr Newsletter- April 2019

The key to making money in stocks is not to get scared out of them.

                                                                                                            Peter Lynch

Building Your Economic Security with Rising Dividends

Sometimes investors lose sleep over their equity investments because of a sinking spell in the market, ominous news stories, interest rate moves, changes in tax rates, etc.  But for long-term stockholders the ups and downs are routine, expected, and of little consequence.  What really counts is how well our investments pay us back – the cash dividends.  If these keep going up, and earnings are healthy, then all is well and eventually the price will go up too.

Here are some companies that may be familiar to Monarch customers.  Run your eye along any row, from left to right, to appreciate the progress they are making.  Quite a few have more than doubled their payout over ten years – implying a growth rate of 7% or better – keeping you comfortably ahead of the rising cost of living (inflation).

There is always market risk to stocks, especially in the short term.  The price can go down – sometimes by a lot – and you could lose money if you sell soon afterwards.  But look at the growth of those dividends.  This is money the companies paid each year to people who held their shares, and it is a pretty reassuring pattern.  Some have been raising dividends every year for over 25 years, even 50 years.  No bank savings account will do that for you.  As with any investment, one does need to accumulate some money to buy the shares in the first place.  But then you just hold on and let the companies do the work.

As Americans, we are used to seeing this and may take it for granted.  But there are not very many nations in the world where the small investor has this chance to join in the financial advantages of corporate ownership.  Our economic system might be called “supervised capitalism”:  There are lots of regulations, and taxes, but they still leave room for profitable enterprises to prosper – and us, as shareholders, along with them.  We are fortunate to live, and invest, in the United States.

Taking another look at the 2008-2009 Financial Crisis

Ten years have now passed since the great real estate & bank meltdown of 2008-2009.  Interestingly, the financial industry’s many layers of government regulations, which have been in place for years, completely failed to anticipate or prevent this debacle.  Before the experience passes into history and memories fade, we ought to learn all we can from what happened.  It was a terrifying time for everybody, and investors froze in fear, dropping the stock market by 50%.  For a while it seemed as if the entire U.S. financial system was breaking down.  Some banks suffered staggering losses, after having aggressively – and unwisely – extended mortgage loans to thousands of weak borrowers who could never pay them back.

There is an added element of investment hazard with financial companies, resulting from their lending activities and amplified by any leverage they employ, which can turn an economic downturn into a crisis that actually threatens them with extinction.  When the main “assets” are loans, it is nearly impossible to evaluate how sound they are in the absence of stress, i.e. before the trouble starts.  These companies are more cyclical than the steady-Eddie industrial enterprises listed above.  Many financial institutions are well managed by honest and intelligent people, and in the calm years they can be good investments.  But be careful.    

A look at the dividend record for banks and insurers (below) shows wide variations.  A few held up well in the crisis, others were in complete disarray.  Great size provided no guarantee of stability.  Most had generous and rising dividends through the boom years leading up to 2008, but look at what happened after that.  Some cut their payouts because they were cornered and didn’t have the cash; others, because the government ordered them to.  Either way, it was a miserable period for the shareholders who depended on those stocks for income.

Some of the largest institutions in the United States, with operations from sea to shining sea, were among the worst.  How did that happen?  Did the highly paid top executives learn anything from their close encounter with bankruptcy?  We’ll see if they hold up any better in thenext crisis, whenever it comes.  There was also the ironic spectacle of a giant world-wide insurance company needing to be bailed out, that a few years earlier had been running full-page ads boasting “WE UNDERSTAND RISK”.  

A few genuine heroes in this sector proved their solvency by weathering the worst financial hurricane in decades.  We should remember their names, because this was a severe test and they passed it.  The hardest-hit no longer exist.  Others, still recovering ten years later, are cautiously rebuilding their dividends.

General Electric is usually considered an industrial stock, but here we have listed it with the financials because of its large GE Capital division.  When the crisis hit, much of their trouble came from this unit.  It almost sank the company.

No one can see the future, which is why we always need to diversify our investments.  Back in the 1990s, and for decades prior, GE was an earnings powerhouse and absolutely one of America’s most admired corporations.  Some of their employees retired as millionaires, just by owning company stock.  If you were going to bet all of your money on a single enterprise, it probably would have been General Electric.  But over time, things changed.  The subsequent comedown has been humiliating for the company and agonizing for shareholders.  Today’s stock price is low and may be a bargain, but with undefined liabilities it is hard to make any estimate of value.  The cleanup will take time, and management still has a lot of work to do.

Written by George Donner

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