Dividend stocks for income investors
See Jim's new portfolio to help navigate the treacherous interest-rate environment.
Jubak's Journal
Recent articles:
• 5 energy stocks for a smooth ride, 2/8/2006
• Why OPEC won't turn off the oil, 2/7/2006
• The state of coal stocks is strong, 2/3/2006
More...
| | Jubak's Journal
Rising interest rates go global
(Page 2) of 2
 Previous
That's not enough to significantly close the gap with yields in the U.S., so I don't think the U.S. financial markets need to worry about any shortage of Japanese buyers for Treasury bonds and other dollar-denominated instruments.
In fact, a small rise in Japanese interest rates will quite likely increase Japanese purchases of investments priced in anything but yen. That's because the potential new yields on Japanese bonds don't even begin to outweigh the dangers to bond principal.
Remember that the value of an existing bond goes down when interest rates go up. (An old Japanese bond paying a yield of 1.6% falls in price if new bonds pay 2%. The old bond declines in price until its current yield -- the yen paid out on the lower yen price -- equals 2%.) So if the prospect is for higher interest rates in the future, the logical move would be to put your yen into something else where you're principal doesn't face this danger.
My best guess on that something else? Bonds denominated in euros and dollars and gold. Yes, perversely, the first result of Japan's economic recovery and its tentative steps toward rejoining the world of positive real interest rates may be a move by Japanese investors away from investments denominated in yen.
How big and fast that move will be in 2006 -- and, consequently, how much of a boost Japanese investors will give to the price of gold, euros and dollars -- depends on how the government handles the pension crisis that any increase in interest rates will set in motion.
Japanese pensions, you see, are stocked full of low-yielding government bonds. Any rise in interest rates will lead to declines in the market value of the bonds hold in those retirement funds. If Japanese pension funds are forced to mark their bonds to market, rising interest rates will result in losses and funds will start to show up as under-funded. (Private retirement funds invested in government bonds will similarly show losses if interest rates rise.)
One proposal is to let pension funds carry the bonds in their portfolio at purchase value rather than having fund managers mark them to current market prices. Over time, obviously, that produces an increasingly large divergence between the book and market value of the pension funds. And it's exactly the kind of fantasy accounting that undermined faith in Japan's capital markets and that sent the country into its lost decade.
But forcing pension funds and individuals saving for their retirement to recognize losses has its own dangers, too. It risks setting off a kind of reverse wealth effect. In the United States, the Federal Reserve helped inflate the value of homes because the perception of rising personal wealth from real estate would offset perceptions of stock market losses from the crash of 2000. And the wealth effect would keep consumers spending and the economy rocking along. In Japan, falling bond values, in a country of investors overweighted to bonds, could undermine confidence just when the economy is finally starting to grow. Add in the government's need to raise taxes to shrink its huge budget deficit and keeping the Japanese economic recovery going will require either a great deal of skill by the country's leaders or a big dollop of luck.
In short, investors who are expecting Japan to join the economic engines pulling the global economy in 2006 are likely to be disappointed. But Japan's cash flows are likely, exactly because of the extent of the country's problems at home, to support the value of gold, the euro, and the U.S. dollar.
Japan faces the kind of conundrum in 2006 that only an Alan Greenspan could love. Hey, maybe he'd like a challenge now that he's out of a job at the Federal Reserve. Got to beat giving speeches at $40,000 a shot.
New developments on past columns
"8 stocks to watch in a wandering market": Things go better with, well, Frito Lay. On Feb. 8, PepsiCo (PEP, news, msgs) reported fourth-quarter profits of 65 cents a share, up 12% from the fourth quarter of 2004. The company was able to meet Wall Street projections despite higher costs for raw materials and fuel. Revenue actually grew faster than analysts had expected, by almost 15%, to $10.1 billion, well above the $9.5 billion projected. Sales growth was strong across the company, with Frito-Lay North America reporting a 13% increase in revenue and the North American beverage business growing revenue 13% on gains in noncarbonated brands such as Gatorade and Aquafina. The best growth came internationally -- 16% revenue growth -- with snacks volume up 13%. For 2006, PepsiCo projected earnings of at least $2.93 a share. At the Feb. 8 closing price of $57.28, the shares trade at 19.5 times projected 2006 earnings. The Standard & Poor's 500 stock index ($INX) traded that day at 20.1 times trailing 12-month earnings per share. As of Feb. 10, I'm raising my target price on PepsiCo to $68 a share by June from my previous target of $66 a share. (Full disclosure: I own shares of PepsiCo.)
Editor's Note: A new Jubaks Journal is posted every Tuesday, Wednesday and Friday. Please note that Jubak's Picks recommendations are for a 12-to-18 month time horizon. See Jubak's CNBC Picks for shorter six month recommendations. For suggestions to help navigate the treacherous interest-rate environment see Jim's new portfolio Dividend stocks for income investors. For picks with a truly long-term perspective see Jubak's 50 best stocks in the world or Future Fantastic 50 Portfolio.
E-mail Jim Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak owned or controlled shares of the following equities mentioned in this column: PepsiCo. He does not own short positions in any stock mentioned in this column.
|
