Investing in the Age of the Frugal American

The February 13 issue of Barron’s made a statement that caught my eye:  Americans are paying down their mortgages.  (See “Paying Down the Mortgage.”)

50% of all refinancings now result in smaller loans that the previous mortgage.  Rather than using their homes as a virtual ATM machine, extracting equity (if you have any) to meet current expenses, Americans are actually retiring their mortgage debt early.  It’s a remarkable change in behavior for a nation of consumers who, just a few short years ago, had a well-deserved reputation for wanton frivolity in their personal finances.

As Barron’s pointed out, paying down your mortgage at, say, 4% can be considered an “investment” when bonds yield barely 2%.  But more than this, it is a change in sentiment brought about by changing demographics.  America’s Baby Boomers, the largest and richest generation in history, are entering a new phase of their lives.  With retirement approaching fast, the Boomers are adopting the fiscal habits their parents were known for.  (We all eventually become our parents; it just took the Boomers a little longer than past generations.)

A role model for the parsimonious

The Boomers are the engine that has made the U.S. economy (and by proxy world economy) go over the past 30 years, and their reticence to spend will have a real impact on economic growth.

What does this mean for investors?  Surprisingly, the news isn’t all bad.

True enough, top-line revenue growth for companies that depend heavily on the American market will almost certainly be modest in the decade ahead.  Earnings per share growth, where it happens, will have to come from share count reductions through stock buybacks and from revenue growth in emerging markets.

The good news is that investors can still make a decent profit under these conditions, assuming they choose their investments wisely and pay a reasonable price.  With less need to expand their businesses, many American companies are finding themselves with unprecedented levels of cash on hand. Some—such as notorious tightwad Apple ($AAPL)—are simply stockpiling the cash (Apple’s cash balance is estimated to be an astonishing $100 billion).

But others, including Apple’s rival Microsoft ($MSFT), are using their excess cash to reward their shareholders with share buybacks and, even better, dividends.  Microsoft raised its dividend by a full 25% last year, and more increases are expected in 2012.

A better example might be that of tobacco “sin stocks.”  Unlike Apple and Microsoft, which still have robust and growing demand for their products, American tobacco firms have faced slowing demand for their products for decades.  But with no need to spend cash on investment and no need to advertise, tobacco stocks have still proven to be fantastic investments, with total returns beating the sox off the S&P 500 over the past decade.  And nearly all of this is due to their rock-solid dividends.

I consider dividends to be the key to profitable investing in the years ahead.  There will be periods when speculative growth stocks are more attractive, and we happen to be one this quarter (seeSin Stocks Trail Their More Virtuous Peers as an example).  But for the core of your portfolio, stable, dividend-paying stocks are an attractive option in a world of slow growth and bond yields of just 2%.

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Whole Foods and the Economics of Baby Boomer Diets

Charles Sizemore recently gave his thoughts on Whole Foods (NYSE: $WFM) t0 MarketWatch writer Matt  Andrejczak (see “Whole Foods Shareholders Big Payday“)

Whole Foods, bolstered by stronger cash flows, is again paying a dividend, hiking it last month 40% to 56 cents a share on an annual basis. That’s less than a 1% yield but something nonetheless.

Some investors say they like Whole Foods market position but think the stock is getting too pricy. Charles Sizemore, who runs Sizemore Capital Management, said Whole Foods is benefiting from Baby Boomer shoppers seeking healthier foods as well as stable incomes of wealthier Americans.

“I like the company, but I’m not crazy about the stock,” Sizemore commented.

Whole Foods trades at roughly 30 times its 2012 estimated profit of $2.27 a share, according to FactSet’s latest analyst survey. Kroger (NYSE: $KR)  and Safeway (NYSE: $SWY) trade around 11 times next year’s earnings.

Whole Foods has a lot going for it and benefits from several macro themes followed by the Sizemore Investment Letter. The first is the aging of America. As the Baby Boomers age, they are taking their health a lot more seriously, and part of this is having a healthier diet, including more natural, organic food. This is a theme that will likely have some staying power.

The other theme is the divergence of the “Two Americas.” Working class and younger Americans have taken the brunt of the recession and slow growth. But highly-educated and wealthier Americans are doing just fine for the most part. The luxury goods sector is highly attractive, and Whole Foods can be considered “luxury food.” Tying into this theme is a growing appreciation of environmentalism and all things “green,” and Whole Foods appeals to these sentiments.

The grocery business is a tough, low margin business to be in, but Whole Foods is making it work by going high end, which in groceries means organic.

But a great business does not necessarily make a good stock.  And as explained in the MarketWatch article, Whole Foods is simply too expensive at current prices.

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Book Review: The Pinch

Pinch“We all know the story,” starts David Willetts in his book The Pinch.

“The parents return home from a night away to find a teenage party has got out of hand and the house has been trashed… It plays to a deep-seated fear that younger people will not appreciate and protect what has been achieved by the older generation. This is the eternal anxiety of each generation about what comes after. But what if, when it comes to many of the big things that matter for our futures, it is the other way around? What if it’s actually the older generation, the baby boomers, who have been throwing the party and leaving behind a mess for the next generation to sort out?”
Continue reading “Book Review: The Pinch”

Geeks, Geezers, and Googlization

“What is a generation?” asks Ira Wolfe in his new book Geeks, Geezers, and Googlization. “A generation is a group of people who are programmed by events they share in history while growing up… a common set of memories, expectations, and values based on headlines and heroes, music and mood, parenting style, and education systems.”

I would agree with this definition, and would add that it ties in with the concept of generation gap. Parents (and sometimes even older siblings) often do not “get” their kids. They don’t understand their vocabulary. They don’t understand what motivates them. And they absolutely, for the life of them, cannot understand why a pieced eyebrow is cool. (Who am I to criticize…in my childhood, coolness was defined by acid-washed jeans that were tightly rolled around the ankles and permed hair and makeup on male rock stars. Go figure.)

Mr. Wolfe’s book is an interesting study on the relationships between the generations in the workplace. It’s very similar in substance to the generational work done by William Strauss and Neil Howe (Generations, The 4th Turning, Millennials Rising), but it’s much less academic and, frankly, quite a bit easier to digest. Corporate executives who find themselves managing a multigenerational workforce should find the book quite valuable, as should anyone struggling to understand the generation gap in their own home, for that matter. Continue reading “Geeks, Geezers, and Googlization”