Thursday, September 14, 2006

Put a little cash to work

The only reason I was looking for alternative investments when I started blogging is that I couldn't find any good investments with decent yield.

The environment has changed quite a bit in just a few months. For one thing, I found a 7-month CD yielding 6.45% at a local credit union, so I put 100K into it. I would have put a lot more into it, but didn't because of the 100K FDIC limitation.

I put 50K into a currency trade product offered by Morgan Stanley. It's a capital-protected hedge against a falling dollar vs a basket of emerging market currencies. I don't have the prospectus readily available, but essentially if the dollar falls against a basket of Brazilian, Russian, Indian, and Chinese currencies by 2008, I make ~7.5% APR. The more it falls, the higher my return. Should the dollar rise vs those currencies, I get my original investment back. I had to really think about this vs buying more CDs at 6.45%, but thought it was a decent bet.

The decline in energy and precious metals over the last few months finally enticed me enough to put a little cash to work in stocks a couple of days ago. I targetted yield (REITs and energy trusts), energy stocks, and gold stocks. I am underinvested in these areas but didn't want to put money in when they were at such lofty levels. I expect oil and energy to decline further, so I'm just starting to scale in. One oil stock I picked up is DVN, this company made a recent discovery in the Gulf of Mexico that potentially doubles their reserves, but the stock didn't move. I'm surprised by the lack of interest, since I see lots of media coverage. This is what happens during distribution, and signals to me that energy has further to fall. Energy is still at very high valuations, and could fall for a long time.

I considered housing (KBH, TOL, PHM), because of the extreme pessimism in that sector over the past year. I regret not making some small purchases there (look how it's done over the past week). But time will tell whether this is just a temporary rebound. Meanwhile, I wait patiently to see what happens.

I am also waiting to pull the trigger on buying healthcare funds. I think this is a good sector to be in for the next couple of decades. A lot of stocks in this sector have been moving sideways for years, and action has started to look interesting the last few weeks.

I am still holding a lot of cash, but now that money market yields are all close to 5%, I'm not in any hurry to deploy. I think my cash position is even higher than a month ago despite putting another 250K to work, as I've vested more company options which I subsequently sold, made some huge gains on ESPP, and have been selling off long-term company stock holdings too (it's near an all time high).

Diversification, again

I came across a blog I found interesting:

He discusses some topics I wish I had exposure to several years ago.

But I'm practically screaming, "Are you crazy?!! Sell, sell, sell!!!!!!"

I guess the author probably has ~$30 million or more concentrated in company options, and doesn't want to sell because of capital gains taxes. For some reason, he seems to think his company is invincible (must be a Google employee :P ). I have seen enough over the years (especially during the dotcom crash) that I wouldn't be comfortable to be 100% invested in company options. It's true that to achieve extreme wealth financially, you have to be focussed rather than diversified. But to not diversify once you hit $30M, or even $10M, is just plain folly. What do you think?

Enron and WorldCom both seemed invincible at one time.

Saturday, September 02, 2006

My date with Merrill (Lynch)

Has anyone seen "My Date with Drew"? I thought it was a cool movie, shows how someone can achieve what seems to be impossible on nothing but desire and tenacity.

I spent over an hour interviewing a financial advisor from Merrill Lynch's private client group. The goal of the meeting was to find out what Merrill could do for me, and his proposal for financial strategy.

I had given him a list of some of my mutual fund holdings, and he went through some analysis for me. His goal was to convert me from mutual funds to managed funds and hedge funds. Here are some key points that I've gleaned from the meeting, my own past experience with managed funds, and some discussion with an ex-Merrill Lynch client:

1. Minimum account they're willing to work with is ~600K. Typical managed fund and hedge fund minimums are 100K, so 600K would be enough to start 3 managed funds and 3 hedge funds, all with different management styles.

2. Average account size in this private client group is $2M.

3. Managed accounts allow you to tax loss harvest at the end of the year. You can advise the manager of your tax situation (i.e. that you have capital gains you want to offset), and instruct them to take individual stock losses against your gains. This is something you wouldn't be able to do with a mutual fund, since you have no control over the underlying fund assets.

4. You purchase the underlying shares in the managed account, so your cost basis is the actual share price on the date of purchase. When those shares are sold, you are taxed on actual gains (or losses). For mutual funds, when you purchase the mutual fund, the fund already holds those underlying shares, likely with a cost basis lower than the market price at the time you made the purchase. When the mutual fund makes a distribution, you are taxed on the gains the fund made from its original purchase price, not at the price you paid. Your fund could have lost value, but you'd still have to pay capital tax on the distribution. This is awful, and so is another big benefit of managed funds.

5. Management fees. Merrill charges its own 1+% fee, and the managers charge another 1-2%, so the fees add up. However, mutual funds have hidden fees besides the management fees shown on Yahoo finance, including transaction costs and taxes. has more details of all the costs associated with a particular fund. Depending on the fund, Merrill's fees may actually work out to be lower. But if you're going for lowest costs, ETFs or Vanguard funds would be good bets.

6. Tax complications. If you own hedge funds, you will probably have to file for tax return extensions every year, because you don't receive final tax documents (K-1s) until after April 15.

7. Hedge funds did well in 2000-2002, but many of them seem to be lagging the market from 2003-present. This is probably related to the huge amount of money being poured into hedge funds the last several years. One thing I like about hedge funds is that their volatility seems to be generally lower than the overall market.

8. They don't offer tax liens or real estate deals. Need to go with Citibank for those.

My conclusion? If you've got all the time in the world, it's better for you to do your own research and manage individual stocks. For those with net worth less than a few hundred K and no time, stick with ETFs, mutual funds, and some individual stocks. For those with net worth > $1M and no time, it's still kind of a toss-up, fund selection is key whether you go with mutual or managed funds. For those with net worth > $5M, you pretty much need someone to help you diversify.

I'm going to stay the course and not go with Merrill yet. Will interview more financial advisors. It's a time-consuming task.