With Greece and Puerto Rico on the brink of bankruptcy, stock market volatility has returned. Even US Treasury bonds have sold off with the 10-year yield moving from 1.7% to 2.4% due to a strengthening labor market and signs of inflationary pressure on the horizon. Usually US bonds rally and yields decline during times of uncertainty as we are seeing in 2016 so far.
Due to such headwinds, it’s getting incredibly difficult to make healthy returns in the stock market. We’re going through an adjustment period as we always do when the Fed plans to raise interest rates. Yet, should they raise soon given the unrest abroad? The US Dollar has already strengthened to 1.10 USD:Euro from 1.4 USD:Euro in 2014.
This post will review my after tax portfolio and discuss what I plan to do next. Feel free to chime in.
PORTFOLIO PERFORMANCE UPDATE
My investment portfolio was up 10% at one point in 2Q2015. Too bad I didn’t rebalance then. Up 5.9% YTD is strong since the S&P 500 closed 2015 essentially flat. However, I didn’t launch my portfolio until the end of January 2015, after the market had fallen about 3%. The timing was purposeful, but if I am to compare my performance to the S&P 500 since launch, then I’m only outperforming by 2.2%.
Lending Club (-25.5%): After reaching a high of $29 soon after IPO last December, Lending Club has been going straight down. The market is worried about rising competition in a nascent marketplace, as well as two large share lock-ups that just passed on June 9. The stock is not cheap at around 21X P/S and 69X forward P/E. With rising interest rates on the horizon, perhaps there is fear the lending book will slow down. That said, the stock looks compelling here.
Gold ETF (-9.2%): You would think that gold would outperform in a volatile market, but sadly gold has continued to be a dog in 2015. If Greece, Spain, and others exit the Eurozone, gold will probably rally. It’s frustrating to have the right reason to own gold, but not have it perform when your reason for owning comes true.
Simon Property (-13%): REITs and other high dividend yielding stocks have taken a beating with the rise in the 10-year yield. One stock I’m eyeing is Zillow (Z), now down below when it first announced the Trulia acquisition. Yield stocks will continue to underperform in a rising rate environment as they become relatively less attractive. I still don’t think interest rates will rise all that much and you are seeing strength in KB Homes +33% and Home Depot +6.1%.
Netflix (+48.2%): There’s massive excitement about Netflix’s impending launch in China. The problem is regulation and fees. Uber is spending a billion plus in China with no plans to make money any time soon. Netflix’s business model of creating in house shows is working. It’s just time to take some profits.
RenRen (+45.6%): I mainly bought RenRen because it transformed itself into a fintech VC. It was the easiest way for me to gain exposure. They lead the Series E $50 million round in several private companies, and have stakes in other big names like SoFi.
Yodlee (+47.8%): Is also another play on the fintech movement, as they enable companies like Personal Capital to allow customers to securely access and link all their financial accounts so they can get a better picture of their finances for free. The fintech sector is going to be hot for the foreseeable future. Once fintech companies prove they aren’t flashes in the pan by surviving for at least five years, the willingness of consumers to sign up increases due to the trust factor. Trust is so huge when it comes to one’s finances. I’ve experienced my own uptick in readership after reaching my five year mark in 2014 as well.
OVERALL PORTFOLIO ANALYSIS
My portfolio is heavily weighted towards growth stocks that are expensive, which makes the outperformance YTD surprising given all the volatility. I think we’ll be lucky to get a 10% total return for 2015, which is all the more reason why I’m kicking myself for not taking profits when the portfolio was up 10%!
My biggest portfolio changes will be to reduce winning positions with weightings over 3% (Tesla, Hawaiian Holdings, KBH, Honda Motors, and GoPro) back down to around 3%, and use ALL proceeds to increase my position in MUB, the iShares Muni Bond fund which is currently yielding ~2.7% tax free. I essentially want to create a 20% weighting in MUB in the near-term, that may go up to a 50% weighting with the hopes of achieving a 5.5% – 8% annual return on the overall portfolio.
We know the mass affluent class tend to be heavily underweight bonds based on a previous post that analyzed thousands of investment portfolios. However, with the recent bond sell-off, I’m using this opportunity to buy.
Why I’m Buying Bonds
* The 10-year yield moved from 1.7% to 2.4%+, a 41% move. Yet, IEF, the 7-10 year Treasury bond ETF only declined by about 5.5% during this move. Meanwhile, MUB declined by a mere 3.6% during the same time period. In other words, bond price volatility is very low.
* I’m focused on MUB because my marginal federal tax rate is 33%. A ~2.7% tax free yield is therefore equivalent to a 4% gross yield vs. a 2.4% gross yield for IEF. The higher your income tax rate, the more attractive it is to hold municipal bonds, especially ones issued by your state to avoid state income tax as well.
* The move by the 10-year Treasury yield to 2.4% is baking in the first 50 basis points of Fed Funds increase. I don’t think treasury yields are going to get much higher than 2.5% in 2016 as the Fed has started its first 0.25% hike. Even if the 10-year Treasury yield rises to 3%, I don’t think MUB will decline by more than 4%.
* US bonds may rally if Greece breaks away from the EU. The probability is that Greece will work something out, and stocks in the US and in Europe will rally. But given the decline in bonds already, bonds look relatively more enticing. Note the Euro STOXX 50 index is still up 1.6% for the year.
THE GOAL IS TO MAKE MONEY PASSIVELY
I’ve constructed my portfolio to NOT have to constantly worry about the positions. My goal is to rebalance twice a year, and that’s it. It becomes counterproductive trying to constantly trade positions in order to try and beat the stock market. You’ll likely get your timing wrong, and the commissions will eat up your performance.
Make decisions based on fundamental research. Give your positions time to play out. Focus on an asset allocation that matches your risk tolerance.
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Updated for 2019 and beyond. Interest rates have inched up about 0.5% post Trump’s victory. As a result, bonds have sold off and it looks like there’s more value now.