Risk Tolerance Questionnaire

Take a piece of paper and write down the letter that best describes you for each question. Remember that risk tolerance is largely subjective, so there is no right or wrong answer.

Life Stage

  1. What is your current age? 
    a) 65 or older.
    b) 60 to 64.
    c) 55 to 59.
    d) 50 to 54.
    e) Under 50.
  2. When do you expect to need to withdraw cash from your investment portfolio? 
    a) In less than 1 year.
    b) Within 1 to 2 years.
    c) Within 2 to 5 years.
    d) Within 5 to 10 years.
    e)Not for at least 10 years


Financial Resources

  1. How many months of current living expenses could you cover with your present savings and liquid, short-term investments, before you would have to draw on your investment portfolio? 
    a) Less than 3 months.
    b) 3 to 6 months.
    c) 6 to 12 months.
    d) More than 12 months.
  2. Over the next few years, what do you expect will happen to your income? 
    a) It will probably decrease substantially.
    b) It will probably decrease slightly.
    c) It will probably stay the same.
    d) It will probably increase slightly.
    e) It will probably increase substantially.
  3. What percentage of your gross annual income have you been able to save in recent years? 
    a) None.
    b) 1 to 5%.
    c) 5 to 10%
    d) 10 to 15%
    e) more than 15%
  4. Over the next few years, what do you expect will happen to your rate of savings? 
    a) It will probably decrease substantially.
    b) It will probably decrease slightly.
    c) It will probably stay the same.
    d) It will probably increase slightly.
    e) It will probably increase substantially.


Emotional Risk Tolerance

  1. What are your return expectations for your portfolio? 
    a) I don’t care if my portfolio keeps pace with inflation; I just want to preserve my capital.
    b) My return should keep pace with inflation, with minimum volatility.
    c) My return should be slightly more than inflation, with only moderate volatility.
    d) My return should significantly exceed inflation, even if this could mean significant volatility.
  2. How would you characterize your personality? 
    a) I’m a pessimist. I always expect the worst.
    b) I’m anxious. No matter what you say, I’ll worry.
    c) I’m cautious but open to new ideas. Convince me.
    d) I’m objective. Show me the pros and cons and I can make a decision and live with it.
    e) I’m optimistic. Things always work out in the end.
  3. When monitoring your investments over time, what do you think you will tend to focus on? 
    a) Individual investments that are doing poorly.
    b) Individual investments that are doing very well.
    c) The recent results of my overall portfolio.
    d) The long term performance of my overall portfolio.
  4. Suppose you had $10,000 to invest and the choice of 5 different portfolios with a range of possible outcomes after a single year. Which of the following portfolios would you feel most comfortable investing in? 
    a) Portfolio A, which could have a balance ranging from $9,900 to $10,300 at the end of the year.
    b) Portfolio B, which could have a balance ranging from $9,800 to $10,600 at the end of the year.
    c) Portfolio C, which could have a balance ranging from $9,600 to $11,000 at the end of the year.
    d) Portfolio D, which could have a balance ranging from $9,200 to $12,200 at the end of the year.
    e) Portfolio E, which could have a balance ranging from $8,400 to $14,000 at the end of the year.
  5. If the value of your investment portfolio dropped by 20% in one year, what would you do? 
    a) Fire my investment advisor.
    b) Move my money to more conservative investments immediately to reduce the potential for future losses.
    c) Monitor the situation, and if it looks like things could continue to deteriorate, move some of my money to more conservative investments.
    d) Consult with my investment advisor to ensure that my asset allocation is correct, and then ride it out.
    e) Consider investing more because prices are so low.
  6. Which of the following risks or events do you fear most? 
    a) A loss of principal over any period of 1 year or less.
    b) A rate of inflation that exceeds my rate of return over the long term, because it will erode the purchasing power of my money.
    c) Portfolio performance that is insufficient to meet my goals.
    d) Portfolio performance that is consistently less than industry benchmarks.
    e) A missed investment opportunity that could have yielded higher returns over the long term, even though it entailed higher risk.

Scoring

Give the following points for each answer: a = 1, b = 2, c = 3, d = 4, e = 5

Interpretation of Results

If your Life Stage Score is: If your Life Stage Score is: Then your Investment Time Horizon is:
1 to 3 Short-term (5 years or less)
4 to 6 Intermediate-term (5 to 10 years)
7 to 10 Long-term (over 10 years)
If your Investment Style Score is: Then Your Investment Style is:
5 to 10 Very conservative
11 to 20 Moderately conservative
21 to 30 Moderate
31 to 40 Moderately Aggressive
41 to 50 Very aggressive

 

The Amazon effect could still benefit the following companies

The “Amazon effect” is the ongoing evolution and disruption of the retail market, resulting in increased e-commerce. The major manifestation of the Amazon effect is the ongoing consumer shift to shopping online.

You don’t have to be a financial analyst to realize that card credit usage has gone up. Most brick and mortar retail establishments allow the consumer the choice of paying with cash, debit or credit card. Almost 90 % of all purchases that happen on line are with credit cards. Credit card companies are a popular choice because they will reverse any fraudulent purchases plus some offer extended warranties and all of them have reward programs.

The three most popular credit card cards world-wide are Visa (V), MasterCard (MC) and American Express (AXP). The chart below compares all three to Amazon over a five year period. It appears that investors think that Visa will benefit the most from the “Amazon effect”.

Keep in mind that Amazon has a rewards Visa card which earns users a rebate on all their purchases. Cardholders get 3% back for purchases made at Amazon.com, 2% cash back at gas stations, restaurants and drugstores, and 1% back on all other purchases which earns users a rebate on all their purchases.

Despite news that Amazon is buying trucks and planes to better service their prime customers, delivery companies FedEx and UPS will still benefit from the “Amazon Effect.” The chart below compares these two companies to Amazon over a five year period. FedEx is by far the clear winner for investors.

While there is a glut of malls in America, there aren’t nearly enough warehouses across the U.S. to support internet retailers like Amazon. Retail sales are not in decline, but rather shifting toward e-commerce so all retailers will require large amounts of warehouse space.”

When retailers reconfigure their supply chain to accommodate the shift in consumer behavior, the requirement for warehousing space will increase substantially. This is true incremental demand and not a displacement of existing demand for warehouse square footage. Companies like Wal-Mart, Alibaba and Wayfair will also have to invest in new warehouses to try to compete with Amazon over the next few years.

Industrial REITs such as Rexford Industrial (REXR), Terreno (TRNO) and Stag Industrial (STAG) are at the top of most buy lists. Other industrial REITs that you should consider include First Industrial (FR) and Monmouth (MNR). 

Amazon’s deal for Whole Foods will likely spur a “last mile” investment by the internet giant and its competitors, Jefferies’ Petersen has predicted. “Last mile” is a reference to the warehouse that is closest to a store, a crucial point of the distribution chain that makes same-day delivery possible.

“By analyzing all of Amazon’s ‘last mile’ facilities by size and population demographics against the Industrial REIT portfolios, we found that REXR and TRNO are best positioned to serve the ‘last mile,'” Petersen said.

Then, Amazon investing in so-called secondary and tertiary markets will benefit a REIT like STAG, he added.

One of the biggest risks in owning REITs is rising interest rates. Higher borrowing costs can reduce cash flow and effect their ability to pay dividends. It also makes the financing of new projects less profitable.

A lot of the “Amazon effect” is already priced in to all of these stocks but the long term upward trend is still there.

Amazon takes a bite out of Costco & Home Depot shares, time to buy?

Both Costco and Home Depot have been regarded by money managers as “Amazon proof” until recently. Historically, these two retailing stocks have traded at very high valuations compared to other retailers.

Last month, news that Amazon was buying Whole Foods sent grocery stocks reeling. Costco, along with Kroger, Supervalu, Target and Walmart all tumbled in value. Even some European grocers like Sainsbury and Tesco sank on the announcement of the takeover deal.

Last week, Amazon said it would sell Sear’s Kenmore brand appliances. Shares of Home Depot, along with Lowe’s, Best Buy and Whirlpool were slammed. The loss of value for these stocks was about $12.5 billion. Keep in mind, with the Sears deal, Amazon will now be selling a product line that is not available at Home Depot or Lowe’s stores.

“Analysts at Robert W. Baird said the selloff in Home Depot and Lowe’s was an overreaction. The nearly $7.5 billion market cap loss in Home Depot stock equals slightly more than the amount of its annual appliance sales. Lowe’s stock loss was a little more than 50 percent of its $7 billion in annual appliance sales.”

Buying premium value stocks like Costco and Home Depot when they fall is very difficult. Sometimes looking at their charts can indicate when the bleeding has stop and all the panicky investors have sold their shares.

Looking at the one year chart of Costco, you can see that buyers are coming in near the $150 price range. The 52 week low for Costco is around $142 so the downside risk is relatively small. This could be a buying opportunity if you believe that the Amazon threat has been blown out of portion.

Looking at the one year chart of Home Depot, there seems to be investor support at the $145 level but the stock could fall to the next support level which is around $135 per share. It could be too early to buy because it has only been a week since the Amazon / Sears news announcement. You could take a part position now and average down if the shares continue to fall or you could wait another couple of weeks to see if the $145 level holds.

What do you think? Are Costco and Home Depot still Amazon proof?

 

 

 

 

Share buyback binge is going strong, investors beware!

Is there anything wrong with this? Yes, it means that companies are spending more money on “financial engineering” than on capital spending. It certainly does indicate that companies are at a loss on how to improve their top line, which is what will ultimately improve the bottom line. It leads to frequent complaints by analysts about the “quality” of earnings.

It’s a very important point. Apple is part of an elite group I call “buyback monsters,” companies that have been aggressively buying back stock for years. Apple’s shares outstanding topped out in 2013 at roughly 6.6 billion shares. Since then it has been down every year and now stands at 5.2 billion.

That is a reduction of 21 percent in shares outstanding since 2013. What’s that mean? It means all other things being equal, the company’s earnings per share are 21 percent higher than they would have been had it not done the buybacks.

But that’s only since 2013 … there are companies that have been doing this much longer. IBM shares outstanding topped out at 2.3 billion way back in 1995, it’s been going down almost every year since then, and now stands at 939 million shares. Think about that. That’s a 60 percent reduction in shares outstanding in a little more than 20 years.

Same with Exxon Mobil, after the Mobil acquisition in 1999, shares outstanding topped out at just shy of 7 billion in 2000 and have been going almost steadily downhill since. There’s now 4.2 billion shares outstanding, a reduction of 40 percent since 2000.

Here are just a few more buyback monsters:

  • Northrup Grumman: 50 percent since 2003
  • Gap: 55 percent since 2005
  • Bed Bath & Beyond: 50 percent since 2005
  • McDonald’s: 36 percent since 2000
  • Microsoft: 30 percent since 2004
  • Intel: 30 percent since 2001
  • Cisco: 32 percent since 2001

Why are there buybacks at all? They were originally used to support the issuance of stock options. The options increased the share count outstanding, so to keep the countdown the company bought back shares. But as the opportunity for significant top-line growth waned, buybacks to reduce share counts became a separate strategy to prop up earnings growth.

What is my beef with buybacks? Part of management’s compensation packages include stock options. Buying back company shares ensures that their stock options don’t expire worthless.  It not only fools investors that the earnings are growing but it rewards poor management.

Take IBM for example, despite being one of the most aggressive buyback monsters on the Street, you can’t say IBM’s stock price has soared in the last decade. In 2014, the company eased off a bit on its buybacks, and the stock headed south. It headed south because IBM was beset by fundamental growth issues: Its revenues from its old line businesses were shrinking and there was not revenue from emerging  businesses (like Watson and artificial intelligence) replacing it.

The lesson: No amount of financial engineering like buying back shares can replace management’s inability to grow the business.

 

 

Three key tips for option traders

Most new option traders start by selling covered calls. It is an income producing strategy where you sell a call option on a stock that you own to collect the option premium. However, the premium comes with an obligation, if the call option you sold is exercised by the buyer, you may be obligated to sell your shares of the underlying stock.

1.  Consider the ex-dividend date

A common mistake to avoid is selling a covered call near the ex-dividend date of a stock that you own. Sometimes investors will come in to buy a stock a few days before the dividend date causing the stock value to briefly go up. This could make it very profitable for the buyer of the call option to force you to sell and collect the dividend payment. Not only do you lose the dividend but your broker’s fee to sell your shares will be much higher than normal.

For example; Royal Dutch Shell (RDS.b) has an ex–dividend of May 17th and pays $0.94 per share every quarter. So if you sold a May 19th call option, your shares could be called away early if the call option is in the money.

2.  Open interest or liquidity

Sometimes there is a wide spread between the bid and ask price of an option based on trading volume or the amount of open interest. The open interest will tell you the total number of option contracts that haven’t been exercised or assigned. Many options on Canadian stocks are illiquid and the bid-ask spread can be really extensive.

For example; Shopify (shop) trades on the Canadian exchange at $128. 14 and $93.58 on the U.S. stock exchange. If you wanted to sell a cash secured put option June 125 strike price the bid is $4.50 and ask is $5.75 but the open interest is zero contracts. However, the June 90 put option on the U.S. exchange has an open interest of 873 contracts and the bid is $3.10 and ask is 3.30 making it much easier to trade.

3. Implied volatility can increase when earnings are released

Implied volatility represents the expected price action of the stock over the life of the option. As expectations change, or as the demand for the option increases, implied volatility will also rise. Earnings expectations can influence the option premiums that expire when companies release their earnings.

For example; Ulta Beauty (ulta) is currently trading around $297.55 and is reporting their earnings on May 25th. See the weekly at the money call and put options below:

Calls Bid Ask Open Interest
May 19 $297.50 $2.45 $2.85 141
May 26 $297.50 $8.90 $10.60 87
June 2  $297.50 $10.30 $11.80 0
June 9  $297.50 $10.80 $12.30 2

 

Puts Bid Ask Open Interest
May 19 $297.50 $2.45 $2.80 99
May 26 $297.50 $8.90 $10.50 13
June 2  $297.50 $10.40 $11.90 1
June 9  $297.50 $10.70 $12.00 0

Without the change in implied volatility  the May 26 calls and puts options bid-ask price would have been in the $4.90 to $5.60 range but earnings expectations have increased the value of these options. Take note of the wider bid-ask spread on the June 9 and 16 call and put options which have little or no open interest contracts.

Before you buy or sell options you should always check for the ex-dividend date and earnings release date. Keep a close eye on the number of open interest contracts, a large bid-ask spread could turn a profitable trade into a loser.

 

Disclaimer: The stocks mentioned in this post are for educational proposes only and not recommendations.

Baby Buffett loses 4 Billion on Valeant shares

Hedge fund manager Bill Ackman first came to my attention when he invested in Canadian Pacific railroad. As an activist investor, Ackman started a lengthy proxy battle with the board of directors to remove Fred Green as CEO and appoint Hunter Harrison in his place. Not only was Ackman successful but it was very profitable for his hedge fund since the value of CP shares more than doubled under Harrison’s leadership.

In early 2015, Bill Ackman invested in Valeant, another Canadian company. His hedge fund purchase shares around $196 and recently sold all of them at $11 a share. He accelerated his losses by buying call options and selling put options.

Hindsight is of course 20-20, are there any investment lessons that we can use?

 Lesson: Intelligent people are capable of doing very dumb things.

Bill Ackman is clearly a smart man otherwise his Pershing Square hedge fund wouldn’t manage pension fund money. But if you asked the average investment professional /your grandmother whether it is a good idea to stick over a quarter of your assets into a highly levered pharma roll up the answer would tend to be a firm “no”.

Lesson: Position sizing is very, very important.

Always be aware of your risk of ruin, no matter how much you are convinced the odds are in your favor. Regardless of how amazingly smart and brilliant you are and how many hundreds of hours of research you have done, it is perfectly possible that you will lose money on any given investment. Pershing Square had too large a position to simply sell its stake and walk away when things started to go wrong.

Lesson: Highly incentivized management teams can still blow themselves up, and take you down with them.

Part of the original appeal of Valeant to the hedge funds that backed it was how the CEO’s stock options had been structured to make him highly incentivized to get the share price as high as possible. Having management teams with “skin in the game” is clearly important but this does not mean they will not do something very stupid.

Lesson: Auctions are not usually very good places to find bargains.

Ackman admits that he now believes Valeant “substantially overpaid” for Salix, its last big acquisition before things fell apart. A big problem with a role up strategy is paying high prices for third rate assets that no one else in the world is willing to buy.

Lesson: Beware of political risk.

Valeant used aggressive drug pricing to help pay for their acquisitions which got the attention of American lawmakers. Bill Ackman had to testify at a hearing held by the U.S. Senate aging committee which was reviewing escalating drug prices. It also became a big issue during the U.S. 2016 presidential election.

Lesson: Take a loss, don’t let your Ego get in your way.

There is no doubt that billionaires tend to have large egos. Being labeled “Baby Buffett” on the cover of Forbes is quite the ego booster. But there is an old saying, “the bigger they are, the harder they fall”. Ackman’s buying call options and selling put options on a losing position is a clear sign that his ego wouldn’t accept taking a loss on Valeant shares.

Postscript: The share price of CSX railroad jumped up 35% on rumors that Hunter Harrison would be the new CEO. Harrison got the job but can he deliver another turnaround? It may be too early to tell. However, I bought some shares of CSX for my investment club.