by Charles Sizemore | June 5, 2012 7:00 am
The most annoying thing about old Wall Street adages like “Sell in May, go away” is that once in a while, they are actually true.
Sure, most of the time it makes sense to be invested during the summer months. If history is any guide, they are more likely to be positive than negative. But in recent years, the summer months have been choppy and volatile and investors would have been well-served to, as the saying goes, sell in May.
This year, “sell in April” might have been better advice. After a monster first-quarter rally, fears of a eurozone meltdown have caused the market to give back most of its gains.
But is the pervasive fear justified? And could Europe really be headed for a 2008-caliber meltdown?
The short answer is “no,” though this requires a little explaining.
What happened in 2008 was the modern-day equivalent of an old-fashioned bank run, a crisis of confidence. When Lehman’s counter parties lost faith in the bank’s abilities to honor its commitments, it set into motion a chain of events that would have taken down virtually every major global bank had the Fed not stepped in and made emergency liquidity available.
The ECB learned a thing or two from watching the Fed improvise. There would be no “Lehman Brothers moment” in Europe. Bank failures, if they were to happen, would be orderly. This is what prompted the ECB’s LTRO program, which European banks used to borrow over a €1 trillion. The ECB also proved itself willing to stabilize the Spanish and Italian bond markets with aggressive open-market operations when needed.
But what about Greece?
What about it? By the time this article goes to press, Greece might have already defaulted and been booted out of the eurozone. And if not, it will be only a matter of time.
The standard line on Greece is that its default will create a market crisis that will cause the rest of the eurozone problem states to fall like dominoes. Well, this could be the case. But if so, it would be the most anticipated crash in history. And highly-anticipated market events have a funny way of not happening.
Given the absolute carnage in European stock markets, I have a hard time believing that most of the selling hasn’t already been done. A “Grexit” might prove to be a non-factor or, in true contrarian fashion, actually cause world markets to rally.
Still, I admit that I’ve consistently underestimated the severity of the European sovereign debt crisis, and I have to accept that my premise — that cooler heads will prevail and that Germany and the ECB will do what needs to be done to avert catastrophe — may prove to be far too optimistic. This could get a lot worse before it gets better if investors’ worst fears turn into a self-fulfilling prophecy.
With all of this said, how should investors position their portfolios this summer?
In my view, the market looks like a coiled spring ready to pop. The combination of excessive bearishness among investors, cheap pricing across most sectors, and a lack of attractive investment alternatives makes me believe that we’re in the midst of a fantastic buying opportunity.
But given the nagging possibility of a deep market swoon, it also makes sense to keep a little more cash on hand than usual.
I would be comfortable with a portfolio that is about 75% invested in high-quality, dividend-paying stocks. As a nice rule of thumb, I’d like to see companies that have raised their dividends for a minimum of 5-10 consecutive years.
My reasoning here is easy enough to understand. A company that was able to raise its dividend throughout the turmoil of the past 5 years is a company you know can survive Armageddon because frankly, it already has.
For a good fishing pond of high-quality dividend payers, check out the holdings of the Vanguard Dividend Appreciation ETF (NYSE:VIG). It’s loaded with blue chips like Wal-Mart (NYSE:WMT), Coca-Cola (NYSE:KO) and McDonalds (NYSE:MCD) among many other household names.
If the market turns around as I expect, VIG should enjoy roughly the same upside as the broader S&P 500. But if I’m wrong and the market takes a swan dive, you can at least rest easy knowing that you’re holding a portfolio of stocks that will almost certainly continue to raise their dividends in the years ahead. And you’ll enjoy a cash return that is better than what you would have gotten had you left your funds in Treasuries or in the bank.
And for the roughly 25% you hold in cash, I have a few recommendations for that as well.
In a recent article (See “How to Invest for a European Armageddon”), I suggested selling out-of-the-money puts on some of Europe’s battered blue chips. But if this is too complicated, simply dripping into high-quality names on dips will work nearly as well. I mentioned Spanish-listed Telefonica (NYSE:TEF) and Banco Santander (NYSE:STD) and I continue to view both as attractive today.
Disclosures: Sizemore Capital is long VIG, WMT and TEF.
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