BlastInvest
Blast Investor
Real-time Plus
by Henry Lu
BIRTP 2011 Annual Model Portfolio Report
1/1/2012
2011 Macro Picture - Debt Crisis in Europe
The European debt crisis was the dominant macro force in all the
market in later half of 2011. Daily news of positive or negative
development of European debt crisis caused volatile up or down in US
stock market, commodity market or precious metal market.
Greek government bond crisis was turned into full blown European
debt crisis in 2011. Greek public debt to GDP ratio is
around 150% while it is common economic knowledge that any debt to
GDP ratio above 100% is unsustainable.
Graph 1 - Greek 2 Year Gov Bond
Interest Rate - 134%
Graph 1 shows the 2 year government bond interest rate trading in
the market. Before 2010, Greek government 2Y Euro bond was trading
below 2% yield. The first Greek debt crisis hit in Apr/May of 2010
and the 2Y yield hit nearly 20%. IMF and European major
countries arranged a package to save Greece at that time so that the
2Y Greek bond yield dropped sharply below 10% in June of 2010.
The Greek 2Y bond yield rose gradually higher and higher in 2011 and
it was nearly at 30% for 2Y government bond in mid year of 2011 when
we issued our half year report of 2011. Now the value of Greek
government bond collapsed and the yield now is at 134% because
investors don't expect to get even 50% of their principal back on
Greek bonds.
Investors of Greek bonds have reason to trade Greek bond at less
than half of principal value. In a new Greek deal reached 2
months ago, major European governments arranged a 50% voluntary
haircut on Greek bonds in exchange for up to 1 trillion euros of
EFSF funding support. It is not clear whether the new Greek
deal will follow through or Greece will default on its bond in
2012. New deal or default, either way the Greek government
bond investors are likely to get less than half of principal back.
In second half of 2011, Greek debt crisis has spilled over into
other European countries. PIIGS countries, Portugal, Italy,
Ireland, Spain could catch contagion and gets into similar debt
crisis as Greece is in. Italian and Spanish government
bond yield has hit all time high in November and Italian bond rate
surpassed 7% annual rate, a rate that many exports believed to be
unsustainable for Italy over the long run. Italy or Spain is
huge economy so that if either of them fall under Greek-like debt
crisis, the European economy would fall through cliff and Euro
is also possibly to dissolve in a worst case turmoil while many
European banks will go bankrupt and European financial system will
collapse under such scenario.
Market right now are painting a deflation and depression picture out
of fear of European debt crisis. Stock market is down, gold is
down, and commodity market is down. There is dominant market
perception of gloom and doom and expecting deflation coming in next
year. The source of deflation comes from credit destruction
similar to that of 1930's when economic activities shrank along with
debt collapse.
While we do not dispute the deflationary force coming from European
debt crisis, we disagree on the notion that deflation is the only
force in market.
Macro Picture 2 - US Europe Created Massive Liquidity
Turning point in European debt crisis was governments and central
banks' actions since beginning of December. 6 major
central banks including the US Fed and European Central Bank (ECB)
coordinated with each other and injected huge liquidity with
unlimited dollar loans to prevent European banks from liquidity
crisis.
The tool implemented was called "dollar swaps". With the swap
line, the European banks can obtain unlimited US dollar loans from
ECB in addition to normal euro loans. US dollar is still world
currency. With easy access to low cost US dollar, European
banks will have much more liquidity and have less chance of bank
failure.
European banks can post collateral assets including Greek government
bonds or even their own bonds to ECB in exchange for short
term loans from ECB.
Further more, ECB extended typical short term loan into 3
years. Just couple of weeks ago, ECB loaned $645 billion to
European banks.
Graph 2 - Italian 2 Year Gov Bond
Interest Rate - 5.1%
Graph 3 - Spanish 2 Year Gov Bond
Interest Rate - 3.3%
Graph 2 shows the Italian 2 year government bond yield, currently
trading at around 5.1%. The Italian 2 year bond rate hit as
high as 7.6% in late November, but the rate has been dropping over
past 1 month. At 5.1% rate, Italian government should be able
to refinance its debt obligation.
Graph 3 shows Spanish 2 year government bond yield, currently
trading at around 3.3%. The Spanish 2 year bond yield hit as
high as 6% in late November. The Spanish bond yield has been
dropping over past 1 month.
Graph 4
We should have no illusion on the declining yield of Spanish and
Italian government bonds. The real reason for declining yields
on Italian and Spanish bonds is the massive liquidity injection from
the world central banks and particularly from ECB. In
particular, there has been massive bond buying from ECB in recent
months.
Doubleline Mutual Fund is top rated US bond fund. Graph 4 is a
graph disclosed in Doubleline Mutual Fund's recent presentation
slide on its web site, showing massive bond buying since summer of
2011. From graph 4 we can tell that ECB bond purchase volume
jumped big since August of 2011, averaging around 6 - 7 billion
euros per week, or nearly $40 billion USD per month in
recent months. ECB's bond buying is similar to that of
QE2 in that central bank is pretty much printing money in the form
of buying government bonds. Regardless of how ECB openly
saying "no more bond buying or no more printing money", the fact of
the matter is, from ECB's recent action shown in graph 4, ECB
is printing massive amount of paper money through its bond buying
program in addition to its short term loan program for banks or swap
line program with the Fed.
Swap line, liquidity injection, QE, bond buying, etc are all forms
of printing money regardless of how the wording is. They
simply have same monetary effect even though the media or
governments want you to believe that they are not the same thing.
Macro Picture 3 - Inflation: Main Side Effect of Chinese
Economic Growth
Chinese inflation has been high and rising over past 2
years. The officially reported CPI was around 5% to 6%
in 2011, but the real inflation number is at double digit rate,
around 12% to 13% by our estimate.
The main cause of inflation in China was massive printing
money. The money supply in China is so huge that M2 money
supply converted in US dollar in China is 30% bigger than that of
USA while Chinese economy size is only 1/4 to 1/3 of that of USA.
Chinese government printed money to fund the infrastructure boom in
China as well as to support the high foreign currency reserve on
Chinese Central Bank balance sheet.
Since beginning of 2011, Chinese central government implemented
several measures to tighten the monetary credit growth and to slow
down the economy. This caused severe credit crunch in Chinese
economy. It was reported just 2 months ago that Chinese
government funded railway
infrastructure construction projects were virtually frozen and
thousands and millions of railway workers could not get their
paycheck on time.
The root cause of the recent Chinese economic trouble was the heavy
debted public sector and many if not all of the Chinese municipal
governments are virtually bankrupt. We issued a research
report warning that Chinese sovereign
debt crisis has started.
There were many talks of Chinese economic hard landing and possibly
crash in media.
We scrutinized Chinese economic reality and maintain that in short
term, meaning 2012 or possibly 2013, Chinese growth number is still
intact, although at declining growth level. In other
word, no hard landing in 2012 and 2013. This is because
of large scale Chinese government funded "1 billion units of low
income housing construction" and ongoing huge construction such as
Shanghai Disney Park and hundreds of billions of US dollar worth of
investment in 7 key industries planned for next 10 years by Chinese
government.
The current situation is that Chinese Central Bank is on
dilemma. If it wants to fight inflation, the Chinese economic
growth must go down sharply. If it maintains loose monetary policy,
the Chinese inflation number must go up. Based on historical
facts we believe that Chinese government in favor of loose monetary
policy and in favor of printing money, we believe Chinese government
is and will be printing money to support the economy.
We believe at 12% Chinese real CPI number, Chinese government may
decide to maintain loose monetary policy and focus on economic
growth first until the real inflation number pass 20%. China
had 13% inflation in 1993 and 21% inflation in 1994. Chinese
government waited until 1995 to implement a stop on
infrastructure. History may repeat itself and Chinese
government this time may do the same thing.
In fact, there was report coming out of China that Chinese
government injected huge money into infrastructure sector and many
railway projects now are re-starting after months of cash shortage
and projects freezing.
In short, we believe Chinese economic slow down is happening, but
happening at very slow pace. China is in the middle of huge
low income family housing construction boom and this should put
overall construction level at healthy growth number.
Regardless of what will happen on Chinese economy, we believe high
inflation is reality in Chinese economy because of massive printing
money by Chinese government. If Chinese economy will be
healthy, inflation will be high in next several years because
printing money and high inflation has been the core approach by
Chinese government to support government funded infrastructure
projects and other growth projects. If Chinese economy will have
hard landing, the Chinese inflation level will first go out of
control to shoot above 20%, and possibly there will be food crisis
coupled with severe currency debasement.
Over past 20 years, the purchasing power of RMB Yuan in China lost
94% value based on our college cost estimate in China. We
think the trend of high inflation in China will continue for next
several years while Chinese currency RMB is likely to continue to
debase on its domestic purchasing power at double digit rate at same
time.
2011 Full Year Performance Update
For the full year of 2011, BIRTP was down 2.22% while Vanguard 500
Index Fund was up at 1.97% as shown in table 1. For the full year of
2010, BIRTP model portfolio was up 40.23% while S&P 500 index
fund was up only at 14.91% for 2010. As shown in table 1,
BIRTP model portfolio performance has significantly beat that of
SP500 index over past 3 years or since inception and we have more
than recouped all of our losses in 2008.
Table 1 Peer Performance Comparison on 2011 Full Year (as
of 12/31/2011)
* 2011 full year performances of mutual funds were obtained from
information in Yahoo Finance and Fund homepage, adjusted to date
of 12/31/2011 assuming dividend reinvestment.
performance
|
04
|
05
|
06
|
07
|
08
|
09
|
10
|
11
|
Vanguard 500
Index *
|
10.74%
|
4.77%
|
15.64%
|
5.39%
|
-37.02%
|
26.49%
|
14.91%
|
1.97%
|
Oakmark
Select Fund I *
|
9.73%
|
4.84%
|
13.60%
|
-14.04%
|
-36.22%
|
52.46%
|
13.24%
|
2.15%
|
| Fairholme
Fund |
24.93%
|
13.74%
|
16.72%
|
12.35%
|
-29.70%
|
39.01%
|
25.47%
|
-32.41%
|
BIRTP Model Portfolio
|
59.53%
|
30.42%
|
-2.65%
|
15.57%
|
-76.49%
|
68.59%
|
40.23%
|
-2.22%
|
We believe our strategy of focusing on commodity, utility and gold
has worked in our favor over past 3 years .
In 2011, we exited our investment in infrastructure commodity
completely and focus our investment on gold and silver, agricultural
commodities and defensive utility and pharma stocks. We
believer over next couple of years, our strategy should pay off and
reward us handsomely.
Precious Metals - Bullish in 2012 and Forward
BIRTP model portfolio has quite large % of investment in precious
metals and precious metal equity.
Graph 5 shows gold performance in 2011 verses S&P 500
index. S&P 500 index was pretty much flat while gold was
up 10% in the year.
Graph 5 - BIRTP Gold 2011
Performance
^GSPC: S&P 500 Index; GLD: Gold Commodity ETF
Table 2 - The last day of the
Year Quotes for Gold (USD per Ounce)
Average Annual Return on Gold in Past 10 Years: 18.8%
Year
|
Price
|
YoY Return
|
2001
|
$279.00
|
|
2002
|
$348.20
|
24.8%
|
2003
|
$416.10
|
19.5%
|
2004
|
$438.40
|
5.36%
|
2005
|
$518.90
|
18.36%
|
2006
|
$638.00
|
22.95%
|
2007
|
$838.00
|
31.35%
|
2008
|
$889.00
|
6.09%
|
2009
|
$1096.50
|
23.34%
|
2010
|
$1421.40
|
29.63%
|
2011
|
$1566.80
|
10.23%
|
Right now the market mood on precious metal is quite
pessimistic. But if we look at past 10 years of gold closing
price quote, the long term gold bull trend is still in tact.
Gold has been up every year over past 10 years and 2011 was not
exception. As shown in table 2, the average annual return on
gold over past 10 years was 18.8% per year and 2011 was on the low
end of yearly return on this long term bull trend.
Graph 6 - SLV and SLW 2011
Performance vs Gold
Silver commodity price closely tracked gold in the past and tend to
have higher volatility than gold.
The GLD and SLV positions were purchased in Jan. of 2010 and our SLV
position was increased in early October of 2010. SLW position was
purchased in January of 2011. GLD was up around 10% in 2011
while SLV was down around 10% during same period as shown in graph
6. Our SLW position was down around 12% in 2011 because we
purchased SLW stock at Jan correction so that our return on SLW was
8% better than SLW 2011 full year performance as shown in graph 6.
We believe the economic turmoil in Europe and China will benefit
precious metal over the long run because whenever printing money
happens, gold and silver price will rise. Gold and silver not only
are inflation hedge in period of turmoil, they are hard currency by
themselves. Whenever paper currency such as US dollar and Euro
and RMB debase through printing money, the silver and gold price
will rise. This long term trend will continue.
Graph 7 - SLW vs WLT Performance in
2011
In Jan of 2011, we sold all our WLT position out of worry about
Chinese economic slow down and replaced WLT with SLW
position. Although our SLW investment was still on
negative return, our trade boosted BIRTP model portfolio
significantly. As shown in graph 7, WLT stock price nearly cut half
in 2011 while our SLW investment was only down 12%. We
correctly called the Chinese slow down risk on WLT stock and avoided
large loss on this position.
Silver Wheaton here is particularly cheap and becomes a value
stock. In latest earning report, SLW earned about $1.8
per share annualized cash flow or at 6.2% annualized yield on
current quarter. SLW management boosted SLW dividend to be
linked to 20% of cash flow, which will benefit the share holder
value over the long term significantly. SLW pays virtually no
income tax while its cost is fixed at $4 per ounce silver. At
around $30 dollar per ounce silver, SLW profitability is huge and
its growth is huge at zero CAPEX cost. We believe that SLW stock has
likely bottomed and will rally up big in 2012.
In 2012, we continue to be very bullish on precious metals, and on
silver royalty stock SLW.
Agriculture Commodity Down 10% to 15%
DBA is diversified agriculture commodity ETF with positions in
wheat, corn, soybean, sugar, coffee, cocoa, cotton, and live
stocks. JJG ETF only has 3 agriculture commodity components:
wheat, corn and soybean. We invested into JJG in October
of 2010 and added JJG position in 2011 mid year.
Agriculture commodity has been up nearly 40% in second half of
2010. Grain ETF (JJG) and general agricultural commodity ETF
(DBA) both were down in double digit rate in 2011.
We believe global grain production was in trouble globally.
Severe weather in China, Australia, Europe and North America has
been the norm in recent years. In particular, Chinese economic
growth had major impact on grain price as China rely more and more
on grain import and is the major country for US soybean
export. More and more young farmers in China left their
agricultural life forever while farming in China becomes a job for
old people.
Graph 8 - JJG DBA 1 Year Chart
This trend of shortage of farmers around the world and the trend of
older and older farmers is happening in China, in Japan and in many
other countries.
Further more, massive printing money around world will debase world
paper currency and cause global inflation over the course.
Agricultural commodity historically would perform well in high
inflation environment or hyper-inflation environment as the grain
will store its value just as precious metals tend to do.
We believe agricultural commodity and particularly grain commodity
will rally in 2012 and over the long term.
Utility Stock NRG Dropped 6%
Utility stocks are defensive stocks. Utility stocks typically
pay high dividend and are considered income-oriented stocks by many
conservative investors. Utility stock sector in 2011 was one of the
top performing sectors. Utility sector ETF IDU was up 15% as
shown in graph 9.
Utility stock NRG lagged market in 2009 and 2010. In first half of
2011, NRG stock rose around 27% and beat utility sector and S&P
500 index. With European crisis deepened in later half of
2011, NRG stock significantly lagged IDU as shown graph
9. 2011 was the year that NRG further widened its gap with its
utility sector.
Graph 9 - BIRTP Utility Stock
2011 Performance
IDU: utility sector ETF
We are confident on the prospect of utility sector and in NRG in
particular. Utility stock NRG has very high free cash flow
yield, >20% annual free cash flow yield. The
market was worried about NRG on low natural gas price or large CAPEX
spending and risky nuclear expansion project. We disagree with
market assessment on NRG and we ignore the crowds on this issue.
NRG company management had great track record on capital
allocation so that over the long run, share buyback, CAPEX growth
investment and dividend payment will move the stock to its intrinsic
value. NRG management implemented debt restructure plan
recently and we believe this is precursor to large share repurchase
in 2012. We think large share repurchase coupled with large
investment in acquisition or CAPEX spending in renewable projects or
natural gas assets will pay off eventually for
shareholders. The debt restructuring is expected
to be completed in Q1 of 2012.
The down side of NRG is the delay of debt restructure, which will
cause NRG stock to trade side ways. NRG can not pay meaningful
dividend, nor repurchase large amount of shares without completion
of debt restructuring. NRG stock is likely to be out of
favor for quite while without large dividend payment or share
repurchase. With the world financial market turns into deeper
and deeper crisis with European debt turmoil, the risk of NRG debt
restructure delay is possible.
However, on the upside, NRG stock is a deep value stock based on its
earning power and cash flow. We may have to wait for a while
to have NRG to complete debt restructuring, eventually this will be
done and NRG stock will close the valuation gap with its peers.
We believe positive trend is developing and NRG may re-grain
favor as early as 2012 if NRG can complete its debt
restructuring on time in 2012.
BBEP - up 4% in 2011
BBEP was the best performing stock in 2010. In 2011, BBEP
stock performance was slightly better than S&P500 as shown in
graph 10. BBEP was high dividend paying MLP with 9% yield so
that adding back 9% cash distribution, BBEP stock performance
in 2011 was actually around 4%, which is couple of % points better
than that of S&P500 index.
We continue to like this stock. In volatile time, high
dividend (or cash distribution) is best way of rewarding
shareholders as the dividend will add up quite quickly. Further
more, high dividend stocks with stable business model tend to appeal
to income oriented investors so that the stock prices of MLP tend to
compare valuations with corporate bonds. At current yield of
nearly 9%, BBEP valuation is compared favorably as the asset
of oil and gas reserves are inflation-friendly rising assets while
the high dividend yield provide immediate income for
investors. Further more, BBEP hedged high % of oil and gas
production over next several years so that cash distribution for
BBEP should be stable and growing over next couple of years.
We believe in high oil prices down the road and BBEP will benefit
from future bullish trend in oil and gas prices.
Graph 10 - BBEP 2011 Performance
Health Care Stock PFE - Best Performing Stock in 2011
Healthcare stocks are defensive stocks.
Pfizer (PFE) was our pick purchased in October of 2009.
Pfizer stock performed poorly before 2011. In full year of 2011, PFE
was up nearly 25%, beating S&P500 index significantly as shown
in graph 11. Pfizer stock pays about 4% dividend in 2011 so
that PFE return in 2011 was nearly 29% adding back the dividend
yield.
As shown in graph 11, pharmaceutical sector ETF IHE was up 20% in
2011 so that the uptrend on PFE was mainly sector driven
uptrend. But still, PFE out-performed the sector by 5% in
2011.
Graph 11 - PFE 2011 Performance
^GSPC: S&P 500 Index
IHE: Dow Jones US Pharmaceutical ETF
When we picked PFE, we laid out thesis on this stock based on
dividend and share repurchase catalyst plus the defensive nature of
pharmaceutical business. Our thesis on PFE finally
got paid off in 2011.
Looking forward from current PFE stock price, we continue to be
bullish on this stock over the long term. Nearly 4% dividend
yield is still a high dividend while stability and diversification
of pharmaceutical drug pipeline provide PFE stock with margin of
safety. Further implementation of share repurchase and dividend
should provide further upside on the stock over the long run.
Theme in 2012 - Precious Metal, Non-Industrial Commodity
and High Dividend Stocks
We are neutral on S&P 500 for 2012 while we now start to believe
that stagflation scenario needs to be carefully considered and
hedged. We are less worried about deflation risk in global
economy as the US Fed Bernanke is determined to provide liquidity to
help economy. In fact, Bernanke's whole research career before he
became the Fed chairman was based on assumption that the Fed made
mistake in 1930's and was not aggressive enough in printing
money. In Asia, Chinese government has been printing massive
amount of paper currency to support its GDP growth and to gather
huge amount of foreign currency reserves. Further more, European
government and European Central Bank is far from clean on printing
money.
We think the current situation is similar to that in 2008 in that
European crisis has caused liquidity sell off in commodity, precious
metal and stock market around the world. When the short term
sell off is finished, possibly in sometime of 2012, the bull trend
of precious metal, agricultural commodity will resume.
S&P500 index is not that bullish because all the indicators are
pointing to weak economy in both Europe and North America. Chinese
Economy is also slowing down. Japanese economy is no where near
recovery. The global economic trends are bearish for US stock
market. However, US stock market is not that bearish because the Fed
essentially are regulating S&P500 by printing money. If
S&P 500 index drops by 10% to 15% in 2012, the Fed will start
QE3 to push up the market. If the euro weakens
dramatically against US dollar due to European debt crisis, the Fed
will likely to start QE3 to push down US dollar currency in order to
maintain competitiveness of US economy. In other word,
printing money mentality of the Fed guarantees that there is no bear
market in near term, nor there is any real strong US dollar currency
possible in near term.
Inflation continues to be the top theme in 2012 as we think a
currency turmoil and hyperinflation scenario is a possibility within
next 2 years. In other word, we are less bullish on economy in
2012 than 2011 and more worried about inflation in 2012 and 2013.
We prefer "defensive stocks" with high free cash flow yield in
utility and health care sectors over "offensive stocks" in cyclical
and industrial sectors. We said that we don't believe in fast
2011 economic recovery and indeed global economy get more and more
pessimistic as European debt crisis deepened in later half of
2011. We will continue our thesis in 2012 and we believe
theme in defensive stocks will continue for quite a while.
Emerging market and China are going to grow in 2012. Infrastructure
spending in China is expected to slow down gradually so that
we exited infrastructure commodity business and any industrial
cyclical stocks. Infrastructure commodity essentially are
industrial commodity tied to economy while food and precious metals
are more tied to currency market. We shifted our focus from
industrial commodity to agriculture and precious metals commodity in
2011. We expect agriculture commodity or precious metals will
perform well in 2012 regardless how economy performs.
If stagflation comes globally, industrial commodity and industrial
and cyclical stocks will under-perform while defensive agriculture
and precious metals will out-perform. We could argue that
agricultural and precious metal commodity ETFs are also "defensive
ETFs" as well as "inflation ETFs".
If recession or deflation comes in 2012, precious metal, agriculture
commodity and general stock equity may not out-perform compared to
cash. However, high dividend paying stocks or high share repurchase
stocks should out-perform in such environment as dividend and share
repurchase are tools of shareholder value creation in bear market
and in extremely low interest rate environment.
We don't believe in any real long term deflationary trend. The
world central banks, the world governments will likely to continue
to print massive amount of paper currency to fight deflation and
boost economy.
Blast Investor Model Portfolio
Update
(as of 12/31/2011)
Model
Portfolio
- Performance
|
BIRTP
|
S&P 500
|
Portfolio inception date
|
12/31/2003
|
12/31/2003
|
Portfolio inception value
|
$89,000
|
1114.10
|
| Portfolio 12/31/06 value |
$180,253.55
|
1418.30
|
Portfolio 12/31/07 value
|
$208,321.41
|
1468.36
|
Portfolio 12/31/08 value
|
$48,974.09
|
903.25
|
Portfolio 12/31/09 value
|
$82,563.79
|
1115.10
|
| Portfolio 12/31/10 value |
$115,782.48
|
1257.64
|
Portfolio 12/31/11 value
|
$113,210.27 |
1257.60
|
| 2004 Performance |
59.53% |
8.78% |
2005 Performance
|
30.42%
|
3.00% |
2006 Performance
|
-2.65%
|
13.62%
|
2007 Performance
|
15.57%
|
3.53%
|
2008 Performance
|
-76.49%
|
-38.49%
|
2009 Performance
|
68.59%
|
23.45%
|
2010
Performance
|
40.23%
|
12.78%
|
| 2011
Performance |
-2.22%
|
-0.00%
|
Total Return (Since Inception)
|
27.2%
|
12.9%
|
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