Friday File: What does the Fed want us to buy?

by Travis Johnson, Stock Gumshoe | March 22, 2019 3:26 pm

Some thoughts on where the market's headed this year (like I know), and a few small buys on the week (updates on NOK, ERIC, BOMN, ATVI, EA, GOOG, BRK-B, MKL, DOCU, IIPR and more)

It seems we’ve officially entered a period of another “Fed Put” — Fed Chair Jerome Powell’s statements yesterday were widely interpreted to mean that there will be no interest rate hikes this year, or maybe ever again, and that the Fed will stop its “quantitative tightening” in six months or so, leaving a huge and unprecedented balance sheet in place that they apparently no longer feel the need to reduce. And the bond market immediately reacted to tell us that they are now sure the next move in interest rates will be down.

Which is absolutely extraordinary in the face of a decent economy, unemployment rates that are arguably too low, at least in urban areas, and solid if slowing economic growth with some signs of underlying inflation maybe trickling down from asset prices to consumer prices.

That means, so we interpret, that the Federal Reserve’s job is now protecting the stock market and making sure that the S&P 500 doesn’t ever fall again like it did in the fourth quarter of last year. Maybe Federal Reserve Chairmen react to a threat that they’ll be fired the same way the rest of us do, at least subconsciously: by doing whatever our boss wants.

So yes, we should probably be terrified by the notion that a dozen economists at the Fed are trying to prop up the stock market and protect it from some possible weakness as the global economy slows down. But we should also acknowledge that even if we think it’s the wrong thing to do, the Fed is effectively focused on keeping asset prices high, including stocks and real estate… and that extraordinary monetary measures have worked very well for stock market investors for the past decade (we just passed the 10-year anniversary of the market bottom a couple weeks ago), so how on earth can we be so presumptuous as to predict when they will stop working?

The goal, after all, is to grow our savings so we can retire someday or meet other financial demands in the future, often decades into the future… it’s not to be right, or to prove that you’re really smart at forecasting.

Certainly there’s no immediate threat to the US$ that I can see out there on the horizon, not with the Eurozone trying to find new ways to implode and every other major economy trying to either stimulate with big spending using debt and currency depreciation, or set interest rates forever lower and lower to encourage (or force, really) asset price appreciation. Yes, we have way too much debt, and it should be a problem that comes home to roost someday… but compared to the other giant buckets available to global asset managers, the 2% you can earn holding US$ looks pretty fantastic — and plus, the US still has lots of aircraft carriers, the most open and liquid financial markets, and the power to squash or support giant global companies, so who’s going to really cross us?

I am forever worried about that sentiment, and it makes me uncomfortable, but I assume it’s going to take an exogenous shock or disaster of some kind to shake it — if the market is going to fall hard, next time won’t be like the past few times. It won’t be because the Federal Reserve is being too conservative in tightening monetary policy and “takes away the punchbowl” to slow down the party before someone turns up the music too loud or starts a fight and the cops get called (I’d say that Fed Chair Powell just poured another bottle of Everclear into the punch bowl, in fact)… it will be something else of the genuine “black swan” variety that causes a cascading fall in investor or consumer sentiment and starts the selling (which would presumably be ugly again, similar to 2008 in some ways, because there is so much margin borrowing in the market and so many hedge funds are concentrated in the same ideas, as usual).

So it’s worth keeping some cash on hand and hedging a little, I think, and who knows, maybe the Federal Reserve really will cut rates sometime later this year if the weakness elsewhere is making the dollar too strong… but it’s probably silly to try to guess when the next big disaster might come. Be prepared for ugliness, but don’t bet on when the ugliness happens.

In a low-growth “goldilocks economy” world that’s neither so hot that we need higher interest rates, nor so cool that unemployment is rising and rates have to be cut, which is what the consensus seems to expect right now (10-year bond yields, which are supposed to be the “smart money,” are telling us that interest rates will eventually go down again… but no one knows when), my prediction is that both emerging technology (and similar) growth stocks and dividend growth stocks will outperform.

Non-cyclical companies that have rapid growth should continue to be seen as very valuable… and with falling rates at the time that most Americans are either still afraid of the stock market thanks to the last crash (millennials) or desperate for income and not able to settle for 2% bond yields (baby boomers in retirement), both high profile brand name growth stocks (like the FANGs and the cloud stocks, or Lyft, Pinterest and Uber when they IPO soon) that might appeal to millennials, and stable-seeming dividend growth stocks like REITs, consumer staples companies and utilities should do very well if their dividends are high enough (or growing fast enough) to catch attention.

It’s no coincidence that in the 24 hours after the Powell press conference on Wednesday, the REIT index and the Nasdaq 100 gained more than twice as much as the S&P 500 (1.6% and 2.2% to 0.8%, respectively, so it’s not a huge move… but that’s where the initial sentiment shifted, and, despite today’s “what if everything slows down” panic selling, I think it’s likely to be where we head for the foreseeable future).

That may trickle over to other high-yielding sectors as well, like pipeline Master Limited Partnerships (MLPs) and Business Development Companies (BDCs), but MLPs still are very volatile around energy prices and regulation and BDCs are often seen as higher risk cyclical bets on small business, with concern about default rates among their investee companies when things get ugly, so that’s a little further out on the risk scale. And those stocks generally have scarier balance sheets and/or accounting/sustainability concerns to go along with their higher yields.

I’m guessing, though I wouldn’t shift my long-term portfolio around based on guesses, that this is likely to lead to a relatively weak year for some of my larger holdings, like the insurers Markel (MKL), Berkshire Hathaway (BRK-B) and Fairfax Financial (FFH.TO, FRFHF) and the commodity royalty companies Altius Minerals (ALS.TO, ATUSF) and Sandstorm Gold (SAND), so maybe I’ll see some more buying opportunities in those names as the year progresses… though if the dollar ever does weaken a bit that will help commodities, and I’m pretty confident that the compounding of cash flow will continue at the big insurance conglomerates even if their investment portfolios don’t outperform in the near term.

Berkshire, in particular, is going to be weak in the short term if the big banks are weak thanks to falling interest rates… though all insurance companies see some softness in their investment returns when bond yields stay low, since they all have to have a large portion of their portfolio in bonds to meet the likely claims that will come in any given several-year period. And, of course, Berkshire is still in position to do something huge with their $100+ billion in cash if an opportunity presents itself, and that could change perceptions pretty quickly.

My personal inclination would be to begin shaving away some profit from the crazy-valuation tech growth stocks in my portfolio, like The Trade Desk (TTD) and Arista (ANET) and Okta (OKTA), but given the Fed’s new “we promise stocks will go up” stance and the lack of real growth in big-cap stock world, I’ll keep letting them ride for now (in fact I did a little buying, more on that in a moment). I think the market might pay even more for growth than it has been paying, partly because of the need to boost portfolios in a boring world and partly because lower interest rates make future earnings more valuable than they had been six months ago (many models discount future revenue streams or cash flow using something like the risk-free treasury return as their discount rate… and as that rate falls, so too does the discount).

I still have the hedges I put on a year and a half ago and extended last year, by the way, and they’re still a drag on my portfolio — but they also help me to sleep at night, and help me to hold stocks that are frightening to hold at steep valuations… which has let my portfolio beat the market over the past couple years even with my losing allocations to hedges, cash and gold. I’m not shooting the lights out, to be clear, I’m not posting market-clobbering returns, just beating the S&P by a tiny bit with, I think, less risk thanks to the stocks I’ve chosen and the gold, cash and hedge or arbitrage positions I’ve used with 15-20% of my portfolio that help me give freer reign to the other 80%.

And I should be clear: If you’ve paid attention to my forecasts over the years, you will know that this is all almost certainly going to be wrong… and since I know that, most of the changes I’ve made to my portfolio this week are the equivalent of tinkering.


So what are those changes this week?

I added very slightly to my Arista Networks (ANET) position today, boosting it by a little over 10%. The stock surged 5% or so when Goldman Sachs added it to the “Conviction Buy” list earlier in the week, and gave it up today on the global growth slowdown worries… and I’d bet on Goldman moving the market before I bet on investor sentiment on a rainy Friday.

Arista Networks is a momentum growth stock that’s trying to take share in a huge and fast-growing industry… and the valuation is obviously crazy. That doesn’t mean you can’t buy it, I’ve built a small position, but it means you have to expect wild swings and serious risk and manage your allocation to stocks like this carefully. The best risk management comes from asset allocation, and from taking seriously the “only invest what you can afford to lose” stipulation.

But it’s also true that stocks like this react to pretty much any bit of news, so I also perked up my ears when I noticed this upgrade with in the week from Deutsche Bank (before Goldman’s upgrade) — this is the summary from

“Deutsche Bank upgrades ANET to Hold from Sell and raises their tgt to $225 from $190 on their updated FY19-21 Top Line and Earnings estimates ($225 PT is ~20x EV to FCFF on their 15% Top Line CAGR view; growth tech stocks typically trade at a slight premium to consensus expectations for next few years of growth). Firm admits that while their prior SELL thesis hinged on their fundamental caution on Y/ Y growth in non MSFT Revenues, so as to partly offset anticipated deceleration in MSFT Revenues this year (MSFT was a 27% Revenue customer in FY18; up ~120% versus FY17), the latest 7368X4 Cloud Switch announcement from ANET, with FB as a customer, suggests to firm that FB, in particular, could gap up their modeled Revenue growth view from FB and other Cloud and Content Providers – from 0% in FY18 to ~15% in FY19E. It is also firm’s view that the ANET 7368 series Spine Switch is likely to be currently utilized by FB and other Cloud Providers in a dense 100G architecture versus in native 400G mode, in part due to commercial availability of 100G QSFP Optics. They anticipate 400G QSFP DD Optics for Intra Data Center Leaf Spine Connectivity, and 400G ZR Optical Modules for Data Center Interconnects, to be available in early scale in CY20+.”

That’s some interesting analysis of the possible cash flow from a couple of Arista’s major customers, and the adoption pace for 400G equipment that should create the next data center growth surge, and that’s valuable, but don’t mistake the valuable research that sell side analysts do with any wisdom about where the price is going in the next year or what you should do with your shares. This analyst, with a straight face, moves the price target up to $225, which is 25% below where the stock now trades, and calls that an “upgrade” to “hold.” Why on earth would you want to hold a stock if your best analysis leads you to expect a 25% drop in the coming year?

Maybe they’ll be right about the cash flow and about the fact that Arista is overvalued, maybe they won’t — that is at least useful information. But the “upgrade” to “hold” is ridiculous — if you think the stock is still wildly overvalued, and has moved from being 35% overvalued to 25% overvalued, at least have a little discipline to say it’s a “sell.”

Of course, it might be hard to get any investment banking business from Arista if you put a “sell” on their stock… or from anyone, really, if you put “sell” on a lot of the stocks in your coverage universe… but that’s not supposed to matter anymore, right? Analysts are independent and don’t care about the investment banking business or what kind of profit their parent bank makes, right? (OK, in the case of Deutsche Bank that should be “care about survival and keeping a job” instead of “care about profits” …. but still).

Just a little dose of cynicism there, ignore me.


I also added to my Zayo (ZAYO) position today. That’s the stock I started buying a couple months ago because of the potential for them to get a higher valuation as they begin the process of converting their telecom infrastructure assets into a REIT, and then added to when it looked like Starboard and other active managers were going to renew their push to put the company up for auction — either way, I think there’s a pretty GDP-agnostic path for the stock to gain 15-25% from here over the next two years… and if the activist hedge funds get their way, that might accelerate to 3-6 months.

We’ll see what happens, but falling interest rates tend to spur more M&A — especially private equity acquisitions, since those tend to use a lot of leverage, and lower borrowing costs mean they can pay more to buy companies.

Starboard’s activist push for Zayo to sell the company or more actively restructure to increase returns made it into Barron’s last weekend[1], though that didn’t immediately impact the share price… we’re mostly still just waiting to see what comes of Zayo’s meetings with shareholders and possible bidders, and whether they decide to engage with their possible acquirers or put themselves up for sale and look for other acquirers… or just try to reorganize, cut costs, and set themselves up for that REIT conversion in a couple years as they had originally planned.

I should be clear about one thing: Buying for a takeover bid is usually a mistake, though I think there is enough pressure on Zayo that something material should come of it… not necessarily in a matter of months, but it is certainly possible that something material happens soon.  That could be a “back off, we’re doing fine with our restructuring” message from management, too, which could cause the shares to quickly fall 20%, or an indication that they’re putting themselves up for sale that could cause the shares to spike by 20% (those numbers are my guesses, nothing more).  

I think the probability is that they will move higher, given the value of their assets and the growing trend of acquisitions in the communications infrastructure space, but the probability is certainly not 100%.


Quite a few of you have already sent questions in to me about Nokia (NOK), which released its 20-F yesterday (that’s the foreign issuer version of a 10-K, the annual report to the SEC). I’ll go into this a little more, but the short answer is, “I bought a little more today” on the dip. Here’s what’s happening:

Nokia included a new “risks” paragraph in its 20-F that indicated they might have a compliance problem with the Alcatel-Lucent business they bought a while back. Here’s the paragraph that caused everyone to lose their minds a little:

“During the course of the ongoing integration process, we have been made aware of certain practices relating to compliance issues at the former Alcatel Lucent business that have raised concerns. We have initiated an internal investigation and voluntarily reported the matter to the relevant regulatory authorities, with whom we are cooperating with a view to resolving the matter. The resolution of this matter could result in potential criminal or civil penalties, including the possibility of monetary fines, which could have a material adverse effect on our business, brand, reputation or financial position.”

And that’s probably exacerbated by two other news items that have hit in the past 24 hours — that Nokia announced they will not be selling new business in Iran because of conflicting sanctions regimes (European companies can do business with Iran, US companies or those who want to stay friendly to the US market cannot), and that a new report indicates some new Nokia phones were breaking privacy rules by sending data to Chinese servers.

Neither of those is likely to be material to Nokia, the Iran business is small and Nokia no longer makes phones — but the complaints about the Nokia 7 handset could certainly have a reputational risk for the company (Nokia sold its handset business years ago, first to Microsoft and now to a Chinese company called HMD, but it does still license its brand to those operators).

So the concern is likely to be that the Alcatel-Lucent business, which has gotten in trouble with the Foreign Corrupt Practices Act before (many telecom stocks have — companies that do huge deals with government-controlled telecom operators are apparently nearly as prone to bribery issues as oil and gas companies), is going to generate more fines or black marks for its newish parent. Here’s what Nokia said in their response to press inquiries today[2]:

“While Nokia does not typically comment on market rumors, given the market reaction and inquiries related to a disclosure in the risk factors section of its annual report on Form 20-F for 2018, the company issues this statement to clarify that the specified investigation is not expected to have a material impact on Nokia. We have seen no evidence that would suggest that criminal penalties would apply in this case, and we believe it is highly likely that any penalties that might apply would be limited and immaterial….

“For audit purposes, the overall group materiality is defined as EUR 125 million as disclosed in Nokia’s annual report for 2018.”

People are pretty eager to sell today, and they sold down lots of stocks, so Nokia’s initial drop overnight seemed dramatic at close to 10%… but what it settled down to was a 5% loss or so today, more or less in line with peers (Ericsson, for example, was down almost as much with no similar “bad news” alert).

I’ll take Nokia at their word that this isn’t likely to become a material issue… partly because if it was going to a big deal, they would not have hidden it in the 20-F and would have made a more direct announcement. And as I still think the $6 level is a good buying point, I added a little as it drifted below that.

There’s also been some more recent press coverage about Europe pushing back against Trump’s anti-Huawei campaign, and the “Nokia and Ericsson will benefit from the pressure on Huawei” story has been part of what’s driving both those stocks recently, so there’s a pretty solid wave of negative news and no big new positive news recently… other than, of course, the continuing push from a few big newsletter publishers who keep teasing Nokia, in particular, as the best 5G play.

And yes, I also added slightly to Ericsson (ERIC), as they had their first meaningful dip in a while today — perhaps partly in sympathy with Nokia, partly because of European growth slowdown fears, partly because of the ongoing debate in Europe about how quickly to build out for 5G.

Nothing really changes in that story, and there’s no immediate reason why those stocks should surge, but I continue to think there’s a very high probability of a sustained multi-year investment phase for 5G that will benefit both Nokia and Ericsson, with or without Huawei being officially “blocked” by the US Government. The market likes to react to things, though, so if Huawei somehow gets out of Trump’s doghouse, NOK and ERIC might well fall another 10%… which I’m likely to consider another buying opportunity, though that’s easy to say now.


As I noted when I sent around a Trade Note, I also bought more DocuSign (DOCU) this week — Their new suite of products and upgrades/updates was announced earlier in the week, referred to as the “Agreement Cloud” and essentially an effort to tie in their existing e-signature product to a seamless, cloud-based document management system that includes contracts, e-signatures, and non-signature agreements (like when you click on a “accept privacy agreement” box when joining a website, etc.)

Part of what struck me as pretty compelling was the ID authentication service they’re offering, bringing an extra level of verification — checking European or US official IDs quickly and online instead of requiring you to take a picture of your driver’s license and submit it for bank accounts and things like that.

The major problem for DocuSign continues, of course, to be competition — they aren’t the only company that can do these things, but I’m impressed that they’re combining them in what looks to me like a pretty compelling offering. I’m outside the business and am not a customer, so I could be misinterpreting what’s on offer here, but I’m impressed. I boosted that position by about 50%… still a very small holding in the Real Money Portfolio[3], but growing.


The other change this week? I also sold some covered calls on part of my Starbucks (SBUX) position. I think that stock should do quite well over the next five years as they enjoy decent top-line growth and strong dividend growth, but it’s now at a much riskier valuation than it was when I started buying in the $50s last year, with much higher expectations, so if investors want to bid it up another 2-3% in the next few weeks, I’ll happily sell a portion to them. Those covered calls I sold are the April $74s for $1.30, which doesn’t make a big impact… but that’s about 2% income on that position in a month, and I’d be inclined to shave off some profits at $75 anyway (my “reasonable to buy under” price is still $65), so that works out well for my purposes.


And some thoughts about stocks that I’m not buying or selling at the moment…

Boston Omaha (BOMN) released their annual earnings and shareholder letter, and we’re beginning to see the impact of the big investments they made in expanding the billboard business last fall — that’s now by far the biggest investment area for the company, with more than half of their invested capital going into acquiring billboards, and it’s also likely to be profitable this year on a cash basis (not counting depreciation) and to grow gradually more efficient over time.

That’s looking like it will be a solid cash-generating business for a long time, particularly as they begin to put a little leverage on it that befits the long-term and steady nature of the business (most billboard companies carry a ton of leverage, Boston Omaha currently has none), but the surety insurance business is proving to be much more difficult and expensive to scale than I would have anticipated and will be a drag on the business for a considerable period of time… which is tough, because surety is an inherently low-return business anyway, and depends on scale to become efficient.

All reason to think of this as a slow burner, and as a potentially impressive cash-rich investment conglomerate that has not yet proven itself… but that talks a very good game and tries to explain itself in a very shareholder-friendly way, clearly emulating co-CEO Alex Rozk’s great uncle Warren Buffett in their annual shareholder letters[4] (though, as clearly, there is no connection between Berkshire Hathaway and Boston Omaha, and Buffett is not invested in his grandnephew’s business).

I continue to think that the strategy and the leadership team is impressive enough to pay up to 2X book value for their still developing investment portfolio, though that’s arguably being too generous, so if you do that and then add back in the cash ($94 million) you get about $580 million, about $26 a share… so no real change in my assessment of what “fair” value or a “max buy” price might be.

I’m hoping to get to the annual meeting in Boston on June 8 to get a more personal impression of the company and see if that makes me more or less comfortable with management and their strategy (they alternate these meetings between Boston and Omaha, I’ve not yet been to one). The annual meeting presentation is here[5], if you’re curious, it’s light on details, the Annual Letter[6]is much more informative.


It seems we’re going to end up mentioning Innovative Industrial Properties (IIPR) pretty much every week. That holding continues to get an overwhelming amount of press and attention following a strong fourth quarter and another impressive dividend hike, including a Barron’s mention yesterday[7]. The dividend has now risen 200% in the almost two years since they initiated the dividend, and price tends to follow dividend increases… though the ramping up of the stock price has outpaced the dividend growth considerably so far (the share price is up more than 400% in that same time period), probably mostly because this is a stock people have been buying primarily for the “safer exposure to pot” story, not just for the dividend.

I expect that to moderate over time, but we’ll see.  Another 15% surge this week has my heart palpitating a little bit, but holding on to winning investments that are being enthusiastically acquired by investors tends to be the better call… as long as the stock doesn’t fall apart or become fundamentally worse in some way.  If you’re watching the downside, the VQ stop for IIPR is now around $56, a standard 25% stop loss would be $68 or so.  I still think the most likely range is $50-$140, so $95 would be when we tick over into the downside risk matching the upside potential.

That’s not to overstate the analytical firepower inherent in those numbers, which is weak at best, it’s to provide some framework for how I’m thinking about this position, the increasing risk to my portfolio from a 5%+ weighting in this one small growth REIT, and what price triggers might cause me to reduce that risk and take some profits along the way.  So far, still holding tight… though my knuckles are turning a little white.

What sticks in my mind for stocks like this, with a strong dividend growth trajectory but also a nosebleed valuation, is the battle between the Charlie Munger in me (he always says the secret to compounding is “never interrupt it unnecessarily”) and the constant temptation to “sell high” (which tends to be a mistake in the long run, but as the old saying goes, it’s not a profit until you sell).

Does one move to technical analysis to try to make sense of this?  IIPR has an RSI that’s above 70 now for the first time in a while, at 75 or so, and has always come down from that quite quickly… but also recovered from those dips quickly enough that trying to sell a the top and buy back on the dip would be a fool’s goal.  None of us are that nimble, and technical analysis is not that reliable when dealing with a single stock (it can be quite reliable as a momentum indicator when dealing with a big portfolio that  you’re trading in and out of every day, mostly because other momentum traders use those same indicators, but we’re not dealing with odds or whether it’s 50% accurate or 60% accurate in this case, we’re dealing with one actual position that has a meaningful weight in a real portfolio).

If you think of IIPR primarily as a REIT, it’s bananas.  REITs don’t trade at 40X sales, and there’s almost never an exception to that — if you think of it as a momentum growth stock in a hot trend, it’s still performing very well, still has momentum, and still (just barely) carries a 2% forward dividend yield to go with its 80% dividend growth rate, which sounds much better. I wouldn’t buy IIPR here, I still think the shares would have to dip considerably to be a compelling buy, but I’m still holding.

Speaking of Innovative Industrial Properties (IIPR), I thought I’d call your attention to a comment I got recently about the preferred shares, indicating that some folks find the preferreds appealing.

Preferred stock is like a mix between a bond and a stock — it is generally offered at $25 a share and carries a high dividend that is guaranteed to be paid before any common stock dividends (though after other borrowing costs are paid, from bonds or other loans). Preferred shares are sometimes also convertible into common stock (IIPR’s are not), or callable by the issuer after a particular date… which is where we run into problems with the Innovative Industrial Properties Series A Preferred shares.

IIPR-PA (tickers vary for preferred shares, so you might see IIPR-A or IIPR PRA or any number of variations — there’s only one tranche of preferred shares for IIPR) is indeed available for trading if you like, and given the very low level of debt at the parent company it’s still a very solid bet to keep paying its dividend even if something terrible happens at the company… but, sadly, it’s not likely to be a profitable bet at these prices.

The key for IIPR is that although it is a perpetual preferred stock and could theoretically keep paying out its $2.25 per year in preferred dividends forever, it also has a call date on which IIPR can buy back the preferreds at par, which is $25.

That would be fine if the stock was trading within a dollar or two of the call price, even up to $27-28 or so, since the preferred dividend is high and risk is substantially reduced from when the preferreds were issued — but earlier this week IIPR-PA, perhaps riding the enthusiasm of IIPR, was trading at $32 a share.

That means, to simplify, that you’re spending $7 in order to get $8.43 in dividends over the 15 quarters remaining until the call date is hit (the call date is 10/19/2022). So, if we assume the preferreds are called, which they should be if IIPR has the liquidity to do so and can get funding at better than 9% at the time, as they should easily be able to do (IIPR was a $100 million company when they issued these Preferreds, it’s now a $900 million company and has had great success raising money through both equity and convertible debt, at much lower cost than 9%… and the Preferred is a small issue, I think only $15 million in total and easy to refinance), then the total value of IIPR-PA in 2022 is $25 plus the $8.43 in dividends you’ll receive between now and then.

$25 in 2022 should be worth about $23.50 to you now if it’s fully guaranteed, using a 2% discount rate (what’s that mean? Think about it this way: if you put $23.50 into a CD now, you’d get back $25 in three years, at no risk, that’s what a discount rate is supposed to illustrate as you try to guess at the value of time), so IIPR-PA’s maximum possible value should be $32 — meaning that’s the price at which you are just parking your money and will not receive any return. It would actually be slightly less, since you should discount the dividends you’ll receive slightly as well, and since you’ll pay taxes on the dividends, but that’s not a huge impact so we’ll stick with the round number.

That means if you pay $32, you get most of your cash back in three years but get no gain. If you pay $30, which is what the preferreds dropped to this morning, you get a total 6.5% return before taxes across about 3.5 years — almost exactly the gains you would get in a high-yield savings account right now (6.5% total, not annually). This should be an almost ideal candidate for shorting if you can do so at $32 and do not have to pay a big carry cost for the short.

Of course, to short the preferred shares you’d have to pay whatever the fee is that your broker charges, and you’d be on the hook to pay those dividends in cash (the person you borrowed from is expecting them, after all)… which is an annoyance and a cost, so it’s not an easy short. I’d assume that the market will eventually figure out that IIPR-PA is at least 10% overvalued here and more likely 20% or more overvalued, and I can’t come up with any good reason to buy those preferreds at anything over $28 a share, but, sadly, I looked it up and the cost to borrow is close to 20% at Interactive Brokers right now, so those fees would eat up the potential profits unless the preferreds reset immediately lower (borrowing costs for shorting a stock are annual, so a 20% rate would mean you’d pay roughly 1.6% to hold the short for a month — every broker is different, and the cost to short can change as the availability of shares to borrow waxes and wanes… stocks where it’s hard to borrow and there isn’t as much availability cost more).

So no, it’s not actually an easy short once you get into the numbers. But I certainly wouldn’t buy it. I sold my preferred shares when they breached $28 last year and put that money into IIPR common, which worked out nicely — I’ve got no qualms with buying IIPR/PA as a safe yield play as long as you can pay something near par ($25), but remember to calculate the yield to a $25 call in October 22, not just the current cash yield (which does indeed look impressive at $30, about 7%).

So remember, preferreds aren’t quite as solid as bonds but are generally “safer” than stocks, and can be appealing, particularly for REITs that don’t carry a lot of debt (meaning that the preferreds hold a strong place in the capital structure and should act kind of like bonds)… but they are very sensitive to interest rates and they do generally have a ceiling — particularly if there’s a call/redemption date anytime in the next few years. They don’t go up just because the common stock of that company is going up.


Activision Blizzard (ATVI) and Electronic Arts (EA), both stocks which are on my watchlist but that I haven’t convinced myself to buy yet, caught a big bid late in the week thanks, it appears, to Alphabet’s (GOOG) introduction of its upcoming Stadia service for online gaming.

That appears to be awfully premature, though both stocks were so beaten down that it probably didn’t take much to get a little buying underway — lots of folks, me included, have been looking for a reason to buy these gaming giants. Stadia itself is not yet available, though it sounds pretty cool — it’s essentially a network-connected gaming service, in the physical form of a wireless gaming controller, that will presumably be subscription-based and allow instant gaming on major games without buying or downloading the game to a console or computer.

They have a lot of partners, and it sounds incredible — particularly the ability to immediately jump into a game when you’re watching someone else play the game on YouTube, and to get instant help from Google for new games — but lots of things sound incredible. We’re all looking for that “Netflix of video gaming” to emerge, and maybe it will someday… but we should note that all of the major players are investing in their own variety of video game streaming, it doesn’t yet work great for the high-end games, and we don’t know where the money will be made or who will “win.” This isn’t like video streaming, where Netflix staked its territory (and bet huge) on a business that didn’t yet even exist or make sense to people, it’s widely believed to be the future and lots of $50+ billion companies who have money to burn are chasing that future. It’s a very different competitive landscape if everyone agrees on what the future looks like.


With the Fox/Disney (DIS) merger now official and approved, and Disney+ the next major thing investors are looking toward (along, of course, with the opening weekend of the next Avengers movie in a few weeks), it’s time for all the dithering back and forth about whether or not Disney will succeed and Disney+ will “take a bite out of Netflix”.

I’m on board as believing that Disney has better odds than most of dominating the entertainment future, just because it already dominates in the most important area (creating characters that people actually want to see or experience, and turning those characters and stories into huge and compelling businesses over time across films, TV, parks, consumer products and more), but I found this article by Matthew Ball[8] pretty interesting for a more detailed look at the possible reasons Disney+ will succeed or fail. Worth reading if you’re a Disney investor (or potential investor).


For those who are owners of Markel (MKL) or considering buying that insurer as the share price dips, I found this recent article on their insurance-linked securities business[9] worthwhile. Markel’s still betting bit that “other peoples’ money” will be a growing part of the insurance market, and they’ve got a dominant position in that business now. So far it has caused them headaches, but I’m inclined to trust their enthusiasm for the future. Markel is a stock I’ve been pretty committed to for a long time, and am very unlikely to sell, so your perception might be quite different.


And now, some reader questions:

Reader B. — “For a period of time, I wasn’t receiving email teaser. Did you an annual review of all of the stocks that you have sleuthed, or something there of?? Could you forward it or a link. TY”

Sorry about the lack of email, delivering email to those who want it is one of the bigger challenges in our world — sadly, anything to do with money or stocks has a high likelihood of getting caught up in spam filters, and email providers become continually more aggressive in their effort to protect you from spam… which I applaud, but we often get caught up in it.

To answer your question, I do an annual review of my own portfolio at the start of each year, summarized here[10].

And we track all the picks we sleuth out on our spreadsheets on our Tracking page[11] (I’ll be adding the 2019 spreadsheet very soon).

In terms of articles, I generally write around the end of the year about the best teaser picks of the year, and at Thanksgiving I highlight the “Turkey of the year” — those articles are here:

Best Teaser Stocks of the Year[12]

2018 Turkey of the Year[13]

We had a reader post a discussion on this topic:


With a question about “Various ads telling you ‘how’ to collect government money that ranges from several hundred to thousands of dollars/month.”

We do see these kinds of adds all the time — often headlined with the word “Checks” — “Trump Bonus Checks”[15] or “Federal Rent Checks” or “Freedom Checks”[16] or dozens of other similar-sounding ideas.

In pretty much every case, these are investments — they are not, of course, “free checks” or “benefit” programs, they are investments you can make that provide income in exchange for the risk you’re taking in buying a share of an enterprise. Most often they are REITs or MLPs or similarly high-yielding pass-through entities, but the same kinds of spiels are used to tease just about any investment that pays a dividend.

The sad news for most readers is that, of course, the huge numbers teased in the ad are what catch the eye but the yield on these “bonus checks” (or whatever they call them) is always something much more pedestrian. These days you can typically find dividend yields from pretty steady REITs that are in the 5% neighborhood, and pipeline MLPs in the 8% neighborhood. Those are expected annual yields, they are not guaranteed, and your investment capital can also be lost or fall in value.

So what does that mean for “income?” That translates to you making an up front investment of anywhere from $15,000 to $25,000 for each $100 in monthly income you want to try to achieve from dividends. Not terrible, but not what most people are dreaming about when those ads fill their minds with images of free checks dancing down from the stars.

And I’ll close it out today with a quick follow up: A reader encouraged me to look into Ebix (EBIX) a week or two ago when their plan to keep acquiring Indian companies and get into the online travel business hit our shores in the buyout offer for Yatra Online.

I did dig in a little bit, not a thorough look at all, and haven’t convinced myself that I’m interested in this roll-up at this point… but in case you’re looking for the bearish case on EBIX, check out the work of Viceroy Research[17] (which has been following EBIX as a short for a while).

I don’t know enough to judge how right they’ll end up being, but it’s important to take opposing analysis seriously… especially if it’s thoughtful and backed up. They don’t have to be right for them to alter your perception of a stock you’re looking at, and getting a thoughtfully-researched negative take on a stock is a valuable and still pretty rare treat in this world.

I think I probably differ from a lot of folks in my belief that short sellers are the friend of the individual investor, but I stand by it — sure, they can be scammy and misleading just like the pump-it-up analysts, but they have more at risk and they generally do their research, often to great public ridiculous and sometimes at personal cost, and sometimes they point out truly dangerous flaws or scams that other people didn’t take seriously. Always listen to the shorts before you decide they’re wrong.

And frankly, these days, “learn how to short stocks” is probably something we should all be putting on our to-do lists.

Have a great weekend everyone, thanks for reading, and I’ll be back with more blatheration for you before you know it!

Disclosures: Of the companies mentioned above I have equity and/or option positions in Ericsson, Nokia, Arista Networks, Starbucks, DocuSign, Boston Omaha, Innovative Industrial Properties, Alphabet, Berkshire Hathaway, Markel, Fairfax Financial, Altius Minerals and Sandstorm Gold. I will not trade in any covered stock for at least three days, per Stock Gumshoe’s trading rules.

  1. made it into Barron’s last weekend:
  2. their response to press inquiries today:
  3. Real Money Portfolio:
  4. emulating co-CEO Alex Rozk’s great uncle Warren Buffett in their annual shareholder letters:
  5. annual meeting presentation is here:
  6. Annual Letter:
  7. Barron’s mention yesterday:
  8. this article by Matthew Ball:
  9. this recent article on their insurance-linked securities business:
  10. annual review of my own portfolio at the start of each year, summarized here:
  11. on our Tracking page:
  12. Best Teaser Stocks of the Year:
  13. 2018 Turkey of the Year:
  15. “Trump Bonus Checks”:
  16. “Freedom Checks”:
  17. check out the work of Viceroy Research:

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