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Kate Stalter is a columnist for, and Morningstar Advisor. Stalter currently hosts “The Small Cap Roundup” on, every Tuesday and Thursday at 11 a.m. Eastern. She serves as editor of the “Low-Priced Leaders” newsletter, also at TFNN. From 2001 until 2010, she... More
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  • How Investors Can Access Alternatives

    Historically, only institutions and wealthy individuals had access to many alternative-investing categories. CAIS co-founder Rafay Farooqui explains why such non-correlated assets have a role in individual portfolios, and why his company was formed to address that area of the market.

    Kate Stalter: Today, our guest is Rafay Farooqui, a cofounder of CAIS. Rafay, I want you to begin today by explaining your business model. I understand that you create alternative investment platforms for advisors, so say a little bit more about what you do and why you got started-where you saw the need.

    Rafay Farooqui: Sure. Thank you for having me. CAIS is the leading alternative platform providing an end-to-end solution for alternative investments for the independent wealth-management space, both in the US and internationally.

    What we identified early on was that the independent wealth-management professionals, the advisors and the private bankers, were lacking the infrastructure that the large competitors-the large banks, the broker-dealers-had built for their investment advisors.

    Essentially, what was needed was a turnkey alternatives platform that allowed you to invest very easily and efficiently with all the documentation necessary that was needed in an efficient manner to have those positions report efficiently for their clients. And then to have a robust infrastructure that provided the adequate institutional-level due diligence on each one of those products to make them widely available to the wealth-management industry and their clients at large.

    What we noticed was that that was available at the biggest banks, because they had the resources and the distribution capabilities, and what we figured out was that for the independent space there was a need. That was the hole that we tried to fill.

    Kate Stalter: It seems that you are probably at a very good space right now, as more and more clients want to gravitate toward the independent advisors, rather than the wirehouses?

    Rafay Farooqui: I think we had seen that trend early on, and we continue to see that trend, whether it is disenchantment or just time to move on, that many of the more meaningful teams and advisors at large that live within the wirehouse have joined this breakaway movement.

    CAIS was specifically built to provide the infrastructure solution in the alternative space as an end-to-end platform that the banks had internally to the independent space. As a complement to our business, the timing also turned out to be right, because we also benefit from the large breakaway movement.

    Kate Stalter: Say a little bit about how your products are structured. Are they designed to be used in separately managed account form, or mutual funds and ETFs that consist of alternatives these days? How does that work?

    Rafay Farooqui: CAIS addresses the alternatives market broadly, so whether that is hedge funds, private equity, other asset classes that may be termed alternative, that is where we look to provide the solution. Because we find that that is the most difficult area for advisors to get educated and execute and add diversified portfolios in.

    What we have found is that alternatives in general tend to lend themselves to different structures, depending on the strategy. So we never want to put a round peg in a square hole, and take the manager and structure them in a liquid alternative, if you will, if the strategy doesn't lend itself to that.

    What CAIS focuses on is to essentially bring the LP [limited partnership] investing experience to a lower minimum to the wealth-management industry as a whole. Currently, we don't offer managed accounts, and we don't offer mutual funds, but we are in the LP space, the 3(c)7, the 3(c)1 vehicles, and also in the 40 Act space.

    Kate Stalter: Let's walk through how this might work. If I were a client of an advisor, and I walked in and said, "I am interested in the alternative space," or the advisor looked at my portfolio and said, "We really want to get you some exposure to some of the alternatives," how would they work with you? What would that look like?

    Rafay Farooqui: So our client is the advisory firm, whether it is the registered investment advisor, the independent wealth manager, or the private bank that doesn't have their own platform. We focus on servicing the advisor so that they are educated on the product and they have a means, in a turnkey way, to invest in some of the leading alternative managers, whether it is in hedge funds or private equity or in the alternative spectrum.

    We tend to work with the biggest and best advisory firms. If you are a client of one of those advisory firms that has partnered with CAIS to have the platform available, essentially you are looking for diversification of capital and appreciation of that capital with a reasonable risk.

    So the client goals are essentially, or the advisor's goals when they are dealing with the client, is to diversify that portfolio, bring the correlation to the market down, bring the volatility down, and diversify with an adequate level of risk.

    Alternatives are supposed to play that role in a portfolio, whether it's a hedge fund or private equity. The problem as been that in the past many of the best managers in the alternative space have required very high minimums for their investors and mainly have attracted institutional capital.

    So what CAIS does as a solution is partner with the managers and bring the efficiencies to the wealth advisor of due diligence in making sure that what they are investing in is due diligence and watched by institutional partners like Mercer Investment Consulting-that is our due diligence partner. And we also then structure the vehicle so that the private banker or advisor is able to allocate for their client in smaller dollar amounts, $100,000 minimums or less.

    What that allows is for them to have access to some of these managers that have lower correlations to the market, have lower volatility and a reasonable return over time.

    Also, alternatives' role in a portfolio is really to play, to get exposure to strategies or a part of the market or the asset spectrum that you can't otherwise express in public securities. That is really what the client of an advisor should be asking their advisor: Can you get me access to something that is differentiated but I can't express currently in my portfolio? More so often than not, the answer is access to some of these managers that are on the CAIS platform.

    Kate Stalter: You said a couple of things there that I wanted to follow up on. Mainly, the lack of correlation. Obviously, one of the problems that a lot of advisors and even individual investors are aware of these days is the high degree of correlation among asset classes that historically have not been highly correlated. Are you seeing more demand for these products, in light of that going on?

    Rafay Farooqui: That's right. I think that the risk aversion after 2008 still continues to persist in the market. To the extent that an advisor is going to add one of the CAIS products into the client portfolio, they are looking for something that does something different, a strategy and a manager that is looking at a part of the world or a part of the asset structure that is inaccessible, that has an opportunity in it, and really doesn't behave in correlation with the wide public market.

    Kate Stalter: So our listeners today are mostly the retail investors. If they are intrigued by what you are saying here, what would be their next steps to get more information about these platforms?

    Rafay Farooqui: Well, as CAIS serves the leading advisors in the US and internationally, what I would advise to your listeners now who are clients of our advisors is to pick up the phone and speak to them about alternatives.

    Understand if that is an appropriate asset class for them to diversify into, and then suggest to their advisor that if they don't already have access to the CAIS platform, that they call us at CAIS so that we can partner with them to deliver this investable solution so that they can diversify that client's portfolio.

    Related Reading:

    Jun 27 1:37 PM | Link | Comment!
  • A Fund To Capture Growing Dividends

    After running a high-dividend strategy for 15 years in separately managed accounts, Miller/Howard last year launched the Destra High Dividend Strategy Fund (DHDCX) in a sub-advisory role. Portfolio manager Jack Leslie discusses the fund's objectives.

    Kate Stalter: Today's guest is Jack Leslie, portfolio manager at Miller/Howard and the Destra High Dividend Strategy Fund.

    Jack, as I understand, Miller/Howard is the sub-advisor of the fund. Tell us a little bit of the history of this strategy. Were you managing this type of strategy as separate accounts prior to the time the fund was formed?

    Jack Leslie: Yes, we were. We've been managing the Destra High Dividend Strategy Fund for almost a year, but before that we've been managing the high-income dividend strategies for about 15 years. This month is actually our anniversary.

    The team at Miller/Howard has been doing this for a long time, and we think of ourselves as dividend managers, not just value managers that happen to have a yield. We really look for three things: High dividend yield, growth of dividends, and financial strength.

    Kate Stalter: I wanted to talk a little bit about where the fund falls in the overall style box. I was looking at the Morningstar data, and I noticed that it was in the large-cap value area. Explain why it might fall into that particular style box.

    Jack Leslie: Well, we don't fit neatly into the style boxes. We really go all-cap. We have a team of portfolio managers who are looking for high-income stocks, wherever they find them.

    So if we have small-cap stocks, we'll invest in small-cap stocks. If we have large-cap stocks we'll go there, or mid-caps. Wherever we see the opportunity to fulfill our three goals, that's where we'll go.

    Right now, the fund has a bias towards large-cap stocks, so we have a lot of large-cap pharmaceuticals, and that's skewing the portfolio up towards large-cap value. But the fund will move around somewhere between core in value and large cap and probably mid-cap, on average.

    Kate Stalter: Now, I wanted to kind of come back to the question of high dividend and what the definition of that might be. Is this high yield? Is it accelerating dividends? What are you looking for, more specifically?

    Jack Leslie: Well, we're trying to get a balance between high dividend yields and growth of dividends. We like the high-dividend yield because it gets the mathematics of compounding working for the investor.

    We use the high dividend income to buy more high-income stocks, and then that generates still more dividend income, and that keeps getting rolled over into still more high income, and so on. This creates a virtuous circle that grows well.

    Now, we like dividend growth not only to keep up with inflation-and that's something that bonds can't do for you-but because the rising income helps to pull up the value of the asset producing that income. As a stock generates more and more income, it's worth more and more money. In our 40-stock portfolio, last year we had 35 dividend increases. So we're really very good at finding growing dividends.

    Kate Stalter: From the way you were describing that just now, is this really total return that you're looking at?

    Jack Leslie: Well, we certainly are looking at a total return. But if you look at studies that have been done since 1972, Ned Davis has done a study of stocks in the S&P 500 by dividend yield. And what you find is that all stocks in the S&P 500 are up about 7% on an annualized basis since the end of January 1972.

    Stocks that have rising dividends are about 9.5%. So pursuing a dividend strategy and a dividend growth strategy, by definition, becomes pursuing a total return strategy, because they do just go together.

    Kate Stalter: I want to talk a little bit about some sectors, and even a couple of holdings if you're able to do that. You mentioned pharmaceuticals a few minutes ago. A lot of people, when they think of dividends, these days it may be energy sector MLPs or utilities. But what areas do you like right now?

    Jack Leslie: Well, we, as I said, we had been in the pharmaceuticals, large-cap pharmaceuticals, and we had gotten into those probably in 2009, and the valuations have come up dramatically since then.

    Right now, we're looking a lot at energy stocks. One of the largest holdings in the portfolio isNiSource (NI). NiSource is a great story.

    The yield on it is a little bit below 4% now, so it's getting kind of a low yield for the portfolio, but they have two pieces to their company. They have distribution-local gas and electric distribution companies in the Midwest-and they have the old Columbia gas pipeline system that runs pipelines from the Gulf of Mexico through the Marcellus Shale up into the northeast.

    The story for us has been the pipelines. I mean pipelines are great-you mentioned MLPs. All the pipeline companies, no matter how they're structured-as C corps or MLPs, and this fund does invest in MLPs-but all of the pipelines have great businesses, they have long-term cash flow, they have long-term customers, and really lower energy prices, lower gas prices, increases demand for gas. And there's more gas that has to get transported, and that's where they make their money.

    So for NiSource, especially going through the Marcellus, that's great for them because they have rights of way. They have the land corridors, too, for their existing pipelines, as there's more and more production in the Marcellus. No matter which exploration and production company is bringing in gas from the Marcellus, they all have to transport it to market. And since NiSource has the pipelines running through there, it's going to increase the utilization of their pipelines going through.

    And since they have these land corridors, these rights of way, they'll be able to lay additional pipes right next to their existing pipes and transport still more natural gas.

    On the other half of NiSource is the gas and electric distribution companies. They've been getting some rate relief with that, and they've started increasing their dividend again. So NiSource is just a great story for us.

    Kate Stalter: Just one final question for you today, Jack: Generally speaking, what's the holding period on the stocks in the fund? How often are you exiting or entering new positions?

    Jack Leslie: We like to think about a three-year time horizon. Lately, though, we've been holding stocks. We've had a real good crop of issues, and we've been able to hold them longer, and we're probably closer now to an average four-year time horizon. But we're pretty much looking at a three right now.

    Related Reading:

    Jun 26 10:34 AM | Link | Comment!
  • How To Profit From Oil Fluctuations

    In discussing his new report on the oil markets, analyst Jason Burack tells about some large-cap stocks with potential, and discusses a junior company in which he sees a great deal of headroom.

    Kate Stalter: Today, my guest is Jason Burack. Recently, through your company Wall Street for Main Street, you issued a new report about the energy sector. Why don't you start out just telling us a little bit about the report, and what you found?

    Jason Burack: We originally wrote this report because of a lot of the rhetoric on TV from the mainstream media, and we were just tired of hearing the politicians come on and just blame these greedy speculators on Wall Street and these evil large oil companies.

    We just wanted to get people the truth about the market, first of all-what really goes on in the oil market. We already knew a lot about that for years, but we spent an extra two-plus months researching that, and then we wanted to help people profit on top of this from all this additional knowledge. That's where we fit in here with that.

    In terms of the oil market here right now, we're contrarians and we're value investors, so we're looking to try to find opportunities where the market has really mispriced something. Over the next 24 months or so, something can really recover and then reverse back to the mean.

    In the case of oil, it's really sitting at an eight-month low right now, and the market is just pricing in this economic disaster. It's not really pricing in anyone using any more oil. And when you really dig down into the supply-demand fundamentals of the oil market, and the other factors involved in the oil market, you see that people are still using a lot more oil, especially in developing countries.

    Kate Stalter: So, give us a little more detail about what that is. Obviously the politicians will shout one thing about speculators and oil companies gouging. But on the other hand, when you look at emerging markets such as China, you hear a lot about their use of fuel. So, what are you seeing that's going on, given that prices are so low right now?

    Jason Burack: China's resource policy-they get the whole energy picture. They get that we're running out of cheap oil. The whole peak oil argument that we're running out of oil reserves-well, we're not running out of oil reserves, but we are running out of the cheap and easy oil, the light sweet crude with the low production costs of $10 to $20 a barrel. Basically all that stuff, the conventional stuff, is gone.

    China understands this, and what China has been doing is, they've invested over $75 billion since 2005 in oil alone. Recently, in the last month, they've increased their oil imports over 6 million barrels per day, despite the oil price dropping. So they've been just stockpiling oil. The reason for this is they don't want their economy to run out of cheap energy so it'll stop growing. They are long-term-oriented in their plan.

    The way the Chinese work right now is that's a very rapidly growing automobile market. Now the last few months, obviously, the auto sales have slowed, but people there, for the last ten years, they had not been driving. So now they've saved up ten or 15 years, and they're not using any financing to buy their cars.

    This is their family, they're buying their first car, it's really exciting for them. And once they pay cash and they put that money down for the car, they're not going to stop driving if the oil price is going a little bit higher.

    That's why in the United States, gasoline prices are not-they've only dropped, I think, 40 cents per gallon, despite the oil price dropping so much in the last few months. A lot of the reason for that is because the emerging markets, a lot of them have been buying up a lot of the supply to offset this stuff.

    Kate Stalter: I want to talk about some specific companies that you're seeing that could stand to benefit from current market conditions or future market conditions.

    Jason Burack: First of all, like a lot of the conventional oil supply, there's a lot of inflation going on in the market. According to the Bernstein study, there is 11% price inflation just in the last 12 months in energy input cost, so people need to account for this.

    But, in terms of companies, for the bigger name companies: Apache (APA), this company has really outstanding fundamentals. They bought assets from BP (BP) in the last couple years. After the Macondo spill, they bought assets from BP in the North Sea. They're a technology company, too, so they take these old depleted wells in the North Sea and they just bought one, I believe, from Exxon Mobil (XOM), as well, some wells.

    And they buy these assets for pennies on the dollar, deplete the wells, and then they use enhanced oil recovery techniques and they can get these wells producing again at really good flow rates. It costs them quite a bit more for a production cost, but they get a really good return on their investment. Apache right now is sitting not too far off its 52-week low. Its 52-week low is around $73, and the stock's at $84, and the stock was $130 only a couple years ago.

    This is a really well-run company. It has a profitable, diversified asset base. That would be one company.

    Another, a larger company that we have in the report, and this is a good technology company, is Diamond Offshore (DO). The reason I think Diamond Offshore is a more conservative investment as opposed to aTransocean (RIG), which we also have Transocean in the report...but compared to Transocean, Transocean is high-risk, high-reward. Transocean has more leverage on its balance sheet, and they have more liabilities from some of the lawsuits for BP, and then they have some issues with a still in Brazil.

    Diamond Offshore has literally years worth of orders booked for drilling. Now if oil does go a little bit lower here in the near term, to around $70 to $75, some of these orders might get canceled. Your viewers need to be very aware of this-that there might be a little bit more downward pressure.

    But oil is going to be very close to bottoming here at these levels, because if oil does go below really, $80 a barrel on WTI, a lot of this unconventional oil production-the oil sands, the enhanced oil recovery, the deep water offshore oil, and the shale oil production-a lot of these wells have very, very high production costs.

    There's a lot of oil production, but it will turn on very, very quickly if oil drops below a certain price threshold. That's why I think the oil market is very, very close here to bottoming, and I think there's a very good opportunity here for contrarians, whether they're an investor contrarian, a speculator contrarian, or just a trader, to make really good gains over the next 18 months.

    Kate Stalter: One thing that a lot of people are justifiably concerned about in the US would be the impact of further regulation on the oil market, as well as the natural gas market. What do you see in that regard?

    Jason Burack: That's a good question. In terms of that, the reason we wrote our report is to geographically diversify people away from there. In our report, we talked about government intervention a lot, and we talked about regulation risk, which is why we actually don't have a lot of companies in our report that have a lot of exposure to US natural gas prices and the EPA. We intentionally wanted to avoid that.

    I think in terms of the shale oil picture, there's a best-case scenario and a worst-case scenario. I think that the best-case scenario for shale gas production and shale oil production in the US is over the next three to five years, the EPA is really going to come out with a whole bunch of new environmental guidelines, and they're going to allow the production to occur.

    But these new guidelines, which could be 3,000 to 5,000 pages worth of guidelines, are going to force more time and energy rules and regulations. They're going to cause the production cost to rise substantially from where they are now. That's the best-case scenario.

    In a worst-case scenario, because of the documentaries like Gasland, I think you could see some of these areas in the United States, some of these states, pull a Vermont or what happened in France, where they just shut off any shale drilling.

    This is why we wrote our report. Our report is literally filled with geographically diversified companies, literally all over the globe. You mentioned Mart Resources (Toronto: MMT), so we can talk about them in a second, but we literally have companies all over the globe in our report.

    Kate Stalter: Let's follow up on Mart Resources, because we were talking about that in an e-mail the other day. Tell me about that.

    Jason Burack: For our junior producers, whether it is oil producers or gold producers, we look for production growth, reserve growth, and massive exploration upside potential.

    Mart Resources fits our criteria and then some, and they also have light sweet crude oil, which sells at a premium to Brent. Mart's net income has increased fivefold from 2011 to 2012, and the stock price has responded accordingly, from about 15 cents to 20 cents, to about, I think, $1.10 right now. The stock has moved, but this is a big growth story and it's an undervalued growth stock.

    Mart is waiting to get additional pipeline capacity for its current oil wells, so it's going to increase production up to at least 30,000 barrels per day. They also have plans already in place to move existing production from current producing wells up to 45,000 barrels per day very quickly, in less than 18 months if the pipeline capacity issue that they have right now is taken care of. This is a really good growth story in the next 18 months, and they're literally just waiting on the pipeline issue to be fixed.

    They also have a massive amount of exploration upside. I just saw in one of their news releases from a couple weeks ago that they have another, on their step out drilling for an exploration well, they have another 11,000 barrels-per-day well, which is considered marginal in Nigeria.

    It's pretty funny how a marginal well in Nigeria is over 10,000 barrels per day of light sweet crude, because here in the United States a marginal well for a shale oil thing is barely, when you first frack a well, it's barely 1,000 barrels per day and then the thing drops off in less than a year to 80 barrels per day. And that's considered marginal here in the United States-higher production costs. So lower production costs there.

    The only issue with Mart Resources-and this is the reason why the stock is not already well over $3 a share or over $5 a share-is geopolitical risk. And the market perceives that there's geopolitical risk, and that's what hurts the valuation.

    Kate Stalter: I read an article not too long ago about the continued interests in drilling off the coast of Alaska, for example-to do as you're saying, Jason, to avoid the geopolitical risk of some of these emerging nations. Do you see that trend remaining the same? Picking up? Decelerating?

    Jason Burack: Well, first of all, as an investor in the resource industry and especially the energy industry, all governments want oil revenue. They do so whether they have a national oil company or they're taxing the private oil companies more and more each year...they all want it.

    I would tell your listeners that there is literally no way of avoiding geopolitical risk entirely when investing in the energy sector, and the best thing you can do with your capital is to make sure you're diversified.

    A company like Apache, with a very diversified asset base that gets their cash flows from many, many countries-that's a good place to start. If you're going to buy a report and look at juniors like Mart-and we have other juniors and they're literally all over the globe, the best ones with the best fundamentals-Don't bet on one. Make sure that you spread your capital around, so just in case one government goes after it, then your others do superbly.

    Kate Stalter: Last question for you: Switching gears just a bit here: as we're speaking, the Fed made its expected interest rate announcement today. Ben Bernanke is doing his press conference as we speak.

    The markets have tended to gyrate according to expectation, or lack thereof, of further quantitative easing, making it very, very difficult for individual investors to be able to plan for savings like retirement. What do you see happening here? What do you think people should be doing?

    Jason Burack: Well, unfortunately with central bank policy here, it's really making it very, very difficult to be the Warren Buffett type of buy-and-hold investor for five, 10, 15, 20 years, because of the fluctuation in paper fiat currencies, because of all the central bank intervention in the markets.

    What I would tell people instead is to focus on a 12- to 18-month, maybe 24-month plan, and I wouldn't go for any further out than that, because the world could be dramatically different in 24 months than it is right now. Especially if Ben Bernanke decides that he can't do any more stimulus or quantitative easing.

    What I would just tell people is, unfortunately, they're going to have to learn a financial education. So if they're putting it off, they're going to have to learn it. They're going to have to at least be able to ask better questions of their financial advisor or person that they're giving their money to. That's the absolute minimum for what they should be doing. They need to learn the education, they need to come up with a better plan.

    Jun 25 12:26 PM | Link | Comment!
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