Demographics and Long Term Investing Part I: Demographic Decline

With easy access to country specific ETFs, we can invest in any and all country's markets. Of course - not all countries are going to do equally well long term - so we have to figure ways to identify countries that will do well over the long term. There are several factors that will play a hand in determining long term performance - one of them is demographic trends.

Consider the case of Japan (EWJ). Japan has been very successful. However, they are facing a steep demographic decline. Their current population (127.8M) is the high water mark - the population is projected to decline significantly in coming years:

In next few decades, Japan will lose 30% of its population - and the population will grow substantially older. Even if Japan manages to improve per person productivity significantly, they will not be able to make up for all the loss of labor. The problem would be manageable if the country was open to immigration - but that's not so. So Japan will continue to depend on home-grown labor. Trouble is that Japan is not producing enough babies - not nearly enough.

Number of births in Japan today are lower than any time in more than 100 years. Year 1900 had 1.47M births compared to 1.06M births in 2012! Number of deaths have just overtaken number of births in past couple years - but the gap is going to explode pretty soon. Even if the country starts taking some remedial measures (tax incentives for more babies, anyone?), demographic tides take a long long while to turn. While this does not make Japan toxic for the short term, surely for a long term bet Japan is not ideal.

There are other countries that are in the same category as Japan - imminent demographic decline and cultural opposition to immigration as a solution to the decline. Foremost is South Korea (EWY). Korea is still a few years away from the time when deaths will outnumber birth - but the time is surely coming as the fertility rate in Korea is just about 1.2 - far too low from the replacement level fertility of 2.1. For my money - Korea is not a safe long term bet either.

If Korea is a few years behind Japan, Russia (RSX) is a few years ahead. Russia has had births < deaths since 1992. Population is rapidly declining. Even though fertility has improved recently to 1.61 in 2011, it is still well below replacement and Russia is looking at continuing population decline. However, the multi-ethnic nature of Russian society and recent history means that immigration into Russia is culturally acceptable and quite significant in scale. This makes Russia in a bit better position than Japan and Korea. In fact, this is almost the model to the problem of demographic decline - try to push up fertility and use immigration to plus the holes.

While many countries in the Euro zone also face the problem of long term demographic decline, the problem is much less concerning because of free labor movement within the euro zone. There is enough of accessible labor pool available in poorer euro countries that low fertility countries like Germany need not worry much at the moment.

Countries with constrained long term outlook because of demographic decline is only one part of the story. I will follow up with countries that are likely to benefit from labor mobility through immigration systems focused on skilled professionals. The last group comprises the countries that are losing well educated workforce because of emigration. Those are topic for future posts.

All charts and most data in this post is from Wikipedia. The pages on demographics of Japan, South Korea, and Russia are excellent. Fareed Zakaria wrote an excellent article on immigration around the world recently.

Thoughts on AAPL and VNM (and other potential options)

I am looking at a few new investing targets and these two are under consideration at the moment: AAPL and VNM. VNM is an established topic here - I had a position that I got out of - and just after I sold, on the very same day, VNM turned around. A classic case of pulling the trigger too early. The stock has since gathered steam and remains a good long term play. Here is how its looking:

I think its downside is limited and it is looking to get back to an upward sloping 200D EMA. I will continue to follow this.

Second stock in consideration is Apple. There has been a lot of talk around the recent decline in AAPL prices. The evidence is clear in the chart:

The technicals are bearish - and I will probably not enter until the bleeding has stopped and at least the 50D EMA starts looking up. However, the fundamentals are a different story altogether: PE 11.78, Forward PE 9.07, PEG 0.51, Dividend Yield 2% - this is pretty nice long term value play. I believe the current decline is just the part of the process of taking the speculative growth money out of AAPL - the value money will continue to stick around. So, after year end when I have some cash for new investments, I will be happy to consider this further if the technicals have finishing doing their damage by then.

Update: A took a bit of time to look through some ETFs that might be a good option for a long term long position: IYR, XLU, EWZ, EWA, EWC.

Converting to ROTH IRA

So I did some re-organization this week. One of my accounts was a traditional IRA funded with post-tax money (the so called - Non-Deductible-IRA). Since I have already paid taxes on it, a conversion to a ROTH IRA does not result in any additional tax liability. There is absolutely no downside to it - so I went ahead and converted the balance into a ROTH IRA. The transaction was without complications since I did not have ANY pre-tax money in ANY IRA.

I am still keeping the traditional IRA around since the cash back from my Fidelity Credit Cards goes to that IRA account. As the value in that account accumulates, I will continue to push them to the ROTH IRA.

Essentially, this is a backdoor option for ANYONE to contribute to a ROTH IRA every year. Even if you are over the income limit to contribute to a ROTH IRA, just contribute to a non-deductible traditional IRA and then convert that to a ROTH IRA - the conversion is trouble free since there is no income limit on conversion - and if you do not have any other IRA with pre-tax money then the transaction does not lead to additional tax liability. Congress will, someday, put back the income limit of ROTH conversions and then this route will be closed - but until then - enjoy (and take advantage of) the ability to contribute to ROTH IRA every year without income limits.

Doing the same for my spouse is turning to be a little bit complicated since in that case we do have some pre-tax money in a rollover IRA (because of a 401-K to IRA rollover) and some post-tax money in a traditional IRA. It is my understanding that a conversion from the traditional non-deductible IRA to a ROTH IRA will attract some new tax liability since not 100% of all IRA assets are post-tax. I am going to hold off on doing that conversion.

Sometimes you don't need art, just a chuckle is just as good:

Caution: TD Ameritrade and Commission Free ETFs

I wrote recently about Commission Free ETFs and how they can be very helpful in parking spare cash without incurring transaction fees. I then went ahead and placed buy orders in Fidelity (EVY) and TD Ameritrade (JNK) for their commission free ETFs. Then I happened to look at the transaction history - and while Fidelity did conduct the transaction without any commission, TD Ameritrade happily assessed their usual $9.99 commission on the trade.

I sent my usual angry email and I received a reply next day mentioning that you get the commission free trade only after you enroll on the commission free ETF program! What crock!! I am not complaining against the getting my sign-off on a bunch of terms and conditions (which is what the whole enrollment was - one check box on whether I accept the terms and conditions) - but couldn't they have made that the default like Fidelity has. I had to search for and find the program and then ask them specifically why I am not getting the benefit. What is the point of having the program is you are hiding the program, hoping that more people don't find out about it so that they can keep charging commission. So folks, if you have been looking to trade the commission free ETFs at TD Ameritrade, then go ahead and enroll yourself in the program first.

Now, the actual terms and conditions of the program - there is a $19.99 short term trading fee if you sell within 30 calendar days. Fine - that's normal. However, they specifically state that its LIFO - and that bugs me. Is there any rational, business reason for them to use LIFO and not FIFO. The 30 day wait is small enough and the 20 bucks fee is small enough that it doesn't really matter - but why this whole effort to nickel and dime the customer. How much money are they going to make in short term trading fees anyway!

TD Ameritrade needs a high ranking executive with enough functional power put in charge of customer experience and customer service with the goal of ironing out these minor inconveniences. They are minor individually, but they combine to become significant in aggregate. Really, its more about culture than anything else - get out of the culture of nickel-and-dime'ing the customer TD Ameritrade!

Lizard by the master of tessellation M. C. Escher

Year End Tax Planning

My year end tax planning is rather simple since all my investments are in tax-deferred accounts. I don't need to figure out what stocks to sell to take a loss for tax purposes and so on. I only need to figure out what tax advantaged investments can I make before the Apr 15 deadline comes and the opportunity passes away. Here is what I am doing:

• I have already ramped up my deductions to the 401-K, 403-B and 457 accounts. I can put away $17K*3 = $51K in those three accounts - it does not seem like I will reach that level but will come somewhat close to it. I am fine with where I will end up - considering that I was on leave for half the year and did not put away anything in those accounts until start of fall.
• Because of my leave earlier this year, I does seem like I will fall below the income threshold for ROTH IRA contribution ($176K for married filing jointly). So, I need to make $5K*2 = $10K contribution to the two ROTH IRA accounts by Apr 15th 2013.
• I love my HSA account and will look to fully fund the HSA account. I have yet to calculate how much scope is left in the account after all the payroll deductions and the company match.
• For the next year, I have already adjusted the deduction levels for the 401-K, 403-B and 457 accounts so that they are on track to put away $17.5K by the end of next year. The contribution limits increase to $17.5K for next year. The IRA contribution limits increase too (to $5.5K) - but next year it is likely that I will cross the income threshold for ROTH IRA contributions ($178K for married filing jointly).

I looking at a serious cash crunch at the start of next year with all these investment funding needed. I usually do the following two things to make sure I can make all the tax advantaged investments that the tax code allows me to make:

1. File the federal tax return early - really early - like first week of Feb early. My tax returns are simple - just two W-2s - so I can file them as soon as get my hands on the W-2s. This sets me up to receive my tax refund in Feb - and I can use that to make the ROTH IRA contributions before the Apr 15th deadline.
2. Take advantage of a 0% Balance Transfer on one of the no-annual-fee credit cards I keep for this specific purpose. I get a loan for about 10-11 months at the cost of 3% (the fixed transaction cost) - and  use the loan to save on taxes. I think its a sweet deal - although it does take a lot of discipline to not fall into the credit card fee trap with balance transfers.

A lot needs to be done in coming months! 

Commission Free ETFs - Godsend!

I have been looking for a No-Load, NTF, Low Initial Investment Mutual Funds to park some of the spare cash that typically accumulates as result of dividends. I was having a lot of trouble finding good candidates as I discussed in my previous posts here. Turns out, I was looking in the wrong direction - I had a much better alternative just staring me in the face - Commission Free ETFs.

Three of my main brokerage firms - Fidelity, Vanguard and TD Ameritrade provide a wide array of ETFs that one can trade without any trading commissions. This is ideal for me. I have currently selected DVY as the ETF for spare cash in Fidelity and JNK for the same purpose in TD Ameritrade.

Unfortunately, Scottrade does not have the option of commission free ETFs - so I am continuing with the Mutual Fund we selected last time (SBSPX) as a cash park.

Ah - the joy of arriving at a satisfying solution to a vexing problem!

Speaking of joy - here is one of the more joyful paintings (they are surprisingly rare):

Renoir, Dance at Moulin de la Galette

NTF, Low Initial Investment, No Load Mutual Funds

So the search for Mutual Funds with No Transaction Fees, Low Initial Investment Requirement, No Sales Load and finally, Low Expenses continues from my last post. I identified a S&P 500 Index Mutual Fund that met the criteria last time - SBSPX. In this post, I will provide details of a few Bond Funds that fit the bill as well.

It is difficult to search for these funds since most fund screeners do not have options to select initial investment levels as low as say $100. Fortunately, TDAmeritrade allows its fund screener to be sorted by Initial Investment Required - so here is a list of bond funds that meet our criteria, courtesy of TDAmeritrade.

Allianz Global Investors Solutions Retirement Income Fund Class R (ASRRX): Yield 2.71%, Minimum Initial Investment: $0, Sales Load: 0, Expense Ratio: 1.42, No Transaction Fees. 12b-1 fee of 0.5%.

PIMCO RealRetirement Income and Distribution Fund Class R (PTNRX): Yield 2.83%, Minimum Initial Investment: $0, Sales Load: 0, Expense Ratio: 1.94, No Transaction Fees. However, it also has a 0.5% 12b-1 fee.

I need one of these as a home for JNK distributions. I guess I will go with ASRRX - least worst of the two options I guess. It really should not be this difficult to find a mutual fund to fit out common sense criteria!

UPDATE: There is such an appetite for NTF, No Load, Low Initial Investment Mutual Fund that this post has become a popular one on this blog. Since so many folks are landing on this page, I would like to mention my final solution to this search: Go With No Transaction Fee ETFs. Explanation below.

The Mutual Fund industry (with the possible exception of Vanguard) is driven by fees. If they provide you with a low initial investment option - then they take their pound of flesh through high management fees. All the three funds mentioned in this post above have atrociously high fees. Fees are the biggest killer of returns - so this is no go from the get go. So what should you do? My solution is to not look for that mythical, ideal mutual fund and instead go with ETFs. You can buy an ETF one share at a time - and so many ETFs sell for 20-30 bucks a pop. Now, this would not be feasible because of the transaction costs - brokerages can charge ~$10 for each transaction. However, you can sidestep that by buying from the list of No Transaction Fee ETFs. Fidelity has 65 such ETFs (all iShares - very high quality ones) while TDAmeritrade has 100 such ETFs (various companies, no all top class). So just choose from this set and you are good to go. I have chosen DVY for Fidelity and JNK for TDAmeritrade, as detailed in this post.

Caravaggio, David with the Head of Goliath

Mutual Funds with Low Initial Investment

So I have run into an interesting problem. I have stocks that I hold primarily for their dividend - for example - VZ. Now, every quarter I get a nice enough dividend that gets paid as cash. So pretty soon, I have accumulated some cash in the account. The problem is - the cash is lying idle.

Ideally, I would want the dividends to just be reinvested in the stock. However, I have not found a way to automate that in case of stocks (like you could in a mutual fund, take distributions in the form of reinvestment). So you would need to actually make a trade to put this cash back in original stock - but that would cost money - and especially since the dividend cash is a small amount, the commission as percentage of this amount could be pretty high.

So I need a place to park this cash without incurring any transaction costs. Once this accumulates to a large enough number, then we can make a trade and add to the stock - but until then we want the cash to just quietly work for us. The best option I could think of was to put it in a No- Load, No-Transaction-Cost, Index Mutual Fund. Sound good - but then I run into the problem that most of these funds have a very high initial investment requirement - often several thousand dollars - and I am not making that much just on dividends on one stock.

I spent a good chunk of time looking for a mutual fund that fits the criteria above but has very low initial investment requirements. I found one for VZ, LEGG MASON BATTERYMARCH S&P 500 (SBSPX). It has a pretty low initial requirement of just $100 - well within the reach of dividend payouts. I am now using this fund to hold my spare dividend cash from VZ. This fund, though great for my need, does have a little high expense ratio for a index mutual fund - but I guess that is the price to pay for the low initial investment requirement.

The problem is not fully solved though since the other accounts where I need a similar mutual fund does not support the Legg Mason family of mutual funds. So the search is on for another mutual fund that is No-Load, No-Transaction-Cost, Index mutual fund that has low low initial investment requirement.

UPDATE: See this post for my solution to the problem.

Exit Strategies: Update

I have thinking about the topic of Exit Strategies since my last post on the topic. After some thought my position has evolved a little bit. I have now come around to the position that it does not make sense to exit - just stay put. My investments are all in long term retirement accounts and I can afford to sit back and let time pass.

For accounts with defined asset allocation, we don't have a problem. Just continue re-balancing and let the market deal with its jitters. Getting scared and exiting only leads to missing out on post-crash bounce. Even the big crash of 2008 led to a full recovery in a few years.The dividend plays and debt instruments are anyway not beholden to the short term price - so they are not a problem either.

That leaves the growth plays. My solution to the problem is that I will put small bits of money (1 unit) to each investment opportunity and then leave them alone. The classic buy and forget strategy. The advantage is that since each investment is a small amount, I would not be losing sleep over it. Once I buy, I would resist the urge to sell and let it play out long term.

To conclude - this is my exit strategy now - there is no exit strategy. Just select the long positions carefully and then ride it out for a long long time.

Monet, Water Lily Pond and Bridge, hard to pick out any one from the Water Lily series, especially after seeing them in person at the Musee de l'Orangerie.

Trades: Buy EPI, Buy FXI, Buy F

I have three units of cash that I wanted to invest in three stocks/ETFs that I can hold for a reasonable long term. Long term is a relative word here - I will not be looking at 3 month charts here like I used to for trend trading, but more like 2 year charts with the focus on 100 DEMA and 200 DEMA.

They are essentially part of the Exit Strategy #4. These stocks will be benchmarked with 100 DEMA. All of these stocks show signs of turning their 100 DEMA around. The charts below provide evidence. The charts are 2 year charts to keep attention on long term trends.

First - F - Ford Motors
I am watching the red line (100 DEMA), the fact that its slope is upwards and also the fact that it is going to cross the green line (200DEMA). Exit point is when price is decisively below the 100 DEMA.

Second - FXI - China
Same situation as F above. Upward sloping 100 DEMA, about to cross through 200 DEMA. Exit point is 100 DEMA.

Lastly, EPI - India
Same as the two above. Benchmarking on Exit Strategy #4, 100 DEMA.

I am now fully invested in the markets. No cash left. Of course, many of these bets under Exit Strategy #3 and #4 will hit their triggers and will be sold - so then I will have flexibility again for new investments. For the moment though, I am fully tapped out.

Exit Strategies: Preliminary Thoughts

This post is dedicated to Exit Strategies in various accounts that I have. This is my first post in exit strategies - so these are preliminary thoughts. These will evolve as I encounter situations that will inevitably arise and force me to re-evaluate.

The first exit strategy is simple - have no exit strategy - just stay invested come hell or high water. I know that it is easily said than done - but - it is also the right approach for at least a part of my portfolio.

Exit Strategy #1: No Exit Ever

Bernini: I will not exit because I can not exit. Blessing in disguise. 
El Greco: Since this account is designated for actively managed mutual funds - I will leave the decision up to the mutual fund managers. I will stay invested in these funds.
Durer: It has a 2050 target date retirement fund - I will go with the underlying essence of this investment and not touch it until we are close to 2050.

The second exit strategy is also simple - do not exit since we are not concerned about price. These are dividend or income plays where price is only the secondary factor.

Exit Strategy #2: Why Exit, Enjoy Dividends

Klimt, Da Vinci: They hold pure debt instruments with monthly distributions. We are only interested in the distributions - so we will continue to hold them as long as they are continuing to provide reasonable distributions. I guess 5% is a good minimum floor for such distributions. So no exit as long as they continue to provide a 5%+ yield.

Renoir and Turner: They hold stocks with high dividend payouts. I am tentatively deciding that for stocks that yield more than 3% in dividends, keep holding them forever. I have currently two of these dividend stocks: INTC and VZ. I will keep them irrespective of their price as long as they continue a dividend yield of 3%+.

What about stocks that have lower dividends? Also what about broad ETFs/Mutual Funds? Lets first take the case of stocks with medium level dividends (1% < dividend yield < 3%). This case will also include broad market ETFs like SPY, EFA, VWO and the corresponding index funds. For these cases, I propose the following exit strategy:

Exit Strategy #3: 200 Day Rule

Stocks, ETFs and Mutual Funds that are primarily growth plays with modest dividends will be managed based on their price relative to their 200-Day Exponential Moving Average (EMA). When these stocks/ETFs/MFs fall decisively below their 200D-EMA, I will consider that as a signal to get out of them. This decision although will be made with an intent to get back in when the long term momentum reverses and the price goes decisively above 200D-EMA.

Currently, the following accounts will lend themselves to this category: Van Gogh and Bruegel.

Note that the 200 Day Rule is only to be applied when sufficient evidence exists that we are getting into a significant long term downturn. The bias will be towards holding on for as long as possible.

Now, we come to the most volatile (and hence needing prompt attention) part of the portfolio - growth holdings.We are keeping these mostly for price appreciation without regard to dividend levels. Such instruments demand swift movement out when the price is not moving in the right direction. So, for these, I propose the following exit strategy:

Exit Strategy #4: 100 Day Rule

Pure growth plays will have the 100 Day EMA as the exit benchmark. I do not have any stock that falls in this category - but the 4 units currently kept for trend trading will move here as I get away from trend trading.

Rethinking Active Investing Approach

According to the last Taking Stock post, only 4 units out of a total portfolio of nearly 42 units is kept aside for trading - and I wonder whether it is worth my time to actively explore short to medium term trading. Since almost all of my portfolio are in tax deferred accounts, I can take a very long term view of them - so I wonder whether it would be best for me to focus only on asset-allocation type of investing and buy-and-forget type of investing. Let go of trend-trading.

Although I am am sure that I can be successful doing trend trading, it perhaps needs more time on a more consistent basis than I have to spare.

I am going to look for more long term targets from now on. I need to get those 4 units working for me. The task now is to identify four good stocks as targets for these 4 units at one unit each. I currently have two dividend plays (INTC, VZ) and one combined play (DEO) stocks. It would make sense to look for some growth plays next.

On a related note, I need to clearly articulate my exit strategies in face of market upheaval. Which accounts do I continue to stay invested in an weather the storm? Which accounts I use to strategically exit with intention to re-enter at friendlier times? In such cases, what will be my exit and entry points? I will tackle these in a subsequent post.

Changing Asset Allocation in El Greco

I try to have each of my accounts follow a distinct investment philosophy. This allows me to test different approaches and figure out what works better. It also hedges my portfolio against something going terribly wrong with an specific approach.

Among the larger accounts in my control - Van Gogh and El Greco, Van Gogh follows the Index fund model - it only invests in different kinds of index funds to achieve the desired asset allocation. El Greco is currently structured the same way. I am now changing El Greco to invest in actively managed mutual funds. When the next rebalancing happens, El Greco will invest in the following actively managed funds:

• Vanguared Wellington Fund (20%)
• Fidelity Contrafund (20%)
• American EuroPacific Growth Fund (20%)
• BlackRock EAFE Index (20%)
• Vanguard Long Term Investment Grade Fund (20%) 

Only the EAFE Index above is not an actively managed fund. I had to keep it there to keep a decent allocation to non-US stock. The asset allocation above also follows the 80% Equity, 20% Bond model that I wanted to reach in this account.

It will be interesting to compare the performance of index funds based Van Gogh and actively managed funds based El Greco as some time passes. 

Dali, Dream Caused by the Flight of a Bee around a Pomegranate. One Second before Awakening; a triumph of sheer imagination!

Taking Stock: Nov 2012

This is the first of the hopefully-regular, end of each month, Taking Stock post. It is essentially a recap of the changes in my investment portfolio over the past month. So, lets get to it:

Total Investment Portfolio: 41.7 Units

 

Bernini: 10 Units, in a conservative asset allocation model - 53% Stock (28% US, 25% International), 33% Bonds, 14% Real Estate and Others.

VanGogh: 10 Units in an aggressive asset allocation model - 70% Stock (30% US, 20% Developed Non-US, 20% Emerging Markets), 30% Bonds. Will be moving to a 80-20 model at the next re-balancing.

ElGreco: 8 Units in an aggressive asset allocation model - 70% Stock (40% US, 30% International), 30% Bonds. Will be moving to 80-20 model at the next re-balancing.

Durer: 3 Units in a Target Retirement Fund with 2050 target. It is currently 90% Stock (67% US, 23% International) and 10% Bonds.

Klimt: 2 Units in a fixed rate bond fund.Currently yielding 5.67%.

DaVinci: 2 Units in JNK for steady returns.Currently yielding 6.89%.

Monet: 2 Units, 1 kept in cash and 1 in EWP.

Dali: 2 Units, currently kept all in cash.

Bruegel, Renoir and Turner: 1 Unit each in DEO, VZ and INTC.

Growth Since Last Taking Stock

Last Taking Stock had total portfolio value of 37.1 Units. End of Nov 2012, we stand at 41.6 Units. This shows a pretty solid 12.13% growth in less than a month. Of course, my portfolio did not return that much. Much of the growth is from additional contributions made in tax saving accounts as the end of the year is closing in. The End of Nov figure (41.6 Units), the first end of month figure, will be taken as the base value for all growth and return calculations going forward.

Renoir, Two Sisters (On the Terrace), 1881; the pride and joy of the Art Institute of Chicago