Tax Loss Harvesting

Well, it is that time of year.  While many are thinking about turkey, pumpkin pie, stockings hung by the chimney with care and all that jazz, it is the time of year that I look at tax loss harvesting.

Tax loss harvesting can be done several different ways.  But before we get there, what is it and why would you need to do it?

For those who are still earning a decent income, any short held sales that have capital gains are taxed out at ordinary income levels.  Stocks (I am keeping it simple) held less than a year fall under this short term holding rule.  Lets use for an example someone taxed at the top income bracket, 39.6% for the feds.  If they had a $50,000 short term gain, they would instantly lose $19,800 of that gain to the taxman.  Ouch.

This same person, if the holding is held for more than a year loses $10,000 on the $50,000 gain.  You can see from this math that 20% is the capital gains tax on long term capital gains for top income earners.  Still ouch, but not as bad.

I have sectors in my portfolio where I hire a manager who runs part of my money.  I typically do this in sectors where I want to invest to be diverse, but don’t know anything about.  International is one sector.  These guys are paid to beat benchmarks, not worry about tax gains.  And most of the time, the gains are short term.

To offset any of these gains, I need to look at the portion of the portfolio that I control to see if I can take some tax losses.

As I mentioned earlier, there are few different ways to do this.  You can simply look at a holding if it is down, sigh, sell, and take the loss.  These losses then offset the gains you had elsewhere (I am simplifying but this post can’t be fifteen thousand words).  I don’t typically do this as there are reasons I have holdings and most are long term.

Another thing you can do is sell the holding, and then buy it back.  BUT BE CAREFUL.  There is a 30 day “wash rule”.  So if you are taking a bath on WMT for instance, you can’t sell it and buy it right back that same day and receive the tax loss.  You have to wait 30 days.  This entails a bit of gambling, as you don’t want the holding to skyrocket in the meantime.

I prefer to sell a holding and purchase a different holding in the same sector.  While the Walmart example above isn’t a great one for this, here is one that I just did.

I took a bath on BCX this year, a commodity/energy closed end fund.  When it came to mid November, I carefully checked the ex-dividend date (I always want to make sure I get a payment if I can), sold BCX and then simply purchased a different energy based closed end fund.  That way I am still fully invested in the sector, and have received the tax loss to apply where needed.  In this case, I chose NTG.  While it isn’t the same as BCX, I am big on gas and the timing was right.  It is still an energy sector play and that was good enough for me to not knock out my allocation model.

This same exact strategy can be done with stocks.  As in the WMT example above, if you are high on retail, you can buy TGT, or any of the others in the space.  And if you get a month out (outside of the wash rule) and things aren’t looking the way you want, you can sell back the TGT and re-buy WMT, and get the tax loss and be on your way.  But again, you are gambling just a bit with price, although a month is a drop in the bucket if you are an investor and not a trader.

Long Term Bets

I like buying things at a discount.  The stock market is funny because most of the high flying buying action takes place when things seem to be trending upward.  I tend to work against that flow and wait for down days, weeks and months, then attempt to swoop in for my purchases.

Of course by that point I typically know what I want.  Being an investor, rather than a trader, I make long term plans, swallow as much good information as I can, make a plan, and stick to it.  It seems to work well.  Being an investor, time is on my side – I can beat up any trader as long as I have a long time horizon.

Which brings me to a couple of sectors that have been beaten to hell lately, biotech and energy.

My biotech plan was relatively simple.  These companies mostly operate in spaces that I don’t have any knowledge in, so I went searching for a CEF to do what I wanted.  My FA found what I think is a good one in TLF.  It is run by a bunch of PhD’s, many of which are MD’s as well.  Doctors should know as well as anyone if these biotech companies are on the right track or not.  I jumped in.  This CEF has a nice yield and I got in with a NAV discount of about 10%.  As our population ages, many of the companies in the fund will do well.

Natural gas is another beaten up space that I have recently piled into.  Prices on NG have plummeted to a three year low (as of this writing).  But there are a few factors that I feel make these long term bets profit centers in the future.

In the short term, there is a hurricane getting ready to completely destroy parts of Mexico.  That is no lie.  Patricia is the strongest hurricane EVER MEASURED.  That is going to tighten up supplies a bit for the short term and I would expect to see prices jump in the short term.

Longer term, there are many countries that are looking to gas for the future.  After Fukushima, Japan will be looking to gas for power and they are already importing LNG.  The US is getting ready to start exporting gas to the East and many other markets.

But my method of cashing in isn’t exactly price dependent.  I am piling into the shippers of LNG.  My list:

GLOG (Gaslog)
GLOP (Gaslog Partners)

COP (Conoco Phillips)

GLNG (Golar LNG)

GMLP (Golar LNG Partners)

PAA (Plains All American)

TGP (Teekay LNG Partners)

Gaslog and Golar are basically logistics companies.  The partners are the companies that they “drop down” the LNG ships into.  So as you can see this method, along with Teekay, gives (hopefully) good results no matter the NG price.  The top line will suffer, however margins should stay.  The ships themselves are amazing technical marvels in and of themselves and make for great reading if you have a few moments.  All of these shipping companies have fantastic yields.

Plains All American is a straight up pipeline company in the US.  It was beaten to hell recently and their yield made it too attractive to pass up.   Their stock price suffers along with the Nat Gas price, however again, their margins stay firm as they are a delivery company.

COP is an integrated company that is involved in many markets, however they are firmly entrenched in the gas markets as well.  They have some technological plays that are going to come to fruition in the coming years and are fully involved in the nat gas market.

I can’t see gas prices going too much lower, even with the mild winter that is forecasted.  Yes, supply is increasing and we have a massive amount of gas stored, but global demand will ramp up (one example is the LNG terminal in Lithuania, which will help break their dependence on Gazprom – there are many others) and when the US starts exporting that may affect the Henry Hub price in an upward direction as well.

I don’t have the cahones to make the ultimate bet on LNG, which of course is Cheniere.  Their massive amount of debt scares me a bit, however some of my plays here are sort of a side play on Cheniere (I have to admit) as these companies work with Cheniere on different projects.

And Odd But Perhaps Correct Theory

I have been ditching some of my low yield paper lately and shifting to high dividend stocks. The stocks I have been buying are cig companies – MO and RAI. The yields on these stocks are incredible right now, and are even more impressive with the recent drop in the stock prices of both (along with every other stock). Cig companies have extremely high margins, great ca$h flow, and MAN do they pay the dividends. Yes I realize those divs are taxed at normal income rates, but right now, what is your great idea on keeping up with inflation? Why own sovereign or corporate paper when cig companies are paying six or seven percent?

My odd theory is that if cig companies go under, the whole world will be at war for lack of smokes and we should all buy canned foods; everyone in Europe and Asia smokes, and tons of the young club going crowd also does here in the US as observed by highly detailed research by Carl and myself. Laugh if you want, I will collect my 7%.

GIS and Inflation

Recently I have been hopped up on buying Natural Gas related companies and instruments. It is my opinion (and what the hell do I know) that gas simply can’t stay at $4. In the short term it looks like I am right, but I am in it for the loooong haul.

I have also been doing some inflation hedges, and inflation is here to stay, baby. There are a lot of instruments you can buy out there that do this, but one way that I didn’t think of was looking at stocks that may benefit from inflation. Sounds weird, but there it is.

My FA recently brought General Mills to my attention (GIS on the ticker). People who know more than me (including GIS themselves) think that the inflation will benefit General Mills with higher prices. They must be banking on commodities topping out at some point. GIS says that inflation is “fundamentally good for their business” and that the company grows their EPS in times of inflation. Also mentioned is the fact that retailers are more acceptable to price increases in times such as these.

I can relate to the price increase part. I run a small business, and I am getting vendor price increase notices DAILY from all sorts of vendor. Copper quotes are done with a ONE DAY window. If you call back tomorrow, we have to requote it. In this ocean of price increases, it isn’t that big of a deal to just get one more. I think this is what GIS is talking about with their lines as well. GIS just raised their pricing 5% in March.

Kellogg is reported to have their recall problems behind them and GIS management looks to be pretty positive that they can not only survive in the high inflation environment, but thrive. Also mentioned is the GIS acquisition of Yoplait, and their high hopes of introducing Yoplait into China.

I took a small dive into GIS based on the report my FA provided me. It will be interesting to follow this one in our inflationary environment.

Piling In on Natural Gas

Carl has written elsewhere extensively about what a pipe dream nuclear power is in the USA. Well, at least it was being talked about before the Japan disaster, but now I think we can put the final nails in the coffin.

The media is almost borderline rooting for a full meltdown of the plants in Japan, and that is disgusting. The breathless reportage always starts with reports on the plants, spends a majority of time talking about them, and ends up spending oh so little time on the tens of thousands of casualties and dead bodies laying around bloating in the noonday sun.

As a side note, reporters and news reports are extremely defficient in discussing FACTS about the power crippled nuclear plants in Japan. This is NOT Chernobyl – yet. The differences in the two are so VAST, yet they are mentioned on the same pages. It is maddening to hear that idiots here in the USA are stocking up on iodine tabs. What!?! China has been exploding nuclear weapons for the past thirty years in the open air and nobody cared about that, yet we have a POSSIBLE accident in a highly industrialized company like Japan and everyone is going nuts. Not to mention that all of the coal and other pollution from China is a FAR greater threat to the US than any miniscule amount of radiation that we could possibly get from the Japan nuke plants even if there were a FULL MELT DOWN.

That digression aside, I don’t think that any real thinking person could say that we will ever see a new nuclear plant commissioned in our lifetimes here in the States, besides the small handfull almost ready to go online in Texas and South Carolina (?).

I didn’t think we would ever see a new nuke plant before this all happened and am happy to report that I have been making a VERY large bet on natural gas and companies that supply it and help construct nat gas plants, as well as other instruments nat gas related. Yes, we have coal, but that is the great satan along with nuclear to the greens anyway. Carl seems to think that we may just run out of power someday, but I argue that point. The second some liberal green nimby wacko doesn’t have power to charge up his or her iPhone there will be an enormous power plant built in what used to be a forest preserve – you can take that to the bank.

I hesitate to publish names and instruments I have money invested in as I think that does no service to anyone and sounds like I am pumping stuff. Just saying that it isn’t too late for you to start now getting in on some of these types of investments since basically in the US it will be nat gas from here on out. Yes, gas hovers around $4, but that won’t last forever.

Ford Looking Good

I recently read an interesting article about Ford and the new process they use before they approve funds for new models, or updates to old ones. Apparently they really push their engineers to lighten up the vehicles as much as they can, using different materials such as magnesium, and different techniques to keep making the vehicles lighter, thus enhancing gas milage. The article said that Mullally won’t sign off on any project unless they are going to be best in class in milage. The new Explorer, soon to be unveiled, is supposed to be the bomb. I have owned three Explorers in a past life.

I wrote a while back about FPRS, a preferred of Ford that I own.

Here is the skinny on it:

  • FprS can be converted into 2.8249 Ford common shares any time before January 15, 2032.
  • It pays a $3.25 annual dividend per share (currently 6.1%)
  • It can be called by Ford at par value ($50) any time before January 15, 2032.
  • On January 15, 2032 it will be redeemed at par value for $50

The current price on FPRS is 52.95.  I bought mine at 32.39, giving a yield of 10.03%.

BUT – I bought these preferreds a while ago, back when they weren’t paying anything at all.  They kept the dividends in arrears.  They did eventually pay, and are paying on a regular basis now.  Ford common is at 16.11 right now with zero dividend.  It has had a nice runup over the last year (what hasn’t?).

I think Ford’s good choices on the engineering side are being helped by the fact that they didn’t take a bailout.  I work with salt of the earth mechanics daily and most of them, oddly, know the fact that Ford didn’t take a bailout.  They hold Ford in higher esteem for this.

Nowhere mentioned in the article I read was the haircut the UAW had to take in all of this or the cramdown of Fords bondholders while the company held cash.  But that stuff seems like all but a distant memory.  For now, the Ford party is on, and in a big way.

*I miss the old “Carl’s hero Alan Mulally” category 🙂

UPDATE 2-11-11, 10.26am – Just got a call from my FA, Ford is calling this at the promised $50! Oh well, time to find another good investment.

UPDATE 2 – 2-11-11 3.12pm – My FA thought we could get a bit more than the $50 in the open market due to shorts covering this position and he was right, we squeezed out $51.18. That is why I pay the man.

Like Anything Else, It Isn’t Easy

Back on Dec. 13, Barry Ritholz penned a great article about the ten lessons learned from the Madoff implosion.  You can see that article here.

I have been thinking about some of the things that Ritholz said and would like to make some comments on a few of the points.

5. Know What You Own: Do not invest in anything you do not understand: How does this make money? What makes this unique? What is the basis for this investment? What are the risks? If you cannot answer those questions, you should not be risking your capital.

Boy can I relate to this one.  About six or seven years ago when everything was going up, up, up I got talked into buying a large position in a fund of hedge funds.  I knew absolutely nothing about the investment, but trusted my FA and took the leap.  Several years later I told my (now new) FA that I wanted out of that fund of funds.  It took four months for that position to unwind.  I recovered my principal (lucky) and learned a terrific lesson.  From that day hence I vowed to never invest in any instrument that I did not understand.  I have stuck with that to this very day.

6. No Outsourcing: Do not outsource your thinking or due diligence. Do not rely on 3rd parties, fund of funds, lawyers, advisors or consultants. We have learned that most are worthless. What is the value add does this fund manager provide? What are they doing, and should I be doing that myself? This is true for consultants, economists, strategists, traders, and managers.

My FA is a good guy and he brings me a lot of good ideas.  Some I like, others I don’t.  In the end, if any investment I make takes a dump, it is MY PROBLEM.  FA’s are just that – ADVISORS.  When push comes to shove, if something that I have my money in takes a dump it is my fault and I am the one that bears the brunt of the consequences.

This opens up a discussion about FA’s in general.  Do I really need one?  Probably not.  But he has brought me interesting ideas and products that I would have no clue existed if he were not there.  If I had to run my complete portfolio myself I think it would just be a plain ‘ol mix of stocks and bonds, rather than the diverse and varied investments that I have now.  I am not even sure I would have access to many of the products that I own without a FA, but I don’t really know.  In the end, I think he is worth the money I pay him.

7. You must not keep all of your money with one manager: I was astonished how many people had all their money with Madoff. If the worst happens, this is a recipe for disaster. Diversify your holdings across several professionals in unrelated firms.

I am not so sure that I agree with this one 100%.  I get the drift of what Ritholz is saying.  But in the end, my accounts with (insert large broker here) are owned by me.  So if you have ALL of your money in Merrill or B of A or whoever it really is your money.  You own the stocks, bonds and all the rest.  Madoff, being a private entity was different.

The only way this could fail in a bad way would be if (insert entity here) was printing and emialing you bogus statements that said that you owned xx shares of company abc.  I have a hard time believing that this could happen in any of the large, publicly owned companies that are reputable.  That said, I do not have all of my eggs in one basket.

I would like to add one that I read somewhere else.  Nothing is free.  I don’t like seeing those quarterly withdrawals from my account that my FA gets, but you gotta pay the man.  If I don’t like it, I can always close the account.  Plain and simple.