|By Fisher Investments Research Staff, 11/26/2013|
With interest rates on everything from savings accounts to junk bonds at or near generational lows, many income-seeking investors are looking for creative or, to some, exotic means of generating cash flow. Some are turning to a relatively little-known type of security—master limited partnerships (MLPs). MLPs may attract investors for a number of reasons: their high dividend yields and tax incentives, to name a couple. But, like all investments, MLPs have pros and cons, which are crucial to understand if you’re considering investing in them.
MLPs were created in the 1980s by a Congress hoping to generate more interest in energy infrastructure investment. The aim was to create a security with limited partnership-like tax benefits, but publicly traded—bringing more liquidity and fewer restrictions and thus, ideally, more investors. Currently, only select types of companies are allowed to form MLPs—primarily in energy transportation (e.g., oil pipelines and similar energy infrastructure).
To mitigate their tax liability, MLPs distribute 90% of their profits to their investors—or unit holders—through periodic income distributions, much like dividend payments. And, because there is no initial loss of capital to taxes, MLPs can offer relatively high yields, usually around 6-7%. Unit holders receive a tax benefit, too: Much of the dividend payment is treated as a return of capital—how much is determined by the distributable cash flow (DCF) from the MLP’s underlying venture (e.g., the oil pipeline).
When the Fed kept quantitative easing (QE) in place last week, US investors weren’t the only ones (wrongly) breathing a sigh of relief. Taper terror is fully global! In Emerging Markets (EM), many believe QE tapering will cause foreign capital to retreat. Some EM currencies took it on the chin as taper talk swirled over the summer, and many believe this is evidence of their vulnerability—with India the prime example as its rupee fell over 20% against the dollar at one point. Yet while taper jitters perhaps contributed to the volatility, evidence suggests India’s troubles are tied more to long-running structural issues and seemingly erratic monetary policy—and suggests EM taper fears are as false as their US counterparts.
The claim QE is propping up asset prices implies there is some sort of overinflated disconnect between Emerging Markets assets and fundamentals—a mini-bubble. Yet this is far removed from reality—not what you’d expect if QE were a significant positive driver. Additionally, the thesis assumes money from rounds two, three and infinity of QE has flooded into the developing world—and flows more with each round of monthly Fed bond purchases. As Exhibit 1 shows, however, foreign EM equity inflows were strongest in 2009 as investors reversed their 2008 panic-driven retreat. Flows eased off during 2010 and have been rather weak—and often negative—since 2011.
Exhibit 1: Emerging Markets Foreign Equity Inflows
With investors expecting the Fed to end quantitative easing soon, the yield spread is widening—fuel for stocks! Photo by Alex Wong/Getty Images.
Since 1932, the average S&P 500 bull market has lasted roughly four and a half years. With the present bull market a hair older than the average—and with domestic and global indexes setting new highs—some fret this bull market is long in the tooth. However, while bull markets die of many things, age and gravity aren’t among them. History argues the fundamentals underpinning this bull market are powerful enough to lift stocks higher from here, with economic growth likely to continue—and potentially even accelerate moving forward as bank lending increases.
|By Christo Barker, 10/10/2013|
While the rest of the country fretted over taper terror, government shutdown and debt ceiling limits, the Federal Reserve tested its Fixed Rate Full-Allotment Reverse-Repo Facility (a mouthful—let’s call it FARRP) for the first time September 24. FARRP allows banks and non-banks, like money market funds and asset managers, to access Fed-held assets—i.e., the long-term securities bought under the Fed’s quantitative easing—via securities dealers’ tri-party repo (and reverse-repo) market for short-term funding. (More on repos to follow.) FARRP aims to address what many feel is a collateral shortage in the non-bank financial system caused by too much QE bond buying concentrating eligible collateral on the Fed’s balance sheet, where it doesn’t circulate freely. As a result, many private sector repo rates turned negative. But, should FARRP be fully implemented, the facility could actually hinder some assets (in this case, high-quality, long-term collateral like bonds) from circulating through the financial system—much like quantitative easing (QE) locked up excess bank reserves. A more effective means of freeing collateral in the repo market is tapering the Fed’s QE.
Repurchase agreements, or repos, are used to generate short-term liquidity to fund other banking or investment activity—a means to move liquidity (cash) from one institution to another. In a repo, one party sells an asset—usually long-term debt—agreeing to repurchase it at a different price later on. A reverse repo is, well, the opposite: One party buys an asset from another, agreeing to sell it back at a different price later. In both cases, the asset acts as collateral for what is effectively the buyer’s loan to the seller, and the repo rate is the difference between the initial and future sales prices, usually expressed as a per annum interest rate. The exchange only lasts a short while—FARRP’s reverse repos are overnight affairs to ensure markets are sufficiently funded. In the test last Tuesday, the private sector tapped the facility for $11.81 billion of collateral—a small, but not insignificant, amount.
FARRP’s first round is scheduled to end January 29, and during that time, non-bank institutions can invest between $500 million and $1 billion each at FARRP’s fixed overnight reverse-repo rates ranging from one to five basis points. A first for repo markets: Normally, repo and reverse-repo rates are free-floating, determined by market forces. Another of FARRP’s differentiating factors is private-sector need will facilitate reverse-repo bids instead of the Fed. Ideally, FARRP’s structure will encourage unproductive collateral to be released back into the system when it’s most needed—and new sources of collateral demand may help ensure this. Swaps, for example, are shifting to collateral-backed exchanges due to Dodd-Frank regulation—meaning more collateral will be needed to back the same amount of trading activity. Collateral requirements for loans will likely also rise.
Get a weekly roundup of our market insights.Sign up for the MarketMinder email newsletter. Learn more.
|By Bill Militello, InvestmentNews, 01/29/2015|
MarketMinder's View: Add this to the list of misperceived takes on the fiduciary standard: That it incents advisers to take too little risk, increasing the likelihood an RIA won’t achieve sufficient growth to reach client goals. But this totally miscasts the fiduciary standard, right out of the gate. The fiduciary standard does basically two things. It requires disclosure of conflicts of interest (in ADV IIs, normally) and it states that the adviser must have a reasonable basis for believing his/her/their recommendation puts their clients’ interests ahead of their own. That’s it, folks. If the market falls and folks’ returns are negative as a result, that on its own doesn’t say anything about the fiduciary standard. As we have written here many times, the rule doesn’t make the adviser, the adviser’s values make the rule meaningful. For more, see Todd Bliman’s 11/14/2013 column, “The Compass.”
|By Anjani Trivedi, Josie Cox and Carolyn Cui, The Wall Street Journal, 01/29/2015|
MarketMinder's View: The term “currency war” has been tossed around lately due to recent moves by different central banks. Though attention-grabbing, it seems inappropriately applied. A currency war—or, technically, a competitive devaluation—is a country’s deliberate effort to weaken its currency and make its exports cheaper, theoretically boosting growth. In addition to the underlying fallacy here—countries in today’s globalized economy usually can’t increase exports without imports rising, negating that “advantage”—there isn’t evidence a competitive devaluation is actually happening. Singapore, cited here as a player in an alleged currency war due to its announcement that it would weaken its dollar, has always used currency valuation as its primary monetary policy tool—it doesn’t use a target overnight interest rate, as opposed to the US Fed, which uses fed-funds. And Switzerland, which made the most news recently when it stopped defending its currency floor, deliberately strengthened the franc, not usually what happens in a currency war. Finally, the US and UK both ended quantitative easing some time ago, currencies strengthened and their economies lead the developed world growth. Where is this evidence a weak currency is so growth goose-y?
|By Jeff Benjamin, InvestmentNews, 01/29/2015|
MarketMinder's View: Err … President Obama’s proposal to tax 529 college savings plans lasted a week before he dropped it—it didn’t get far. Now we aren’t saying it’s impossible for Congress to change tax laws and remove some of the advantages of education and/or retirement savings accounts. Tax laws probably won’t be identical to today’s 20 or 30 years from now. But, trying to predict what tax rules—or anything—will look like in the distant future isn’t a useful exercise for investors, given markets don’t look any further than 30 months out (and focus more on the next 12-18 months). A retirement planning reality is that there isn’t certainty about anything 20 or 30 years from now. Traditional IRA tax benefits could vanish. The entire annuity industry could blow up. Every pension the world over could become insolvent. Those are all possibilities, but the probability any of them happen—or that Roths suddenly get hit with a sweeping tax—is extremely low today.
|By Staff, The Economist, 01/29/2015|
MarketMinder's View: Some correct and some off-base views here. We’ll start with the good stuff: The discussion of maturity transformation and how the difference between banks’ funding costs and loan-interest revenues weighs on their margins is good and rare in media. But the rest of this piece is overwrought and off. For one, quantitative easing (QE) doesn’t erase the threat of deflation in the eurozone—it actually amplifies deflationary pressures because it weighs on banks’ profit margins. Unless you think eurozone banks have all of a sudden gone Marxist and aren’t profit motivated (they haven’t), you can probably see this discourages lending, and without lending, money supply doesn’t grow—dis- or deflationary. Also, weakening the euro may make exports more attractive but it also makes imports more expensive—and for businesses competing in the global economy, the effect is largely zero sum. QE didn’t work in the US or UK and it hasn’t worked in Japan—and we don’t see the eurozone being the exception to the rule.
Market Wrap-Up, Thursday Jan 29 2015
Below is a market summary as of market close Thursday, 1/29/2015:
Global Equities: MSCI World (+0.3%)
US Equities: S&P 500 (+1.0%)
UK Equities: MSCI UK (-1.0%)
Best Country: USA (+1.0%)
Worst Country: New Zealand (-3.8%)
Best Sector: Information Technology (+0.8%)
Worst Sector: Energy (-1.0%)
Bond Yields: 10-year US Treasury yields rose 0.03 percentage point to 1.75%.
Editors' Note: Tracking Stock and Bond Indexes
Source: Factset. Unless otherwise specified, all country returns are based on the MSCI index in US dollars for the country or region and include net dividends. Sector returns are the MSCI World constituent sectors in USD including net dividends.