interest rates

If I Had a Million Dollars…

photo shows a road through a wooded area with "RETIREMENT" painted in yellow on the pavement

It’s a premise we’ve heard in songs and any number of written works. “If I had a million dollars…” It’s a great prompt—sometimes serious, sometimes humorous. I’ve decided to take a crack at my own entry into the million-dollar discussion!

I had the privilege recently of meeting a young person who shared their goal of retiring at age 30. I was struck by the ambition, shared by many in the FIRE movement: its mantra is “Financial Independence, Retire Early.” So here I am thinking about a million dollars. What I have to say is all about the numbers. Money and numbers are how we fund the life in which we act out our values, plans, and dreams.

Wondering what it takes to retire early? It’s not a universal formula, but we can take the idea of accumulating a million dollars of invested capital as a decent proxy. In this scenario, one has to be able to imagine someday living on, say, a $50,000 a year. But it also requires a willingness to endure the ups and downs of ownership. They are just part of any long ride in the markets. (And keep in mind it would take a far bigger number to retire on today’s low interest rates on stable forms of money!)

Two factors really affect the path to retirement. One is how we spend and earn along the way; the other is inflation.

First, because financial independence is all about our resources exceeding our needs—income exceeding outflow—reducing your needs is one way to get there sooner. The other side of the coin is finding ways to maximize your human capital in these working years, getting paid more for your labor. So the first best investment might be in yourself to improve your earning power. Fewer expenses, more income—more money to invest for retirement.

Second, inflation will affect how the path to retirement unfolds. Inflation risk is the extent to which our money loses purchasing power over time, so we have to take that into account as we plan for our future spending in retirement.

So let’s get back to the numbers. How much money would we need to invest each year in order to have $50,000 (in today’s dollars) as annual income in the future?

Let’s assume 3% inflation and 9% investment returns—neither of which is guaranteed—and 5% annual withdrawals in retirement. Starting from zero, we could be…

  • retiring in 7 years by investing $129,782 annually ($10,815 monthly)
  • retiring in 15 years by investing $51,529 annually ($4,294 monthly)
  • retiring in 25 years by investing $23,999 annually ($2,000 monthly)
  • retiring in 35 years by investing $14,349 annually ($1,196 monthly)
  • retiring In 45 years by investing $6,982 annually ($582 monthly)

These numbers are just one way to slice it. If you could live in retirement on $25,000 of today’s dollars a year, for example, take those amounts above and cut them in half. If you would want $100,000 a year, then double the figures.

We don’t know the future, and these calculations are not the future. But it’s a place to start toward a plan.

Clients, if you want to sort out your situation—or help a younger person get started—email us or call.


Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.

All investing involves risk including loss of principal. No strategy assures success or protects against loss.


Want content like this in your inbox each week? Leave your email here.

Play the audio version of this post below:

This text is available at https://www.228Main.com/.

Portfolio Themes: Spring 2022 Updates

graphic shows blooming white flowers and text reading "portfolio themes: spring 2022 updates"

In our portfolio management, we try to pick and choose our spots. We’re investing for the long term, after all. We are not indexers; we invest in individual companies for their unique characteristics and the potential behind their story. We avoid knee-jerk reactions to any day-to-day news.  

Sometimes, though, the daily news covers an issue that’s big enough to linger. Much of the news cycle lately has been dedicated to the war in Ukraine. The implications for the global economy are profound and have a direct impact on our work. 

The war may be accelerating trends that were already there, but now they are more pressing. 

OIL, ENERGY, FOOD, & BEYOND 

Maybe you’ve noticed at the gas station, but one of the big impacts is the price of oil. In the short term, we foresee great profits for oil companies, but skyrocketing oil prices and energy uncertainty have also renewed interest in the next energy revolution. Solar power and electric vehicles have been on their way for a long time, but the world needs them more urgently than ever before. 

These issues are interconnected with trends in agriculture. Ukraine and Russia are not only both food producers: they’re even bigger producers of fertilizers, supplies, and equipment. Agricultural commodities were already on the rise before war broke out, so food producers around the world were already investing heavily in new planting. The journey ahead will be interesting for even “boring” food production and distribution companies, but greater profits may be rapidly approaching. 

THE IMPACT OF INTEREST RATES 

Those rising prices have energized more interest in durable commodities such as copper and gold, which we’ve been following in our shop for a long time

But the double whammy of rising interest rates and rising materials costs has a cooling effect on the housing industry, which we have been easing out of by steps. The shortage in the nation’s housing supply persists—and probably will for a spell. For now, homebuilders are a longer-term, lower-priority investment for us. 

WHAT THE PANDEMIC MEANS FOR TECH 

In times of strife, investors tend to seek comfort and safety, so more volatile sectors such as technology are starting to come back down to earth. We believe this may create buying opportunities in software and internet companies, which are less vulnerable to high interest rates and commodity prices. (They are often light on debt and low on material costs.) 

Even as COVID-19 continues across the globe, some areas of life have become more manageable. The air is clearing a little for airlines and travel stocks, although we are more interested in another area of potential: biotech and pharmaceutical companies. While pharmacy stocks may be easing as the pandemic rally subsides, we are looking forward to new breakthroughs in the years ahead. The advances made in the pandemic, we believe, will prove to offer even more applications elsewhere in the future. 

TAKING STOCK 

The world is a complex place. As always, our thinking evolves on a weekly basis through our research process. Our vision, however, stays trained on these longer-term trends—and what they mean for our longer-term plans and planning. 

Clients, want to know what this means for your portfolio? Please email us or call. 


Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.  

Stock investing includes risks, including fluctuating prices and loss of principal. 

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. 


Want content like this in your inbox each week? Leave your email here.

Play the audio version of this post below:

This text is available at https://www.228Main.com/.

Time Machines and Time Capsules

Both could serve their purpose, but which sounds more useful, more versatile: a time capsule or a time machine? Well, the two might have something to teach us about our investment vehicles. More on the blog.


Want content like this in your inbox each week? Leave your email here.

The High Cost of Low Interest

© Can Stock Photo / AndreyPopov

Savers might remember the 1990’s with great fondness. For most of the decade, money earned 4 to 6% in bank certificates and other safe and liquid forms. Even in the first decade of this millenium, at times there were interest rates above zero on deposits.

After the financial crisis that began in 2008, interest rates plunged. The Federal Reserve adopted a Zero Interest Rate Policy (ZIRP) in an attempt to spur economic activity. Some foreign central banks even went to NIRP, a negative interest rate policy. For most of the time since then, short term rates in the US have been close to zero. (Federal Reserve Bank St Louis)

After a tentative, brief return to rates above zero, the economic disruption caused by the coronavirus has slammed rates back to near nothing. Rates may stay lower for longer. Savers and investors are affected.

• The difference beween 5% and zero on $100,000 in the bank is about $400 in monthly income. Savers used to enjoy cash income on their balances, income that could make a difference.
• In order to get income returns on money, people face volatility in market values or greater risk of loss or reduced access to funds.
• The competition for income-producing investments creates market distortions, which may increase risk.
• Artificial stimulus for goods or services could result in lower growth later, when monetary conditions return to normal.

Against those challenges, low interest rates appear to benefit one group of people: borrowers. Many people have been able to refinance home mortgages to rates lower than they might have imagined years ago. But even this silver lining has a cloud around it: low mortgage rates may have increased home prices.

Bottom line, as with all of the challenges in life, the key is to make the most of it. We work to understand alternatives and strive to sort out how to balance the needs for income, and growth, and preservation of purchasing power. Finding the opportunity in the challenge is our goal.

Clients, if you would like to talk about this or anything else, please email us or call.

Sign of the Times: Century Bonds

© Can Stock Photo / webking

A curious example of messed-up interest rate markets has emerged recently. Certain countries and companies have successfully issued bonds at fixed rates of interest for ultra-long terms. Fifty or one hundred years is a long time.

To put these in perspective, it might be helpful to go back to the 1950’s. The largest insurance company in the world, Prudential, invested in a bond issued by General Motors. It was $100 million dollars in a century bond – maturing one hundred years after issue – for 4% interest. A couple of lessons about risk might be learned from this story.

Interest rate risk is a thing that affects bonds. When rates rise, the value of existing bonds declines. What is a 4% bond worth in a 15% world? By the early 1980’s, with seventy years remaining on this GM bond, the answer would have been less than 30 cents on the dollar.

But if a long term bond is held to maturity and pays the principle back as promised, the potential market value loss from higher interest rates is avoided, right? Sure. But that is not what happened.

The second lesson about risk came into play in 2009, when General Motors filed for bankruptcy. Creditors received less than 20 cents on the dollar in the liquidation of GM. So this supposed century-long investment came to a bad end, more than forty years early. When you lend money to somebody that turns out to be a deadbeat, you learn about credit risk.

These lessons of history are pertinent now, as Austria joins Italy and Mexico as issuers of century bonds. The most recent Austrian issue yields just 1.2%. Do you wonder how this could possibly work out?

We have characterized the movement into fixed income securities in recent years as a stampede before. Irrational pricing and large volumes of issuance are the hallmarks of a stampede, in our view. This is our opinion – it may be wrong. We have no guarantees.

As we watch the current revival of century bonds unfold, we’ll be thinking about the history of these instruments, and scratching our heads. Clients, if you would like to talk about this or anything else, please email us or call.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

 

Too Close to the Sun

© Can Stock Photo / Paha_L

In Greek mythology, Daedalus constructs wings of feathers and wax so he and his son Icarus may escape from the island of Crete. Although warned against flying too close to the sun, Icarus becomes giddy with the sensation of flight. His wings melt when he gets too close to the sun, and he crashes into the sea and drowns.

This tale of hubris is perhaps mimicked in our time by central bankers around the world. Central banks including our Federal Reserve Bank are charged with conducting monetary policy to achieve stability of prices and favorable economic results. The stresses of the last global recession induced some of these authorities to adopt unprecedented policies.

Among these ideas, the most unusual might be negative interest rates. If we think of the rate of interest as a price – the price of money – then the concept of negative rates seems insane. If bananas had negative prices, producers would have to pay you to take them.

There are practical problems, too, for savers and investors. Imagine having $100,000 in the bank today. After a year of -1% interest, you would have, say, $99,000. “Money in the bank” would no longer be like money in the bank.

Why would central bankers consider such a policy? Like Icarus with his wings, they seem intoxicated by their apparent power to manipulate the economy. Negative interest rates would be a strong incentive to reduce savings and increase spending. This could theoretically boost the economy.

The unintended consequences of their actions could create real problems. Average folks trying to save for the future were severely disadvantaged by the zero interest policy of the last decade. Negative rates would make that even worse.
The Federal Reserve has not yet gone below zero. But a research paper published by a Fed official earlier this year concluded that “negative interest rates might be a useful tool…”1

Clients, our concern over this trend in Fed thinking bolsters our conviction about the investments we hold that would potentially benefit from the unintended consequences. No guarantees: we wish central bankers would simply avoid flying too close to the sun, so to speak.

Clients, if you would like to talk about this or anything else, please email us or call.

Notes & References

1. “How Much Could Negative Rates Have Helped the Recovery?”, Federal Reserve Bank of San Francisco. https://www.frbsf.org/economic-research/publications/economic-letter/2019/february/how-much-could-negative-rates-have-helped-recovery/. Accessed June 25th, 2019.


Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

Four Trends for Fall, 2018

© Can Stock Photo / Elenathewise

The gap between consensus expectations and reality as it unfolds is where we think profit potential lives. This is why we put so much effort into studying trends, and the ramifications for investors.

One year ago, we wrote about four trends. The next energy revolution (solar + batteries), long range prospects for the world’s most populous democracy, the airline industry, and rising interest rates continue to play roles in our thoughts and portfolios.

Other ideas are also in play.

1. Thinking about the next few years, our highest conviction idea is inflation will exceed consensus expectations. Some of the ways we act on this belief may provide some counterweight to other portfolio holdings, since inflation hurts some industries while it helps others.

2. As the economic expansion lengthens toward record territory, the desire to extend our lifespan tends to be insensitive to the business cycle. Biopharmaceutical companies, working on cures for everything from Alzheimers to various forms of cancer, seem attractively priced.

3. The trend toward rising interest rates, noted last year, may have an effect on weaker and more leveraged companies. We are looking to avoid the second-order and third-order effects that higher rates may have on some borrowers.

4. US stocks have become popular relative to international equities, with dramatic outperformance over the past decade. At some point the trend changes, and better value usually wins out.

One of the difficult things about being contrarian–going against the crowd–is that we sometimes look silly. When everybody else is having more success in the short run while we search for bargains, it can be tough. But that is what we do. We’re excited about the continuing evolution of your holdings as the future unfolds.

We can offer no guarantees except that we will continue to put our best effort into the endeavor. Clients, if you have any questions or comments or insights to add, please email us or call.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

 

The Inflation Powder Keg

canstockphoto410676.jpg

A few weeks ago, the Federal Reserve issued a policy statement greenlighting more interest rate hikes despite fears of inflation.1 For years the Fed has struggled to keep inflation up to its target rate of 2%, and now that it is there, it looks likely to us that the Fed may overshoot the target entirely.

Interest rates and inflation tend to go hand in hand. When interest rates are high, borrowers can earn more money to spend, creating upward price pressures. When inflation is high, lenders try to raise rates to keep ahead of inflation. As rates continue to rise, you can often expect inflation to do the same.

Worse, there are other pressures looming on the horizon that we think may contribute even more to inflation. A strong economic cycle and robust jobs market may often bring higher inflation. As unemployment drops, workers become harder to find. Many companies might have to offer higher wages to get the employees they need, forcing them to raise prices—at the same time that workers have more money to spend from higher wages. Rising prices and rising wages equals inflation.

We also expect more price pressure to arrive from overseas. The trade war that the current administration seems bent on fighting shows no signs of cooling off. When you raise taxes on a product, such as a tariff on imports, inevitably the price may go up to pay for the taxes.

Tariffs create knock-on effects, as well. Many products manufactured inside the U.S. use materials imported from overseas that are subject to tariffs, so domestic products may also face rising prices. And domestic companies that are fortunate enough to dodge the tariffs entirely may still raise their prices opportunistically: with the prices of other goods rising, they have an opportunity to increase prices and profits without hurting themselves as much competitively.

Once again, where you have rising prices, you have inflation. Put it all together and the economy may be sitting on a powder keg of explosive inflation pressure. We do not know when or if the powder may exploded, but we cannot afford to ignore it.

We have gotten so used to low inflation rates in the past decade that it is easy to pretend they will last forever. Sooner or later, we expect some investors to be burned by this mindset. We want to do what we can to avoid being among them. Clients, if you have any concerns about how inflation may affect your portfolio or investment strategy please call us.

Notes and References

1:Press Release, Board of Governors of the Federal Reserve: https://www.federalreserve.gov/newsevents/pressreleases/monetary20180613a.htm. Accessed June 28, 2018.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

 

Will Rising Rates Derail the Economy?

© Can Stock Photo / focalpoint

At 228Main.com, we are voracious readers and consumers of information. Nothing happens in a vacuum. We therefore pay attention to the economy, the markets, and our holdings, as well as look for potential opportunities to invest. Recently it was time to sort out what it all might mean.

Rising interest rates, long expected here, have caught our attention. Home mortgage rates are at a seven year high1, and other consumer borrowing rates have increased as well. If we spend more on interest payments, we have less to spend on other goods and services.

We investigated, and learned that total household debt payments actually remain near the lowest point in many decades, although they are rising. But the total debt balances are at record highs, above the level reached before the 2008 credit crisis. What gives?

The answer is in the interest rates. Higher debt levels financed at lower rates have reduced our payments as a percent of income. If loan interest rates continue to rise, however, we will probably see more household income go to payments on debt.

There is another piece of income that doesn’t get spent: our savings rate. When we feel confident about the future and our 401(k)’s and other investments are growing, we tend to save less. When the outlook darkens, we tend to save more.

Our savings rate declined from 6% of disposable income at the end of the last recession to the 3% neighborhood now. Historically, it has been slightly lower at times—but we are probably close to the bottom.

The amount we spend is what is left after debt payments and savings—and one more thing: taxes. Taxes, like the other factors, seem to be at relatively low levels now—not likely to go lower. The 2017 tax reform cut levels sharply.

We believe it is likely that record amounts of debt face rising rates in the years ahead; our savings rate will rise sooner or later; and there is no more room to cut taxes. The net effect of these three things seems likely to eventually reduce consumer spending, which is an important driver of the overall economy.

We do not think we are on the verge of recession. Other indicators point to continued growth. But we are in the middle or later stages of the growth cycle—not the beginning. We are looking at opportunities that fit the times, as always.

Clients, if you would like to discuss this or anything else, please email us or call.

1All data from https://fred.stlouisfed.org/. Federal Reserve Economic Data, Federal Reserve Bank of St. Louis. Accessed May 22nd, 2018


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.