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  • The $2 Trillion Crisis Nobody Is Talking About (Part 1)

    By David Sterman

    Teachers rarely dispense a "D" grade. They only do so when performance has been utterly lousy, or when they want to signal that without a better effort, a failing grade may be next. At least that was the logic behind the American Society of Civil Engineers (ASCE) and their quadrennial look at our nation's infrastructure four years ago. Soon after President Barack Obama took office in 2009, they slapped a "D" grade on the crumbling infrastructure of the United States.

    Call it "the wake-up call that went unnoticed." Legislators in Washington have accomplished little since then, so our nation's highways, bridges, byroads and water systems have suffered from even more benign neglect. Next month, soon after President Obama's inauguration, the ASCE will again weigh in with its report card. Will it actually issue an "F" grade this time around? And would that force Washington to finally address the issue?

    A pennywise logic

    Under the twisted new logic of Washington, there is no need to spend money in areas that don't immediately need them. But such logic is pennywise and pound-foolish. Take the I-35 Mississippi River Bridge collapse in Minneapolis back in August 2007 as an example. Engineers knew the bridge was showing deep signs of stress (in 1990, the federal government gave the I-35W bridge a rating of "structurally deficient," citing significant corrosion in its bearings), but minor fixes led them to conclude the bridge could hold up just fine for a little longer.

    Well, once the bridge finally collapsed, 13 lives were lost, another 145 people were badly injured and the region would suffer crippling delays for more than a year while a new bridge was being built. The fact that the new bridge was built in just 13 months means contractors had to work double-time, which means higher costs. Remarkably, the Minneapolis bridge was just 36-years-old when it when it broke apart. Many of our nation's bridges are far older, with the average U.S. bridge being roughly 43-years-old.

    Even more remarkable is the fact that 73,000 bridges in the U.S. are deemed "structurally deficient." The ASCE figures it will take $2.2 trillion to completely upgrade the country's crumbling infrastructure. And that's up $600 billion from the previous forecast from 2005. In effect, the longer we defer that spending, the worse the problem becomes.

    It may be wiser to view these costs as investments rather than expenses. The San Francisco wing of the Federal Reserve studied the issue and found that every dollar spent on infrastructure brings a positive return. It used highway spending as an example and found that "each dollar of federal highway grants received by a state raises that state's annual economic output by at least two dollars, a relatively large multiplier."

    A 2013 deal

    Thankfully, awareness of the infrastructure problem is growing in Washington and President Obama is pushing for $50 billion in fresh infrastructure funds in current budget talks. Sure, it's hard to see where we'll get the money in these budget-constrained times, and any effort to revamp the U.S. infrastructure radically will take many years. But these problems won't simply go away.

    The longer-term price tag will be formidable. Former Pennsylvania governor Ed Rendell has suggested that the government needs to spend an extra $180 billion a year for five years just to start to make a meaningful dent in the problem. That's roughly $600 for every man, woman and child in the United States, every year.

    Where would that money go? The various assets that need to be addressed include:

    Of course, state and local taxpayers will bear some of the burden. And the private sector may pitch in through the development of toll roads, airport privatizations and such. A hike in excise fees such as local gasoline taxes are sure to happen. In fact, the national highway gasoline tax, stuck at 32 cents a gallon since 1993, is quite likely to rise around 50 cents a gallon in 2013.

    How do Americans feel about a boost to infrastructure spending? They're divided. About 69% of Democrats support President Obama's goal of injecting $50 billion in infrastructure spending as part of the "fiscal cliff" compromise, according to a recent poll conducted by the Huffington Post and market research agency YouGov. But only 24% of Republicans support such a move, while a plurality of independent voters (38% for vs. 26% against) say it's a wise move.

    Action to Take --> Inaction is becoming less of an option. A major infrastructure problem, such as another collapsed bridge, may be just around the corner.

    As noted earlier, we're just weeks away from hearing about the ASCE's next report card. Will the U.S. infrastructure get a better grade this time around? "We haven't really invested additional money, so I would be hard-pressed to believe that the grade would improve," ASCE president Greg Diloreto told Bloomberg News this past summer. If anything, tight state budgets mean that basic maintenance on many infrastructure items has been cut back, so the possibility of a "D" grade is quite high.

    For investors, there is a silver lining. In part two of this analysis of our nation's infrastructure, I'll focus on the investment opportunities what will arise from the eventual upturn in infrastructure spending. Many of these firms have been suffering through a lean stretch, but could be poised for much better days ahead.

    Original Post

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

    Tags: economy
    Dec 18 9:19 AM | Link | Comment!
  • A High-Yield Bull Market in This Little-Known Asset Class

    By Carla Pasternak

    Most of the time, there's a trade-off between yields and capital gains. Want a stock that could rapidly rise? You'll have to give up a high dividend yield. Want a stock that pays double-digit income? The share price is unlikely to rise too much.

    But I'm spotting a largely unknown corner of the market that offers the best of both worlds -- strong yields of 10% or more, combined with rising share prices.

    Most investors haven't heard of business development companies (BDCs). These securities give ordinary investors the ability to play in a higher-risk/higher-reward arena usually reserved for large institutions or wealthy venture capitalists.

    You see, BDCs are essentially venture capital firms open to the public. The companies borrow at long-term rates and loan money to small companies that can't secure financing from traditional sources.

    The good news for us income investors is that many of these companies provide strong yields, and their share prices are soaring. For example, I added one company to my High-Yield Investing "10%-Plus" Portfolio about six weeks ago, and already it's ahead more than +12%. That's not unusual; many other BDCs have seen a similar rise.

    So what's driving this group of some three-dozen high-yield companies?

    Like other companies, BDCs can raise capital by selling shares or securing bank lines of credit. But one source of funding is unique to BDCs: loans issued by the federal government's Small Business Administration to BDCs licensed as Small Business Investment Companies (SBICs).

    These loans provide the BDC with secure long-term financing. Typically, the loans are several hundred basis points above the 10-year Treasury, and carry about a 6% interest rate. Depending on the type of loans they make, they can lend at rates higher than 14%, pocketing the spread.

    With proper credentials, a BDC can borrow up to $225 million. There is a bill working its way through Congress that would even raise the borrowing limit, providing additional capital for BDCs.

    Besides lending money at exorbitant interest rates to small businesses that traditional banks won't touch, most BDCs also offer "mezzanine" financing.

    That's an arrangement which allows them to convert their debt capital to an equity stake in a successful small business. Or the BDC may be given warrants that allow them to buy stock at a specified price and time if the indebted company gains in value. BDCs also charge a fee for supplying business advisory services to the companies it invests in.

    This revenue stream gives a BDC the ability to generate high current returns with the potential for robust future capital gains, a very attractive mix for investors.

    But BDCs have always had these advantages. Why are they seeing interest from investors now?

    First, while the credit crunch has eased, bank financing remains tight for small businesses. According to a recent Goldman Sachs report, "There is a lack of credit availability for small firms that rely mainly on bank credit." These firms need to turn to smaller lenders like BDCs for financing.

    Mergers and acquisitions are also heating up due to increased confidence in the business community. This creates fertile soil for deal making and BDCs in particular. As Paul Parker, Head of Global Mergers and Acquisitions for Barclays Capital, predicts, "The next two quarters will probably be...a very aggressive period of speed dating where companies will try out different combinations to see if they make strategic sense."

    BDCs thrive on merger mania, which boosts the capital gains potential of their existing equity stakes. And as the merger activity trickles downward to smaller companies, the need for financing from BDCs for buyouts and acquisitions should also increase.

    And that should lead to higher yields, thanks to the laws surrounding business development companies.

    As Registered Investment Corporations (NYSEMKT:RIC), BDCs must pay out at least 90% of their net investment income as dividends to shareholders to avoid paying corporate tax. That's why many of them carry double-digit yields, and the stronger the earnings, the higher the yields.

    But things weren't always so good for BDCs. The financial crisis of 2008-2009 wreaked havoc with many of them. Some were forced to cut their distributions and have been slow to recover.

    In searching for the best BDCs of the breed, you need to look for those with the best loan portfolios that are most likely to support the distributions entirely out of investment income. Evaluating the risk/reward profile of a BDC's portfolio is no easy matter, as credit rating agencies like Standard & Poor's don't slap a rating on most of the private companies that are held in BDC loan portfolios.

    But some BDCs do take more risk than others. The key is to check out whether the loans are senior or subordinated, secured or non-secured, a first or second lien. Senior secured debt is the most secure because it's paid back first and the lender may seize assets if the loan defaults.

    Of course, if a business development company does hold riskier assets, investors are typically rewarded with higher yields. In the current improving business environment, this type of BDC could prove the most lucrative.


    Disclosure: No positions
    May 04 11:48 AM | Link | Comment!
  • Nathan Slaughter's May ETF Informer

    By Nathan Slaughter

    The exchange-traded fund (NYSEMKT:ETF) world remains abuzz with activity on the new launch and product development fronts.

    Money managers like Pimco that have recently dipped their toes into the ETF waters with bond ETFs are signaling intent to branch out further. They will soon be joined by newcomers like Legg Mason, T Rowe Price, Putnam and Eaton Vance, which have already filed the appropriate SEC paperwork.

    I expect these established fund families to leverage their analytical resources by rolling out more actively-managed ETFs. Already, there are around 20 of these next-generation ETFs -- attracting more than $340 million in assets. That's just a tiny sliver of the industry's $800 billion, but I think we'll see more of these funds grabbing a larger piece of the pie going forward.
     
    The transition will likely be evolutionary rather than revolutionary, but wrapping professional day-to-day management inside the low costs and tax efficiency of an ETF could be a game-changer that marks the beginning of the end for traditional mutual funds as the world's most popular investment vehicle. (I've already heard of at least one mutual fund that's exploring ways to convert to an ETF).

    It will be exciting to see how this unfolds. If nothing else, more players means an expanded menu of investment options and downward pressure on costs -- good news for investors like you and me.

    In the meantime, issuers unveiled a number of promising new funds last month. I've included several of the more intriguing ones in the table below.

    The funds in this table should not be considered buy recommendations, but I do profile one candidate that is particularly interesting in the April issue of The ETF Authority.

    To read my analysis and gain access to my model portfolios (where 27 out of 29 of my recommendations are positive), click here.

    I'll be following the actively-managed ETF story closely. Like I said, it could be a game-changer and potentially spell the dethronement of mutual funds. I'll keep tabs on this story, and others, in the ETF world in the months ahead and will bring you any new developments.


    Disclosure: No positions
    May 04 10:34 AM | Link | Comment!
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