A Review of 2015 in the Model Portfolios
By: Tim McPartland,
When 2015 began, I wrote about my expectations and followed up many times to provide updates during the year as I cautioned that income investors would have a very challenging time simply staying in the black with the specter of Fed Funds rate hikes just ahead.
That forecast proved to be correct as all dividend-paying stocks and bonds were on the defensive the entire year. Additionally, a few wrong moves on our part worked strongly against us. Foolish moves always are easily identified with the aid of 20/20 hindsight.
First of all, let’s review the 2015 Blended Income Model Portfolio. This portfolio was launched on January 4, 2015 with a beginning balance of $500,000. The intention (or shall we say hope) is that we would garner an annual return of 7% with this portfolio.
The results were disappointing, but not terrible, as the Blended Income Portfolio returned 2.30% for 2015. The S&P 500 returned about 1%, including dividends, while the iShares Core U.S. Aggregate Bond Fund (NYSE:AGG) was just near breakeven for the year. So all in all, we outperformed some of our benchmarks. But if we would have eliminated a few of the dumb errors we outline below, performance would have be extraordinary.
The year started off poorly when we purchased upstream (upstream companies are energy exploration and production companies) master limited partnereship (MLP) LinnCo Energy (NASDAQ:LINE). The thought, of course, was that we were near a bottom in energy prices and a turnaround was just around the corner. Fortunately, we quickly corrected our error and eight days after purchase we sold the shares for $10.40/unit. We had done so well in forecasting the energy decimation, so buying those shares was a calculated gamble. LINN now trades at $1.08/unit, so the good news is we took our small loss and moved on quickly.
Buying midstream MLP NGL Energy (NYSE:NGL) four months after our LINN error with the thought that the midstream companies, in particular the industry giants, would do fine proved as foolish as buying LINN. Although NGL is a solid company, we should have known that contagion happens in all industies and seldom is there any sector that escapes significant damage. The contagion almost always takes longer than any investor can imagine. We continue to hold NGL and the company has had significant unit price appreciation since the 1st of the year.
Our activity in the reat estate investment trust (REIT) sector, for the most part, has done okay. Whitestone REIT (NYSE:WSR), which conceptually we love, has performed poorly even though the company has been executing its plan flawlessly of focusing on neighborhood centers with small tenants. WSR’s weak performance is simply a case of buying its shares too high. We bought the shares near their high and they have drifted lower ever since. We bought Realty Income (NYSE:O) correctly near its yearly low. We wanted some O, but needed patience to wait until the current yield reached a level acceptable to us of 5%. When that level of yield became available, we purchased a few shares. We have been rewarded with a gain of between 20% and 25%.
We owned just a couple of Canadian income issues and are fortunate that at least one of our two positions has performed well, despite the U.S. dollar’s strength. Sienna Senior Living (OTC:LWSCF) has been steady even though the U.S. dollar has strengthened dramatically against the Canadian dollar, meaning a devaluation of Canadian assets held by U.S. investors. Unfortunately, our Medical Facilities common stock (OTC:MFCSF) has fallen by a full 33%. In reviewing the Medical Facilities performance of late, we have determined that there is no reason to continue to hold the company and will sell the shares soon. The Canadian economy, which is heavily linked to energy and other commodities, is in tatters and we will avoid the market in the months ahead.
In our preferred stock holdings, both perpetual and term preferreds, we did not have a single issue that was a terrible performer. Some were up a little and some were down a little, but as a group they performed excellently. We held no energy or shipping perpetual preferred shares, so we stayed out of real trouble as many of the preferreds issued by companies in these sectors have collapsed. In addition, many of those companies have, or will be, filing for bankruptcy. We did hold the term preferred shares of closed-end fund Tortoise Energy Infrastructure (NYSE:TYG-B), but they are affected little by the movement of energy prices as they are AA quality and protected by asset coverage rules. Keep in mind that closed-end funds are required to hold assets with a value of 200% of preferred stock outstanding.
The baby bond area presented more challenges as we made a couple of poor purchases in a stretch for yield. As always, further informaiton about baby bonds and their characterisics is available here. The purchase of Star Bulk Carriers 8% Senior Notes (NASDAQ:SBLKL) simply did not work out in our pursuit of an enticing yield. We sold this issue in December for $15.50/share/bond and it is now trading at $8.25. We also purchased shares in General Finance 8.125% Senior Notes (NASDAQ:GFNSL). Those shares have not been terrible, but the worst is likely to come in the next six months as the oranization’s business is fairly dependant on the energy industry. We have a small loss and will exit these within the next week or so.
We held a number of common stocks through the year and two of the issues stand out — but for very different reasons. Emerson Electric (NYSE:EMR) has lost over 20% since we purchased it. On the other hand, water company Artisian Resources (NASDAQ:ARTNA) gained more than 20%. On a historical basis, we have not chosen common stocks that have performed well. We may spend so much time watching and analyzing other sectors of the portfolio that we simply don’t pay adequate attention to common stock holdings in our model portfolios. A person has to wonder why we even bother to devote any of our assets to common shares. We ask ourselves the same question and the simple straightforward answer is that we know that to have any chance of outperforming our goal of a 7% annual return, we need to create an opportunity for capital gains. As we grow older and as we begin to change our investing philosophy to simply one of generating safe income, we likely are going to start to move out of common stocks. If one can garner 6-7% annually in a relatively safe manner, do we want to increase risky asset holdings for the chance to increase performance 1-2%?
In summary, in the 2015 Blended Income Model Portfolio, we end 2015 with 35% of our assets devoted to shorter duration issues, 13% committed to perpetual preferreds, 14% to common stocks, 6% to REITs and the balance sprinkled to other segments. The performance was okay relative to the performance of benchmarks, but simple mistakes continue to take their toll on what could be much better performance.
Next, we can take a quick look at the 2014/2015 Short/Medium Duration Income Portfolio. Recall that this portfolio was set up with securities that had maturities or mandatory redemption dates that were relatively short and was designed to generate a good income stream with reduced volatility. We set this portfolio up in October 2014 with an initial yield of 6.7%. Through the first year ending October 2015, the portfolio had a super gain of 6.2%. In the short period from October 2015 until the end of the calendar year, the portfolio gained exactly 1% and ended 2015 with a 14-month increase of 5.2%.
Unfortuntely, in a fairly concentrated portfolio (18 issues), it only takes one problem holding to cause overall performance to suffer. The General Finance 8.125% notes (NASDAQ:GFNSL) took a tumble in late October and caused some turmoil in the portfolio. We have sold this issue and the current yield of the portfolio is 6.78%.
In addition, we have another portfolio which is the 2015 Medium Duration Income Portfolio, with Zip. The mediuam duration income portfolio is very similar to the 2014/2015 Short/Medium Duration Income Portfolio, but with the addition of two high yielding REITs. We built this portfolio in August 2015 and thus far it has been a disappointment with returns of -.5% in its first four month. Holding just a couple REITs in a concentrated portfolio certainly can damage performance. The current yield of this portfolio is 6.51%.
We have carried all portfolios into the new year and through the next 30 days will be continuing to rebalance the portfolios to match our current economic viewpoints. Our first moves were outlined here.