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Inside the S&P 500: What makes a Company U.S.?

Defaulted Municipal Bonds Outperform!

4 Benefits Offered by Preferred Securities

What Me Worry?

Strong as Steel: Impacts of New Futures

Inside the S&P 500: What makes a Company U.S.?

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David Blitzer

Managing Director and Chairman of the Index Committee

S&P Dow Jones Indices

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The S&P 500 is an index of U.S. companies.  But, exactly what a U.S. company is can be complicated.  Traditionally being U.S. company meant being incorporated in the US. However, in the last few years companies that many think of as being American are not incorporated here.  Nielsen Holding, the company which compiles ratings of television shows and other entertainment is one, Seagate Technology; a manufacturer of computer components is another.  Oil drillers, insurance companies and many more are also US companies incorporated someplace else. On the other hand, there are companies with little business here that incorporate in the U.S. or other developed countries because of the legal system or the financial markets.

All this moving around is recognized by investors who no longer judge which country a company is in only by its incorporation.  Other things are more important: where does the stock trade?  Which country’s financial reporting rules apply? Which regulator will go after the company? Where is the company doing business? Where are its competitors?  All these things matter, often far more than incorporation. Indices and index construction should reflect the markets as seen and understood by investors, not as mapped by the lawyer who filed incorporation papers many years ago.

Over the last several years S&P Dow Jones Indices consulted with investors about the best way to assign companies to countries so that our indices are most useful for analyzing markets and supporting investment products.  The results of this effort can be seen in the methodology for the S&P 500 and our U.S. indices.  These guidelines good back several years and haven’t changed recently.

The approach focuses on some key factors: U.S. companies are listed on either the New York Stock Exchange or NASDAQ and file their financial reports with the SEC as a US company on form 10-K. (Foreign companies often file financials with the SEC, but on a different form). Additionally, we consider where the assets, revenues and employees are located and how corporate governance is structured.  And we do look at where the company is incorporated.

If the index only considered incorporation, several companies and some key industries would be missing from the 500.  And, they might be replaced by companies incorporated here but with little or any local business or employees or presence, or investors, in the U.S.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Defaulted Municipal Bonds Outperform!

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J.R. Rieger

Head of Fixed Income Indices

S&P Dow Jones Indices

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Hard to fathom isn’t it!  With 2013 municipal bond default and bankruptcy headlines casting a dark cloud over the municipal bond market, defaulted bonds actually have been up.  The overall performance of defaulted municipal bonds during this time has been positive as the S&P Municipal Bond Defaulted Index has returned a positive 2.79% year to date.  Meanwhile, the investment grade tax-exempt market tracked in the S&P National AMT-Free Municipal Bond Index has seen a negative 2.85% return year to date.

Sectors within the municipal bond market are each unique and have their own set of risks and that holds true for defaulted bonds.  Some of those sectors are down significantly. Healthcare related bonds in default have been down over 8% year to date and multifamily bonds down just under 5%.  These have been offset by a recovery of the distressed corporate backed municipal bond market of over 13% and land backed bonds in distress are up over 7.6%.

The graphs and returns below detail the performance of several municipal bond sectors and the bonds markets in general.

Source: S&P Dow Jones Indices.  Data as of November 20, 2013.
Source: S&P Dow Jones Indices. Data as of November 20, 2013.

Bond Market Performance 11 20 2013

The posts on this blog are opinions, not advice. Please read our Disclaimers.

4 Benefits Offered by Preferred Securities

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Aye Soe

Managing Director, Global Head of Product Management

S&P Dow Jones Indices

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  1. Preferred stocks can offer investors greater assurances than common shares in terms of both knowing that they will receive the dividend payment and knowing what the dividend amount will be.  Since preferred securities are higher in seniority than common equities, dividends must be paid to preferred shareholders before common shareholders.  Also, since most preferreds provide a fixed dividend payment, an investor will know what amount to expect at the next payment date.  In times of poor performance, a company will be more likely to either cut the common dividend amount or cancel the dividend altogether, rather than cut the preferred dividend amount.
  2. Historically, preferred stocks have offered higher yields than other asset classes including money market accounts, common stocks and bonds.  For institutions and individual investors seeking current income, the high yields are seen as attractive investments.
  3. In addition to higher yields, preferred stocks have low correlations with other asset classes such as common stocks and bonds, thus providing potential portfolio-diversification and risk-reduction benefits.  It is important to note that preferred securities exhibit higher correlation with high-yield bonds and equities, which are more sensitive to credit, and lower correlation with investment-grade corporate and municipal bonds, which are more sensitive to interest rate risk.
  4. Preferreds have a tax advantage over bonds, as many preferred dividends are qualified to be taxed as capital gains as opposed to bond interest payments, which are taxed as ordinary income.

Contributors:
Phillip Brzenk, CFA
Associate Director, Index Research & Design

Aye Soe, CFA
Director, Index Research & Design

For more on preferreds, read our recent paper, “Digging Deeper Into the U.S. Preferred Market.”

The posts on this blog are opinions, not advice. Please read our Disclaimers.

What Me Worry?

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David Blitzer

Managing Director and Chairman of the Index Committee

S&P Dow Jones Indices

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U.S. Stocks are up by about a quarter since the start of the year with 472 of the 500 stocks in the S&P 500 up since December 31st, 2012.  IPOs are getting attention following the successful launch of Twitter.  And more commentators and gurus are arguing for further gains, a coming collapse or both. Should we abandon stocks on worries that the bear markets of 2000 and 2007 will return? Or, is it “Damn the torpedoes and full speed ahead” into the stock market?

Two widely-recognized measures of market over- or under-valuation are Robert Shiller’s cyclically adjusted price-earnings ratio, CAPE and Tobin’s Q.  CAPE is a version of the usual ratio of stock price to earnings which uses the inflation adjusted price of the S&P 500 index and divides it by inflation-adjusted earnings per share averaged over the last ten years.  These adjustments usually yield a higher figure than the simple PE. Currently CAPE is about 24 and the usual calculation of the PE is about 17.   The chart, based on data on Shiller’s web site, shows CAPE from 1980 to now.  The average since 1980 is 21. The current level is above the average but not as high as at recent market peaks.

CAPE

Tobin’s Q is the ratio of the market’s value to the replacement cost of the assets of companies in the stock market.  It is something of analogy to a price-to-book value ratio.   The ratio was developed by James Tobin an economist and Yale professor as part of research on financial markets, monetary policy and the economy.  Its current values, like CAPE, are above the long term average but also below historic peaks.  The web site http://advisorperspectives.com/dshort/ often provides comments and updates on Tobin’s Q.

Neither CAPE nor Q react quickly enough to time the market or give buy or sell signals. They do indicate if stock valuations are rising or falling and are high or low compared to long range norms.  Both indicate that stock valuations are higher today than a year ago and certainly higher than in March 2009 when the market bottomed.

If a portfolio was 60% stocks and 40% bonds at the start of the year, it is now 75%/25% with no trading at all.  If an investor was comfortable at 60/40 in January, is he or she comfortable at 75/25?

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Strong as Steel: Impacts of New Futures

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Jodie Gunzberg

Managing Director, Head of U.S. Equities

S&P Dow Jones Indices

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This morning I was interviewed for CCTV2 on the impact of new futures markets with a focus on iron ore. Although Iron ore is not in the major indices, the DJ-UBS and S&P GSCI, it is an economically significant commodity that is the main input for steel. I thought you might be interested in the questions and answers,

1. What can we take-away from the launch of China’s Dalian Commodity Exchange’s new futures market?

It is exciting when there is a new futures market launch.  Generally, it reflects an evolution of more efficient pricing that reflects the physical market. For example, the new launch of low sulfur gasoil follows the hedging requirements in the distillate market.  It has been shown historically that in commodity markets where futures contracts are available, the physical prices are less volatile, which comes from the ability for commercial producers and consumers to hedge. – or in other words, “buy insurance”, and this in-turn gives them more incentive to store.

2. You said, “when futures get developed they are reflecting some kind of growth in the physical market…” What then does this mean for iron ore?

Iron ore is like other commodities since the aim of the futures market is to manage the risk of price volatility.  Since there are relatively few major producers compared with many smaller consumers, there has been an imbalance of bargaining power. The iron ore market, which is the biggest input for steel production, is going through an evolution in effort to increase transparency of pricing to better reflect aggregate supply and demand.

3. So when a new (local) futures market is launched, how does this usually impact the global market worldwide of that commodity?

The clearer pricing transparency and ease of hedging generally improves the efficiency for that commodity’s market.  Transportation is the key factor for the globalization of the market, and for iron ore, the rail to transport from the mine to a ship  is costly to develop and maintain.  By improving the hedging capability, it is possible infrastructure will develop faster with less risk, which may reduce the volatility of the worldwide price.

4. Key relationships across futures / underlying markets may hold if iron ore acts like other commodities. What are these key relationships and how do you think iron ore may respond?

Futures prices reflect the spot market price plus the costs of transportation and storage. Given iron ore’s infrastructure challenge, the futures market may improve the yield, which may also have positive implications for the steel markets by reducing the price volatility there.

5. Anything else on iron ore futures?

The progress in this market reflects the industry’s advancement to provide transparency, liquidity, and consistency to historically private markets.  This is an exciting chance not only for the physical market growth, but for investors to get direct exposure to iron ore.

The posts on this blog are opinions, not advice. Please read our Disclaimers.