Let’s Make Like BRK.B and Split

In late January, the financial world was abuzz with the news that Kim Kardashian’s shoe rental company launched its first retail kiosk at an L.A. mall! No, wait, wrong headline – Warren Buffett’s Berkshire Hathaway B shares underwent a 50-for-1 split! The shares, which had been trading just below the $3500 mark, split on January 21 and began trading around $70. Wow, seems like a great deal, doesn’t it? In the sense that a single share seems more affordable, yes. The operative word there is “seems.” Stock splits don’t affect the value of the company or its market cap (and if you’ll notice, 3500/50 = 70). To borrow an analogy from a coworker, think of the company as a pie. You could divide the pie into 4 quarters and charge $10 per quarter. Now, I don’t know about you, but when I go to a bakery or a coffee shop for a piece of pie, I am not interested in shelling out $10 for 1/4th of a pie. I also don’t know of many places that will sell you a fractional piece of a menu item. So, the shop owner would do much better to slice the pie into 8ths or 16ths, and offer each piece for $5 or $2.50, respectively. The smaller, more affordable quantity is more appealing to the vast majority of people, but the overall value of the pie hasn’t changed – all the pieces together still add up to $40.

So it is with a stock split. Investor perception is that $20 to $80 is a reasonable price to pay for a share of stock, so sometimes companies will split the shares when the price has risen above these levels. In Berkshire’s case, the split was due in part to the acquisition of Burlington Northern Santa Fe. In order for Berkshire to be able to offer shares of BRK.B in exchange for shares of BNI, they had to reduce the share price. Why? If BNI is trading around $100, and you own 20 shares, your investment is worth $2000, which is less than BRK.B’s per-share price of $3500. In the same way that you can’t order half of a menu item, you can’t trade fractional shares of stock, only whole shares.

To sum up, I will quote John Ogg from 24/7wallst.com, “A split is technically a non-event on true fundamentals. But at this point it has finally become a stock that the public can own.” It’s the same pie, just divided into smaller pieces.

Sarah DerGarabedian, Research and Trading Associate

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Somebody’s Economy is Doing OK

The Wall Street Journal recently reported that a bronze statue just sold at Sotheby’s auction for $104.3 million.  “It must be an ancient relic,” I said.  Nope – it was cast in 1960.  “It must be by Leonardo da Vinci,” my colleague said.  Nope – it was created by Alberto Giocometti.  “The person who would spend $104.3 million on that must have a lot of other money,” another colleague said.  Yes, probably.

Meanwhile, jobless claims moved higher.  The four-week moving average of new jobless claims ticked up from 456,000 to 468,000.   The unemployment rate is a lagging indicator of the near-term direction of the economy, but the initial jobless claims report is a leading indicator.  Some fear that the economy will “double dip,” meaning, take another leg down before a sustained recovery. 

Though having higher jobless claims is certainly not good, other leading indicators are pointing to the economic recovery.  The Conference Board measures an index of 10 leading indicators such as yield spread (the difference between the overnight bank lending rate and the 10-year Treasury), building permits, and the stock market.  The Conference Board recently reported that the index of leading indicators jumped 1.1% in December.  This is on the heels of a 1% increase in November. 

We take this as a good show of economic recovery (not to mention the recent report of 2009 4th quarter GDP of 5.7 %!).  Joblessness is painful to those experiencing it.  You can’t write off this reality because of other improving leading indicators.  However, the economy has to improve before job growth can resume.  In the mean time, we will save our cash and hold off on that $104 million dollar statue purchase.

Harli L. Palme, CFP®

Financial Advisor

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To Die or Not to Die in 2010

Since 2001 we have had a stable estate tax with gradually increasing estate tax exemptions.

 

2002-2003          $1,000,000

2004-2005          $1,500,000

2006-2008          $2,000,000

2009                          $3,500,000

2010                          $0 ???

For now in 2010 there is no federal tax on estates.  Of course nobody believes this will last.  The House and Senate will most likely come to an agreement to bring back the $3,500,000 exemption.  This is what the House tried to pass before 2009 ended.  The Senate was too busy with healthcare, so no fix was passed. The Senate I believe is pushing for a higher exemption and doubling the amount for married couples which will eliminate the need for a by-pass trust.  In other words, if an estate was valued at $7,000,000 the assets would not need to be split for each spouse to receive the full exemption. In either case, when they do decide it will most likely be retroactive to January 1, 2010.  If you die before they decide your estate may have to litigate to keep the zero tax.  One drawback to not having an estate tax is your heirs would inherit your cost basis on assets.  This could cause your heirs to pay hefty capital gain taxes if they liquidate assets after your death.  In prior years assets inherited qualified for a step-up in cost basis, using the value on the date of death for the new cost basis.  An estate will have the ability to increase the tax cost basis by $1.3 million plus an additional $3 million for transfers to a surviving spouse. This caveat is still uncertain as to whether or not it will go back to the old way of a full step up in cost basis.

We will keep you informed as to the outcome.  In the mean time keep on living and enjoy the economic come back, and the future market growth we are certain to experience in the years ahead.

Gregory D. James, CFP®

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Financial Literacy

I don’t remember my parents ever discussing money with me, but I grew up knowing they weren’t too keen on spending money. My mother was a traditional homemaker and for every dollar my dad earned, my mother saved 75 cents – and I’m not kidding. If they had lived they would be 87 and 89 today. They were part of the truly “frugal generation.” We see that clients in that age group tend to have a similar frugal nature. My parent’s investment choice was a bank savings account and CDs. They paid cash for everything, never having any debt, even on the homes they owned. My mother spent 10 years in a children’s home because her parents could not afford her. That alone provided the framework for her determination to never be poor again (just like Scarlet O’Hara). Of course, she should have invested in something other than cash for a better long term return.

Later generations have not practiced that same “thriftiness.” We didn’t have a depression era mentality. Of course, there are a lot more temptations to spend money in 2010, with a new “must have” gadget coming on the market every six months or so. Even so, the last 12 months should have provided the impetus for people to save more and spend less. I have decided that having money in retirement is a matter of choice. You choose to live large in your working years and the result is poverty at age 75. You choose to save some (but not enough) and the result is financial stress in your retirement years. To have financial independence in your retirement years is a direct result of adequate savings during your working years.

It is important that we teach young adults that they cannot spend $70,000 a year when their income is $65,000. They must live within their means and start saving at an early age. This actually might involve doing without from time to time, or putting up with a roommate. What a concept! I have just purchased a flat screen television because my children said I was the last person in the US to still have a tube television. There may be some truth to that as I couldn’t even give my old television away even though it worked just fine!

Initially, everyone should establish an emergency fund and that should be a priority. One of the reasons people build up debt is that they must resort to credit cards for unplanned expenses because they don’t have any excess cash. Of course, you should always participate in any retirement plan your employment offers. Beyond that, and after an emergency fund is established, excess cash should be invested. If you started early, a 10% savings rate could be increased gradually to a 20% rate – fairly painless. Truly, not many of us actually did that when we were young, but don’t you wish you had?

Barbara Gray, CFP®
Partner

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All I Want for Christmas is Two Gold Teeth

Ah, gold. For thousands of years this metal has been prized by countless civilizations as a symbol of wealth, both as a store of value and a glittering personal adornment. Given the recent upheaval in our financial system, many people are wondering if gold is perhaps a more prudent investment than the stock market. My colleague Barbara wrote a recent blog article comparing the returns of gold versus those of stocks and bonds, and showed them to be not only inferior over the long term, but an ineffective hedge against inflation, as well.

Let’s not forget, however, that you can wear gold, and it looks a whole lot better around your neck than a statement from your advisor. I heard an interesting story on NPR’s All Things Considered about the cultural significance of gold in Iraq and its importance in the marriage ceremony. Apparently, there is an Iraqi saying that gold is both a decoration and a treasury (and in a war-torn country, the fact that it is portable is no small consideration). I also read an interesting commentary on CNN.com by economist Ben Stein (who in my mind will ever remain Ferris Bueller’s boring econ teacher in the 80s movie by John Hughes). Stein has always been a huge proponent of saving for retirement, so this article was a slight departure from the usual rhetoric when he said – get this – “Economics tells us to enjoy the life we have. Maybe sometimes the best investment is buying something you want.” Now, mind you he does NOT advocate spending money frivolously if it will mean eating cat food in retirement, but if you have saved and invested prudently it is OK to have a little fun because, in his words, “the life we have right now is the only sure thing we’ve got.”

So, you want to invest in gold? If you have a little to spend and you’re otherwise invested prudently, buy it in the form of jewelry (though the prices are at an all-time high right now). Don’t be a Silas Marner and bury it all under your floorboards – live a little, buy something pretty. ‘Tis the season for giving, after all. In fact, wasn’t it one of the gifts brought by the wise men on the very first Christmas? (Of course, they also brought frankincense and myrrh, which appear to be tree sap. Sounds to me like one was a wise man, and the other two were wise guys.)

P.S. My ring size is 5.

Happy Holidays!

Sarah DerGarabedian, Research and Trading Associate

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Super Human Power to Save

“How does anybody ever make money in the stock market?” my buy-and-hold investing father asked me. I couldn’t believe he was asking me this because he’s made a lot of money in the stock market over the last 30 years. It’s just that over the last decade, even the tried and true stock market investors are weary.

The way my dad has made money in the stock market is with two simple strategies. Save your money. Invest and be patient. First and foremost, my dad has a super-human power to save. He is a minister and chaplain and this does not add up to an enormous salary. But he has saved religiously (no pun intended) a little bit of every pay check he ever received. Most people cannot do this. It is by saving his money, that he has made money.

Secondly, once that money is invested, keep it put. This is something else that requires serious strength of conviction, particularly during 2001, 2002, 2008 and the first part of 2009. My dad asked “How does anybody ever make money in the stock market?” during 2008 when it felt like everything he’d saved was washing away. But he stayed invested and it has paid off. Despite the various market declines, the long term trend is up. For instance, when my dad starting investing in 1980, the S&P 500 index was at 107, in 1990 it was at 353. Now it is hovering around 1100, and these levels do not even consider dividends.

This is how you make money in the stock market. Even when things look grim, keep saving, keep investing. You can’t control the stock market (believe me, I’ve tried), but you can control what you do with your money. You can spend it or you can save it. Choose to save regularly. Choose to invest wisely, and stay invested. Be patient and give it time.

Harli L. Palme, CFP®

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The Importance of Dividends

The current dividend yield on the S & P 500 index is about 2%. According to a recent article in Barrons’, dividends accounted for 43% of stock market returns over the past 83 years. The remaining return came from the change in stock prices. So far in 2009, dividends have accounted for only about 10% of the market’s total return.

We believe that dividends help put a floor under the value of a stock, because you are receiving an ongoing stream of cash flows from the time that you make your investment. Growth stocks, which pay lower or no dividends, must earn their total return exclusively from the change in price.

It is important to consider both the level and sustainability of dividends. The S & P 500 has a payout ratio of about 45%. This means that for every $1.00 in earnings, companies are paying an average of about $0.45 in dividends. Significant levels of debt or off-balance sheet obligations like under funded pension plans or post-retirement health care benefits may restrict a company’s ability to pay dividends in the future, since they have other needs for this cash. When evaluating individual stocks for inclusion in client portfolios, our Investment Policy Committee considers both the current dividend yield and the payout ratio. A high payout ratio of 75% or more may indicate that the dividend is at risk of being cut in the future. An unusually high dividend yield is also a sign that the dividend may not be sustainable. If something seems too good to be true, it usually is.

Why not buy all dividend paying stocks? Different clients with different investment objectives may have different levels of dividend paying stocks. A retiree who is spending from their portfolio, in addition to possibly having an allocation to fixed income (bonds), may have more dividend paying stocks than a younger client in the accumulation phase. Increasing portfolio income is one factor that we take into consideration as we review client portfolios for potential improvements. Also, a cornerstone to our investment philosophy is broad diversification including growth and value companies, small, medium and large companies and international companies. We never know for sure what is going to do better, so we want to have a mix of assets that will perform well under a variety of market conditions. If we focused exclusively on dividend-paying stocks, we would be forced to underweight sectors of the economy like technology that we believe have attractive future growth prospects. This year, large growth companies have returned over 32% versus 17% for large value companies. Small and mid-sized growth companies have also outperformed their value counterparts during this period. Therefore, including an allocation to growth companies that pay little or no dividends has helped portfolio returns this year.

Currently, dividends are taxed at the same rate as long-term capital gains. With the Bush tax cuts currently set to expire at the end of 2010, dividends are scheduled to be taxed at higher ordinary income rates for 2011 and beyond. The main implication of this from an investment perspective is asset location. If the tax on dividends does rise, we would lean towards putting higher-dividend stocks in a tax-deferred account such as an IRA where feasible.

Bill Hansen, CFA
November 25, 2009

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ORGANIZE! ORGANIZE! ORGANIZE!

Are your affairs in order if you died tomorrow? Is your will or trust up-to-date? Do you have the assorted legal documents all in place: healthcare power of attorney, durable power of attorney? Have you checked the beneficiaries on your retirement accounts lately? Be Prepared – isn’t that the Boy Scout motto? We have seen clients with five or six separate IRA accounts or brokerage accounts at various places. Combining like-type accounts is much simpler and certainly less paperwork. Do you have old stock certificates lying around? If you would deposit them now into your brokerage account you will save your beneficiaries much time and trouble. Do you have a safe deposit box? We have seen clients that have had multiple bank accounts and more than one safe deposit box. Your beneficiaries need to know where to find the paperwork that leads them to your various accounts, certificates and safe deposit boxes. I recently had a client die and his daughter found a notebook in his residence with detailed instructions on where everything was, including a map of downtown Asheville with instructions on how to find Parsec Financial. You might also consider checking on your parent’s situation (if they would permit that).

Barbara Gray, CFP®
Partner

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Who Says it isn’t Easy Being Green?

Well, I finally broke down and invested in a socially responsible mutual fund. I don’t know what’s happening to me – I’m starting to have feelings, a conscience – and I was so convinced that I’m perfectly logical. I blame it on becoming a parent. I’m suddenly much more concerned about how companies are making profits, rather than just if they are. And apparently, I’m not the only one – socially responsible investing (or SRI) has been around for over 250 years, beginning with early religious proponents such as the Society of Friends (a.k.a., Quakers) and John Wesley. Though the objectives of some socially responsible mutual funds are still rooted in religious principles, most are now concerned primarily with environmental sustainability and corporate governance. A mutual fund (or fund company) with socially responsible objectives screens its investments both for elements it doesn’t want (business practices that are harmful to individuals or the environment) and for elements it does (clean technologies, ethical business practices, respect for human rights).

Finding out the objectives of a particular socially responsible fund is a relatively simple matter of searching for the fund company online – they usually list that sort of information on their website. (Well, I say simple, though recently my computer was infected with a virus that attacked my search engine of choice. I noticed something was amiss when Google was all dressed up for Thanksgiving – on October 12th. After glancing at my calendar to make sure it wasn’t already the fourth Thursday in November, I saw it was Thanksgiving – in Canada! The virus was redirecting me to Google Canada, for some reason, as well as to malware-loaded sites, but our IT folks got me all cleaned up.)

In this article I’ve focused mainly on mutual funds, because with individual stocks, it’s easier to pick and choose the companies in which you’d like to invest. When you buy shares of a fund, though, you are buying a basket (sometimes hundreds) of individual companies, and it’s hard to know what you own, since you are in effect paying the fund manager to choose the investments for you. However, you can find a socially responsible fund that screens companies for the qualitative measures that are important to you, a process for which they are much better equipped than the typical individual investor. And, with SRI accounting for about 11% of the US investment marketplace (according to socialinvest.org), it’s getting easier to find funds with good track records and reasonable expenses. 

So, what’s the main takeaway here? That apparently, Canadians celebrate Thanksgiving, too. Not that there’s anything wrong with that, eh?

Sarah DerGarabedian

Research and Trading Associate

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