DRIPs: A Great Income Generator to Guarantee You Being Rich

What I'm going to tell you is about investment, not trading. There is a critical difference between the two: investment is about putting your money in a sound business that you want to own (of course partially) for long-term; on the contrary trading is about short-term speculation and oftentimes, regardless of the soundness of the the business. So if you buy a stock as an investment, you really should not pay too much attention to the daily fluctuation of the stock price as long as you get in with a great value (a discount stock price compared to its intrinsic value) and the company continues to do well.

So how to create an income generator, which will guarantee you to become rich over time? The secret is reinvesting dividends and compounding. There is a widely held misconception among general investors that stocks provide growth first and income second. As soon as people hear about dividends, they would consider it just as a side-income that is nothing important in stock investment. I'd high recommend you to read the research report done by Rob Arnott, a well-known researcher/investor. He studied the stock market returns during the past 200 years from 1802-2002 and concluded that dividends dwarf the combined importance of inflation, growth, and changing valuation levels. I would also highly recommend a great book about dividend investment called The Single Best Investment by Miller/Howard. They did a study of the S&P 500 from 1935-2010 and found that you could turn $1 in the S&P 500 to $93.65 during the period to the end of 2010 if purly relying on price appreciation alone. You may say this is really very good. But you could turned your $1 into $1740 if you reinvested the dividends along the way. So what's the magic? The magic is a compounding machine via DRIPs, Dividend Re-Investment Programs. You may start with a low single digit dividend yield (say around 2-3%). If you systematically reinvest your dividends into the same stock plus a track-record dividend increase by a good company over time, you may suddenly find after 10 years or so that you probably have a double digit dividend yield against your original investment dollar amount plus you have accumulated many more shares of the stock through dividend reinvestment. This would only become better and better if you stick to the system longer and longer. By your retirement age, you may find that you have a reliable income source without you doing anything, month after month with hundreds or thousands or even more coming into your pocket! This is called a passive income, a dream for every investor! The earlier you start with DRIPs and the longer you hold onto it, the better income you will have down the road. Warren Buffet is the master of value investment, epitomizing the DRIPs, which makes him the 2nd richest man in the world. In his 2010 annual letter published on Feb 26, he happened to talk about dividends from Coca-Cola:

 

Other companies we hold are likely to increase their dividends as well. Coca-Cola paid us $88 million in 1995, the year after we finished purchasing the stock. Every year since, Coke has increased its dividend. In 2011, we will almost certainly receive $376 million from Coke, up $24 million from last year. Within ten years, I would expect that $376 million to double. By the end of that period, I wouldn't be surprised to see our share of Coke's annual earnings exceed 100% of what we paid for the investment. Time is the friend of the wonderful business.

Given the powerfullness of this system but requiring a long-term comittment, I'd not only recommend that you start to set up your income generator immediately but also help your kids to do so when they are still young. Remember, the earlier the better!!

I will tell you several good companies to consider for this system in my next blog with the exact steps. It is very easy but you need to know the right way to maximize the effect.

Silver: Strong Tailwind Can Push It Much Higher

 If you followed my blog from the very beginning, you should know that I was waiting for a significant correction for precious metals, primarily gold and sliver. Indeed, both metals did have corrected early this year: the gold price dropped over 10% and more for sliver. Is this what I expected for? Far from it. I was hoping to see much more corrections so that I could have a much better opportunity to get more of them. Actually I'm still expecting there may be some more corrections in the near future but I just cannot be so sure now, especially for sliver. 
Unlike gold which has no industry utility, silver has been widely used in the industry as well as having the monetary value. Therefore silver is more sensitive to the economic status and is much more volatile in its price. Usually it appreciates much faster than gold but can plummet much heavily as well. However, right now silver's price is supported more by its fundamentals as the monetary value than its industrial utility.  As you may all know the world is facing huge headwind with many crises in brewing: dollar crisis with a significant inflation coming up; a irresponsible government that is printing money wildly; unrepentant Iran and North Korea; sovereign debt issues in Europe;  stubborn high unemployment and foreclosure rates........ All of these factors have propelled the gold price higher and higher in the past 10 years, nonstop!
Given that the gold price has been as high as over $1400, it is too expensive for many general people. Silver, which had been used as a real money till early 20th century, is so-called "poor man's gold" as it is much affordable at the price of around $30. With much more people participating in trading, no wonder why the appreciation pace is much stronger for the sliver price than the gold. Since the correction this year, gold is still struggling in its recovery but it is really impressive that silver has not only recovered fully but has even gong over its pre-correction high: it is now around $32 per oz. With such a strong price movement, silver may go as high as $50 in the next 12-18 months from the perspective of technical analysis.
So is it a good time to buy silver now? Yes and No. It all depends on your personal situation. If you have already bought some sliver (including silver-related funds and/or stocks) like me, you can enjoy the significant paper profits on your positions and you may want to wait to see if you can get a better chance to buy more.  However, if you have never bought any silver and are waiting for a much significant correction to get in, you may be disappointed to simply wait. While I'm still hopping for some material correction in precious metals, it may not come anymore before it reaches a much higher price. Although no one can predict with any confidence about the price of anything in the near future, I'm 100% sure that 5 years from now you will see a much higher price of gold and silver, probably more so for silver. I just don't want you to feel sorry by then to blame yourself of not putting some money in silver. If I had nothing now, I would buy some and add more if a significant correction does come. You can buy SIVR or SLV for silver investment. 

MUNI: A Great Opportunity

If you are an income investor, you must know the Municipal Bonds, so-called Muni. As you may know, city governments in the US have only one revenue source, i.e. the property tax. However, they have tons of obligations to maintain the municipal operations such as social safety, school, road maintenance, and public projects etc. To fund various costly infrastructure projects, municipal governments issue various bonds. To encourage investors to buy Munis, the federal government exempts the tax for the interest income from Muni bonds. Historically, Munis are a very safe investment and a quite popular option for those who want to have stable income. It is reported that the default rate for Munis since the Great Depression has been less than 0.1%.

Due to the obvious reasons, the municipalities across the country are now facing a huge financial crisis, especially in a few states such as IL, CA and NJ, where the whole states are basically bankrupted. It was reported that Camden in NJ, which is the 2nd most dangerous town in US, has substantially cut down the police budget due to the budget crisis. That's why the famous market analyst, Meredith Whitney, claimed in CNBC a couple of weeks ago that 50 to 100 municipalities would go belly up this year and accordingly the Munis of such  states and cities would be on default totaling hundreds of billions of dollars, meaning they would not be able to pay the interests to the Muni bond holders. With this kind of news out there, individual Muni investors ( Dumb Money) are really scared and running away from Munis as fast as they can. So in the past few weeks, we have seen a hair cut of Munis prices by around 20%. This is a huge drop for Munis since they are typically very stable and don't fluctuate very much during a short period of time. For savvy investors (Smart Money), this actually creates a very great opportunity for investing in Munis, which may not come very often. 

While I do appreciate the very dire situation for municipalities, let's face it. The American people will still need to continue with their life, for which an orderly operations of municipalities will need to continue one way or the other. It is certainly possible that many cities may go default, but the majority should still be able to go through it, although may not as comfortably as in the past. In the past 100 years, the US has also gone through many tough periods, some of which were at the similar scale as this one, but the default rate for Munis has been extremely low. If the Obama government would bail out the car and real estate industries, do you really think it will simply let many municipalities go kaput, which may cause a huge social instability? I highly doubt it. That's why the Bond King, Bill Gross, openly challenged Whitney by saying that he did not believe what she said and would consider this as a great opportunity to buy Munis. He actually did so with his own money. Similarly, another top Muni bond fund manager, Lyle Fitterer,  is also very bullish on Munis.

I think you should follow the Smart Money and it is worthwhile to consider to buy Muni funds instead of individual Muni bonds. I like  Nuveen Insured Municipal Opportunity Fund (NIO) very much, which generally invests in relatively sound Munis. It recently dropped from over $15 to $12 but it has recovered a bit at around $13. At the current price, its yield (interests you get) is about 7%. Since it is tax free at the federal level, you are actually getting at about 9% if you are at the top margin tax bracket. Of course nothing is risk free. To protect yourself, you should always use a stop loss to protect your capital. I suggest you use a 10% trailing stop loss to exit this investment if its share price falls below 10% of the highest price after you have bought it.

Invest in emerging markets without buying EM stocks

I guess there is no need to say too much regarding why the emerging markets (EM) are the most attractive and profitable areas to make money. Led by China, these economies are the locomotives for the world economy. They have the money and consumers with low labor costs to support the high speed of their economic growth. On the other hand, it is also well known that EMs are very volatile since they are at an early stage of the development and therefore their policies and financial systems may not be very well established and can be changable and unpredictable. Directly investing in the EM's stocks can be risky.

 

However, there is a way by which you may directly benefit from the economy growth in the EMs but without having to buy EM stocks. This is purely a US company dominated in the retail market. This company is an irresistible (or at least unavoidable) retail force that has yet to meet any immovable objects. Bigger than Europe's Carrefour, Tesco, and Metro AG combined, it's the world's #1 retailer with 2.1 million employees in more than 8,400 stores, including about 800 discount stores, 3,100 combination discount and grocery stores in the US and ASDA in the UK, and 595 Club warehouses. The company's international division (25% of sales) is growing at a fast pace; it's the #1 retailer in Canada and Mexico and it has operations in Asia (where it owns a 95% stake in Japanese retailer SEIYU), Europe, and South America. By now, you must know which company I'm talking about. Yes, it is WalMart! This is the superpower which can make money almost anywhere. Most recently it has just announced that is will open stores in South Africa. By investing in Walmart (WAL), it is gauranteed that you are significantly exposed to the EM markets and take the advantage of their speedy growth and make money along with the success of Walmart. The other beauty of buying WAL is that it is very cheap (even in this crazy market), a great dividend gusher and very stable in bearish markets. Actually it was one of very few companies which made money in the stock market in the worst recession in 2008-2009 after the Great Depression. I really like Walmart and it is one of few buy-and-hold type of stocks in my portfolio.

The market is schizophrenic and where to put your money

It was reported that 36,000 jobs were created last month, which is way less than what was expected. However, miraculously the government also reported that the jobless rate dropped from 9.8% to 9.0% in January. Of course, while no one with a right mind can reconcile these two numbers together, we have seen again and again all kinds of miracles from this government in handling the economy. Everything looks rosy and all the problems are in the process of being resolved. No wonder why the bond king, Bill Gross, one of the best economists and investors, said today that the job report is schizophrenic. I cannot agree more and would also extend this by saying that the market and the recent Euro appreciation are totally schizophrenic!

For those who is not familiar with this medical term, schizophrenia is a mental disorder characterized by a disintegration of thought processes and of emotional responsiveness. Simply put, this is the mindset which is totally discordant from the reality. Take the Euro as an example, have the Euro zone countries done anything in the past weeks to fundamentally solve any problems they are facing? None! They still have the huge deficit problems and most of them are still at the edge of default. However, the Euro has appreciated significantly in the past few weeks. To me this is just like a schizophrenic patient who is in the phase of extreme euphoria. I simply keep shorting Euro. Actually the whole stock market is behavioring just like that.

Of course, I'm just too small to fight against the market. While I have been expecting a major correction for quite some time and I think it is very dangerous to buy stocks at the moment, there is no telling when this schizophrenic stage will end. Who knows that this market may keep propping up and up for weeks and months regardless how irrational you think it is. For those of you who really want to join this bullish market, I suggest you put money into big and well-run companies, which may better weather storms in the stock market. Even better if you can diversify your money into good companies around the world. Interestingly, I have found one such ETF fund, which just does that. It is called Ishares S&P Global 100 index fund (symbol: IOO), which tracks the performance of 100 large-capitalization global companies. More interestingly, this fund also pays dividends at about 1.5%, which is likely much better than the interest you may get from your bank's saving account. If you do want to put your money into work right now, I highly recommend that you use a tight stop loss to preserve your capital in case the market turns around against you.

Follow up regarding Orexigen's fate

Today FDA's decision was released: Orexigen's obesity drug was rejected by the FDA. It seems this news was a huge shock to most traders and the OREX share price dropped by 70% today.   On Dec 2, 2010, I bet that the FDA advisory committee would not vote in favor for OREX. However, I was wrong as on Dec 8, they actually voted positively for it. In my follow up blog I said I still doubted the FDA would approve it. Here was what I wrote on Dec 8, 2010:

However, given the information  as well as the fact that the final decision is in the hands of the FDA, I still doubt highly that the FDA will give a straightforward approval. More likely it may be either a very restrictive indication which will mean much less commercial value for the company or an approvable letter requesting more data or even studies before final approval. If that happens, it will be a huge blow to the stock price, which is currently priced in a full approval outright.

This is exactly what happened: the FDA asked for more studies before it can be satisfied for an approval. This is really brutal for a company with only one drug waiting to be approved. Hope you were not hoaxed in by the hype and put your money into this stock.