SET Monthly Issue June 2012

| June 19, 2012

June 2012


Europe is once again dominating the headlines.  Unfortunately, none of it’s good for stocks or the economy.

It doesn’t matter whether it’s elections in Greece or bank bailouts in Spain – everything that happens in Europe seems to put investors on edge.

To make matters worse, the negativity about Europe is spilling over into management. Many CEOs are now pointing to uncertainty created by Europe as the main reason they’re dialing back their business.

And that’s just the beginning…

As businesses dial back on spending, it’s bound to have a negative impact on economic data.  And sure enough, economic data on everything from unemployment to business spending has come up well short of expectations since the situation in Europe flared up again.

Now we’re stuck in a negative feedback loop.

Bad economic data forces businesses to stop spending money.  They don’t hire new workers or invest money to grow their business.  That in turn causes economic data to continue to weaken.  And around and around we go…

Luckily, it’s not all bad news…

According to the latest CPI and PPI, inflation has also slowed down dramatically over the last month.

Both gauges of inflation were dragged lower by dramatic decreases in energy prices. And the core inflation rates that exclude food and energy held steady.

Obviously, weak economic data alone is a tough pill for investors to swallow.  But the impact on stocks would have been much worse if inflation hadn’t taken a step back as well.

What’s more, the combination of weak economic data and tame inflation could clear the runway for the Fed to launch another round of QE or, more likely, an extension of Operation Twist.

Not surprisingly, all eyes are on the Fed as they prepare to meet his week.  And the market’s next move will likely be decided by what action, if any, the Fed takes.

The good news is some investments aren’t dependent on the Fed.  And this month’s recommendation is one we think will deliver solid gains no matter what the Fed decides to do.


In these uncertain times, investors face a difficult choice.  You can be overcome by fear or you can master your emotions.  And it’s not always easy…

Inevitably, investors who master their fears will profit while those who take their money and run will miss out on the opportunity.

However, simply overcoming your fears isn’t enough.  You still have to find the right investments.  Two qualities I look for in investments in times of uncertainty are those with a low correlation to the S&P 500 and pay a dividend.

Investments that don’t move in lock step with the broad market are great in times of uncertainty.  They often increase in value when stocks are moving lower but they can also move higher when stocks are too.  So they make a good investment whether stocks are sinking or soaring.

Additionally, a stock or industry with a history of paying a dividend in a weak economy can offset poor stock performance.  And even generate a positive return on your investment if stock prices are flat.  So dividends can be a huge benefit in any type of market.

One investment that fits both of these criteria is Master Limited Partnerships or MLPs.

Macro/Economic Trend:  Flowing Profits To Investors

Let’s start from the top…

MLPs hold energy infrastructure assets related to the production, processing, and transportations of oil, natural gas, and coal.  They receive special tax treatment under the US tax code.  But in order to qualify as a MLP, they must generate at least 90% of their income from qualifying sources.

And the best part is MLPs are traded on an exchange just like a regular stock.

However, they’re taxed differently than a regular stock.  I’m not a tax advisor so I’m not going into all of the details.  (If you want to know more about the tax implications of owning an MLP or MLP ETF, consult your tax advisor.)

MLPs primarily own energy infrastructure assets like pipelines and storage tanks as well as some production assets like mature oil and natural gas wells.

Here’s the real beauty of MLPs…

Unlike many businesses in the energy sector, their profits aren’t dependent on oil and gas prices.  They make their money from the amount of oil and natural gas they’re pumping through their pipelines and being stored in their tanks.  And most of the revenue is tied to long-term fee-based contracts.

This fee based business model has highly predictable cash flows.  MLPs collect their toll for transporting and storing oil and gas whether commodity prices are sky high or dirt cheap.

The result is MLP returns have a very low correlation with the S&P 500.

Additionally, MLPs typically pay out most of their operating cash flow in quarterly distributions.  In other words, they pay huge dividends.  And they have a strong history of increasing their payouts.

As you can see, MLPs fit both of my criteria for good investments in times of uncertainty.  But that’s just part of the story…

Unlike many income producing investments, MLPs also have strong growth prospects.

Over the last few years, advancements in drilling technology have unlocked massive reserves of oil and natural gas in the US.  But in order to get the oil and natural gas from the well to the consumer, it will require huge investments in new energy infrastructure.

According to the Interstate Natural Gas Association of America, $250 billion in energy infrastructure needs to be built in order to transport all of the newly found oil and natural gas.  And the build-out of new energy infrastructure will likely fuel a new wave of growth for MLPs for years to come.

Simply stated, MLPs have everything we’re looking for in an investment.  They have strong growth prospects, returns that aren’t correlated to stocks, and they pay stable and growing dividends.  The ALPS Alerian MLP ETF (AMLP) is a great way to get in on the action.

Fundamentals:  A closer look at AMLP

AMLP delivers exposure to the Alerian MLP Infrastructure Index.  It’s a capped, float-adjusted, capitalization-weighted composite of 25 energy infrastructure MLPs.

The expense ratio is 0.85%.

It has a dividend yield of 6.41%.

The top five holdings and percentage weight for AMLP are –

Company Name Ticker % Weight
Enterprise Products Partners EPD 9.56%
Kinder Morgan Energy Partners KMP 9.23%
Magellan Midstream Partners MMP 7.18%
Energy Transfer Partners ETP 7.17%
Plains All American Pipeline PAA 7.03%

Technicals:  The charts lead the way

AMLP currently trades for $15.57.  It’s 22% above the 52-week low of $13.10 it momentarily reached intra-day last August.  And it’s 9% below the 52-week high of $17.19 it reached in late February.


Right now the ETF is nearing support of the low end of its trading range near $15.50. There have been a few rare occasions when the ETF dipped below this level.  But it’s always snapped back above this level in short order.

I’m expecting AMLP to bounce off this support and trend higher toward the upper end of the trading range around $17 over the next six months.

Trade Alert

Buy:  ALPS Alerian MLP ETF (AMLP) up to $16.00
Recent Price: $15.57
Price Target: $17.25
Stop Loss: $14.00

Remember:  The MLPs in AMLP payout most of their cash flow in quarterly distributions.  So we’ll generate a good chunk of our returns from dividends.  But with AMLP near the low end of the trading range, we could see 10% upside in the ETF as well.


Consumer Discretionary (-1.9%)

Consumer discretionary stocks tumbled nearly 2% last month.  The cyclical sector has taken a hit from weak economic data and waning consumer confidence.

But help is on the way… record low interest rates and easier standards to qualify to refinance your Fannie Mae and Freddie Mac owned mortgage could put extra spending money in consumers’ pockets.  And don’t underestimate the impact falling prices at the gas pump will have on consumers checkbooks.

The dual stimulus of lower mortgage payments and falling fuel costs could fuel strong earnings growth in retail stocks this quarter.  That’s good news for SPDR S&P Retail Fund (XRT) and SPDR S&P Homebuilder ETF (XHB).  Continue holding XRT and XHB.

Consumer Staples (+0.9%)

Consumer staples are benefiting from investors’ ongoing “risk off” trade.  And until Europe gets things figured out, they’ll continue to gravitate toward defensive sectors.

Unfortunately, our PowerShares Dynamic Food & Beverage (PBJ) isn’t keeping pace with the gains in the broader sector.  What’s more, PBJ is facing stiff resistance at $20 per share.  It’s time to sell PBJ at $19.77 for a small 4% gain.

Energy (-2.6%)

Energy stocks are being undercut by falling oil prices.  The price for a barrel of WTIC crude oil has been mired around $80 to $85 in June.  And there’s not much hope for a rebound in oil prices in the short run.

As a result, more than half of all energy companies have had analysts revise their earnings estimates lower in the last month.

On the bright side, natural gas prices in the US continue to rebound.  Go ahead and pick up your shares of First Trust ISE Revere Natural Gas Index Fund (FCG) to profit from huge upside in natural gas prices.

What’s more, we’re recommending the ALPS Alerian MLP ETF (AMLP) as a great way to profit from energy with exposure to commodity prices rising or falling.

Financials (-3.2%)

I hate to sound like a broker record… but financial stocks took another beating this month.  The sector fell more than 3% as investors bailed out of financial stocks after Spain was forced to bailout their banks.  Clearly financial stocks are a long way off from regaining investor confidence.

And fair or not, the insurance companies in our SPDR S&P Insurance ETF (KIE) are being lumped in with the rest of the financials.  At this point, there’s too much downside risk and not enough upside potential to justify holding KIE any longer.  Sell KIE now to conserve capital.

On more positive note, our iShares FTSE NAREIT Residential Plus Capped Index Fund (REZ) have bounced back nicely over the last few weeks.  And our REIT is once again fast approaching our $50 price target.  Continue holding REZ for bigger gains…

Healthcare (+0.1%)

Healthcare stocks flat lined this month.  No, they didn’t die because of Obamacare. But they didn’t go anywhere over the last month either.

But with the Supreme Court’s ruling on the healthcare due at any moment.  It’s not surprising to see investors taking a wait and see attitude.

Our PowerShares S&P SmallCap HealthCare Portfolio (PSCH) is trading in lock step with their large cap brethren.  But PSCH has inched back above our $34.25 buy price so it’s being moved from buy to hold.

Industrials (-2.0%)

Industrial stocks’ collective fate is tied to economic data.  And right now one economic indicator after the next is falling short of expectations.  That’s bad news for industrial stocks.

However, we could get some good news when FedEx (FDX) reports earnings next week.  The transportation and shipping bellwether is tied into economic activity.  If their business is going strong, we could see industrial stocks snap back in a hurry.

Our Guggenheim Airline ETF (FAA) got off to bumpy start.  But it’s looking strong over the last week.  Buy your shares up to $31.25.

Technology (-1.1%)

Tech stocks slipped back another 1% over the last month.  But tech stocks are already on the rebound.  They’re up more than 5% from the lows they hit a few weeks ago.

And then out of nowhere, Oracle (ORCL) decided to report the results from their latest quarterly earnings ahead of schedule.  Not surprisingly, the company’s results came in better than expected.

ORCL’s solid earnings should be a nice lift to our iShares S&P NA Technology-Software Index Fund (IGV).  ORCL is the third largest holding in IGV and makes up more than 7% of the fund.

Materials (-1.4%)

Materials stocks failed to catch a bid this month.  Investors shied away from this cyclical sector for the same reason as all the others.

To make matters worse, investors aren’t showing any interest in gold stocks.  And they usually do when the markets get rocked with volatility.  At this point, I’m steering clear of materials.

Utilities (+2.8%)

Utilities were the best performing sector for the second month in a row.

Let me say that again…

Utilities were the best performing sector for the second month in a row.

I had to say it twice because I don’t know if I’ll ever get to say it again… Utilities don’t often lead the markets in any month… much less two in a row!

Our Utilities Select Sector SPDR Fund (XLU) has put in a solid performance.  All total with price appreciation and dividends we’re up more than 15% in the last year.  It’s time to take our profits and run.  Sell XLU now for a 15% gain.

Portfolio Changes

  • This month we’re buying AMLP.
  • Sell Utilities Select Sector SPDR Fund (XLU) for a 15% gain.
  • Sell PowerShares Dynamic Food & Beverage (PBJ) for a 4% gain.
  • Sell SPDR S&P Insurance ETF (KIE) to conserve capital.
  • Move PowerShares S&P SmallCap HealthCare Portfolio (PSCH) from buy to hold.


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