A new Best Buy store opened in town recently, so we went over to take a look. Right up front, Sony and Barnes & Noble e-readers were on sale. Today's Wall Street Journal says Kindle will soon go on sale at Best Buy. Business and technology researcher Forester Research says it expects 11 million Americans to own a reading device by the end of this month.
I've owned a Kindle since shortly after it first came out. I was thrilled because I no longer had to lug a ton of books around when traveling. Since then, I've realized it's best-suited for fiction or other books that aren't filled with charts and graphs, which often don't show up well in Kindle. I also miss the feel of a book and the ability to page back and forth quickly, which I do a lot, since financial books are often hard to read and require a second going over. It's also better to have a slightly larger page, one that can fill your field of vision better.
But my days of lugging books around are effectively over. I never travel without the Kindle. I'll take it with me when I tour an iron ore project in west Labrador later this month, the Alliance meeting in November, and the Value Congress in New York. Amazon knocked that one out of the park. It's nice to be able to carry 200 books around in a lightweight package.
Still, I love my books. I like being surrounded by them in my office. It just feels good. I used to go through them every now and then and sell some or give them away. I don't do that anymore. I keep them all...
Corporate financial managers are certainly busy earning their keep these days... Blue-chip companies are still rushing to issue debt while interest rates are low. An estimated $51 billion in new corporate bonds and leveraged loans have hit the market the past two days. Wednesday was the busiest day for high-grade bonds this year, with more than $19 billion in new debt issued, according to research firm Dealogic. Hewlett-Packard and Home Depot have been the busiest of the blue chips, issuing a combined $33 billion of debt in two days.
Investors are also hungry for junk bonds... High-yield issuers sold $1 billion of debt in the past two days. It's easy to see why corporations are taking advantage of these low rates. In a time of high economic uncertainty, these companies know they can count on a low, fixed payment over the next decade.
As for the market's appetite... Mr. Market craves yield. The federal-funds rate is near zero, Treasurys are still around 2.7%, personal savings accounts pay a pittance. Your average mutual-fund manager would slap his mother for an extra 100 basis points in the credit markets.
Contrarians will eschew puny bond yields for better returns elsewhere. As we've discussed before, many stellar blue-chip companies are paying dividends that exceed their borrowing costs. For example, Johnson & Johnson common shares yield 3.7%. It recently borrowed money for 10 years at 2.95% (only 24 basis points above Treasurys). Which would you rather own: J&J debt yielding 2.95% or J&J stock yielding 3.7% plus highly likely capital gains? We'd choose the stock.
In addition to the higher yield and upside potential, blue chips are sitting on loads of cash (nonfinancial S&P 500 companies hold a combined $837 billion)... And the cash hoards are only getting bigger with the recent debt issuances.
Why would you want to own a stock sitting on a huge pile of cash? The primary reason is it helps you avoid financial risk. If a company is loaded with cash, it has a lot more financial flexibility than if it's cash poor. With smaller companies, many sit on boatloads of cash because it's cheaper than borrowing money. A typical cyclical business might find itself short of cash right at the precise moment when it will want to deploy some. As a small company, borrowing costs at such a moment could easily be quite high. A way around this is to retain a pile of cash that earns a little interest... cash for a rainy day.
But big companies like Intel, Microsoft, Apple, Cisco... they're different. They can borrow as much as they want at the lowest rates available. They don't need to hoard cash. They hold cash because they generate so much of it. They literally can't deploy it fast enough. They should all acknowledge their shortcomings at cash deployment and either pay regular dividends or make a habit of repurchasing shares any time they're cheap enough.
Though the drag of idle cash appears to depress valuations, a large cash hoard effectively puts a bid under a company... If a company can afford to take itself private, it sets a price floor. Most cash spent on acquisitions is wasted, as we've pointed out numerous times.
Aside from share repurchases and regular dividends, companies can also deploy cash by paying out large one-time, "special" dividends. That's an option you can probably bet on between now and December 31. Komrade Obama's regime plans to increase the top federal income-tax rate on dividends from 15% to 39.6% by next year. Shareholders who depend on dividends for income (which includes company management) will have much less to live on. A flurry of special dividends would get a substantial amount of cash into shareholder hands before the tax hike. It would also get cash out of corporations and into owners' hands. Since owners are largely terrified of the stock market right now, they'd much rather have cash than stock.
Special dividends are just large, one-time payouts. Companies normally issue special dividends for three reasons: 1) They don't have a better use for the cash. 2) They're trying to fend off a takeover by loading up on debt so they appear less attractive and distributing cash to shareholders to keep them interested. 3) In a merger, sometimes the acquiring company's shareholders are offered a special dividend to mitigate the risk and make the deal more attractive.
Reasons to expect special dividends are everywhere (not including the proposed dividend-tax hike). Corporations are bloated with cash they can't or won't deploy. They're either too scared to spend it or can't think of anything to do with it. Also, takeover activity is on the rise. Keep an eye on World Dominators like Microsoft. It's way too big to be a takeover target, but it could pay out $3 a share in cash (about 12% of the current share price) and still have more than $10 billion left over.
Add SocGen's Albert Edwards to the growing list of investors and analysts predicting a market crash. Edwards says the current environment reminds him of mid-2007, when the economy was tanking and the market refused to acknowledge it. He says investors now "refuse to accept they are now locked in a Vulcan death grip and are about to fall unconscious." Edwards' target for the S&P 500 is – are you ready for this? – 450, approximately 59% below today's level.
Not all the news and views are bearish. BlackRock European Dynamic Fund manager Alister Hibbert says the cult of equity is dead, and that stocks of companies with great franchises are selling at great valuations (hmmm... sounds familiar). Hibbert says the original definition of the cult of equity was when stock dividend yields moved below bond yields.
Today, stock dividend yields are well above 10-year Treasurys. Ergo, the cult of equity is dead. Investors have fallen out of love with stocks, because they've performed poorly for 10 years, though corporate earnings have soared over the same period. So the market as a whole is worth more, though it's selling at a lower valuation than it did 10 years ago (of course, 10 years ago was the top of the biggest equity bubble ever).
I'm somewhere in between. I view the overall market as overvalued, but I'm finding plenty of good deals lately, World Dominating franchises and small natural resources firms trading at discounts to reasonably ascertainable net asset value. I just recommended one of the latter. The stock holds a unique combination of the upside of a natural resources microcap with the safety of secured lending contracts. It's a unique situation. If you want to get access to Extreme Value and take a look at what I've found, click here.
New highs: Quest Capital (QCC), Anheuser-Busch InBev (BUD), DirecTV (DTV), iShares Silver Trust (SLV), McDonald's (MCD), Altria (MO), WR Berkley (WRB-PA).
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Ferris comment: Matt is doing a fantastic job of taking full advantage of the bull market in small mining stocks. Everyone can get in on the action by clicking here.
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Ferris comment: I sure hope he'll reconsider. If someone made me a million dollars, they'd have my attention for a while. While we're on the subject, if you think you can help me make me a million, by all means, drop me a line...
Regards,
Dan Ferris and Sean Goldsmith
Medford, Oregon and Baltimore, Maryland
September 9, 2010