We Have Moved!

Starting today, all the new posts on Plan By Numbers blog cans be found at http://gordianadvisors.com/blog/.

My firm, Gordian Advisors, recently launched a brand new website and the blog was moved to a dedicated section there. The content and “voice” will remain the same.

Please change your RSS feeds if that’s how you get updates. If you were an email subscriber, I transferred your subscription to the new location and you should start getting updates from MailChimp.

We spent the past few months working with a graphic designer and a developer, both of whom are very talented. The new site has a great modern look, is mobile-friendly and designed with our clients and readers in mind.  Make sure to look at those cute kid pictures on about page (hover over professional photos).

Hope to see you there!

Tucson Water – That Grass Cost Me What? (04/29/2015)

This post has little to do with financial planning but I think many of our Tucson readers will find this analysis quite interesting. Summer season is almost upon us and as I was adjusting irrigation schedule for our yard, I got to thinking “How much is this grass going to cost me?” The answer turned out to be much harder to figure out than I thought.

I’m going to use our actual household water bills in the analysis below (we are pretty close to the average residential customer in Tucson). Exhibit 1 shows the details on my most recent bill (April 2015) and Exhibit 2 breaks it down in a different way.

A few observations:

  • Despite being a “Water Bill”, actual Tucson Water charges amount to only 31% of the total
  • Pima County sewer charges are a whopping 48% and Trash/Recycling is another 16%
  • It costs Tucson homeowner $41.50 a month just to have those services available, regardless of usage

Exhibit 1 – April Water Bill Detail


Exhibit 2 – April Water Bill Breakdown


So you have to pay $25 a month for fixed sewer and water charges just to have indoor plumbing. Then there are variable charges based on water meter readings. To make things complicated, water volume is measured in CCFs, which is a hundred cubic feet or 748 U.S. gallons. During the past month, we used 9 CCF or 6,732 gallons of potable water. This translates to household usage of 224 gallons of water per day or 224 / 3 = 75 gallons per person! For reference, average Residential GPCD (Gallons per Capita Daily) is 88 here. Total Potable GPCD in Tucson is about 130 gallons (compared to 220 in Scottsdale and 179 nationwide).

So how do we figure out what it costs to water your lawn, take a shower or flush a toilet? Exhibit 3 derives costs per gallon. There are three tiers of water charges, depending on the monthly CCF usage. So it will cost you anywhere from 0.75 to 1.5 cents for each incremental gallon of water. Our household usage in the past year has averaged 11 CCF per month, but we did hit 15-16 CCF in the summer months (Exhibit 4).

Note: sewer volume has more complicated calculations since they cap the max CCF based on three winter months. But for simplicity’s sake I’m assuming that sewer volume equals to water usage in any given month.

Now that we know the variable charges per gallon, let’s estimate how much it costs to perform some common household activities (Exhibit 5). Note that you need to know how many gallons each activity takes and it’s not that easy to figure out.  Also keep in mind that this is water volume only and doesn’t include costs of electricity to run the appliance OR heat up the water for it.

Exhibit 5 – Estimated Water Costs of Common Household Activities


So the results are not as dramatic as I expected. Finding out the it costs me 1-2 cents each time I flush the toilet is not likely to change my behavior. However, watering the grass does turn out to be quite costly during the height of the summer season. It might be something like $4.50 per cycle x 3 times a week x 4 weeks = $54 to keep the grass green for the month of July or August. Of course, there would be some monsoons to reduce the usage, but still…

If you were inspired to make some changes, Tucson Water has some excellent conservation tips.


Just to give you an idea on where your water goes, here is a breakdown for average U.S. household (Exhibit 6).


Can We Predict Bond Returns? (04/02/2015)

One of my favorite sources of weekly analysis are “The Weekly View” pieces from RiverFront Investment Group. Their team came up with a number of really cool analytical frameworks and one of them is shown in Exhibit 1.  The basic idea is that the starting yield on a 10-Year Treasury bond is a very good predictor of its total return over the subsequent 10 years.  So if the yield today is 1.9% (as of 4/2/15) then we can expect our annualized return to be 1.9%, give or take a few basis points.

Exhibit 1 – RiverFront’s Bond Return Framework


Intrigued by such a simple model, I decided to run my own numbers to see how it works and if I can glean any additional insights. The results of my admittedly more amateurish analysis are shown in Exhibit 2. The 10 Years panel recreates RiverFront’s chart with annual instead of monthly data. It shows strong correlation between starting yield and returns: R-square of 0.9 is quite high and there is a clear linear relationship. The next three panels drop the projection timeframes to 5, 3 and finally 1 year. As you can see in the correlation equations, the accuracy of return predictions declines for shorter periods. Visually, the datapoints exhibit more dispersion with the 1-Year panel spread all over the place.

Exhibit 2 – Forward Annual Returns Based on Starting Yield

Source: FRED, Robert J. Shiller, Aswath Damodaran, PlanByNumbers

So what does it all mean for people buying bonds (or bond funds) today? The equations suggest that bond investors should expect to make roughly 1.6% over the next 10 years (Exhibit 3). Keep in mind that those are nominal returns before inflation, which could easily be higher than that and result in negative real returns. Five year projection is a little higher at 2.3% but comes with lower “accuracy” of 0.8.  I wouldn’t pay much attention to the shorter timeframes, especially the 1-year randomness.

Exhibit 3 – Projected Forward Returns on 10-Year Treasuries


Overall, I would take these return projections with a grain of salt. One general takeaway is that bond investors should temper their expectations, which is not easy to do after a 30-year bull market.

HACKing the ETF Market (03/04/2015)

Recently I have come across an interesting example of the ETF industry catering to the “needs” of the investing public.

There has been a number of high-profile security breaches in the past few months, including Home Depot , J.P. Morgan Chase and Target. To address the growing concern about cyber security and provide an investment vehicle for it, a tiny ETF company launched PureFunds ISE Cyber Security ETF (HACK) on November 12, 2014.

Then two weeks later, Sony Pictures was hacked and the story received a huge amount of media coverage. Adding fuel to the fire, in early February 2015, there was a major data breach at a number two U.S. health insurer Anthem – it involved a database containing personal info about 80 million customers. Furthermore, President Obama addressed cyber threats extensively in his State of the Union Address and then led a cyber-security summit at Stanford University.

There is plenty of long-term potential for the companies in the index – according to PureFunds, each year cyber security incidents cost the global economy $400 billion and the rate of such incidents has been growing at a compound annual growth rate of 66% since 2009. J.P. Morgan Chase alone plans to double its annual cyber security spending to $500 million within the next five years.

With all this attention, ETF is up 16.8% from its launch compared to +4.5% for the S&P 500 (Exhibit 1). Lest you get all excited and plow into the fund, this is a very short track record. As a cautionary tale, take a look at how HACK’s largest holding has behaved since its IPO in September 2013 (Exhibit 2). FireEye Inc (FEYE) started out strong driven by wild optimism about future growth and the post-IPO return reached 165% by March 2014. Then as the excitement died down, it came back to earth and is currently neck-in-neck with the S&P 500. Keep in mind that this is a company that is growing revenues at triple digit rates, but still loses money every quarter. The point I’m trying to make is don’t get carried away with this exciting space.

Exhibit 1 – HACK Performance Since Launch vs. S&P 500


Source: Stockcharts.com, PlanByNumbers

Exhibit 2 – FEYE Performance Since IPO vs. S&P 500


Source: Stockcharts.com, PlanByNumbers

Business Perspective

We have seen this tale many times before – most recently with companies involved in solar energy, social media, and biotech. What I find more interesting is the business case for the ETF itself. From that perspective, PureFunds has hit a jackpot with a fashionable little corner of the market. I collected a history of Assets Under Management (AUM) figures for the fund from various news articles and press releases. Exhibit 3 shows how AUM has skyrocketed with each news story. It reached $100m in early January, just 55 days after launch. It has been going up in leaps and bounds (literally) and has almost doubled in the last two weeks alone! That is quite remarkable for a niche sector ETF sponsored by a tiny upstart. Good for them though, a little initiative and luck will still get you places in this business. With current AUM PureFunds stands to make over $3 million a year on the management fees – not bad for a few guys in Jersey.

Exhibit 3


Source: Yahoo! Finance, PlanByNumbers

Fund Composition and ETF.com data

Apparently, HACK has been in the making for couple of years. The universe of companies needed to grow to support market cap and trading volume for an ETF. The fund is currently composed of 31 stocks, mostly from USA and Israel and is dominated by small / micro-cap companies. Keep in mind that this space is still a tiny niche. All of the U.S.-based companies in the fund weigh in at only 0.95% of the Total U.S. Stock Market and 0.65% of that is due to CSCO alone.

You can find detailed stats on ETF.com’s Fund Report – it’s my new favorite source of data on ETFs.

I plan on doing a series of posts based on their fund database to analyze recent ETF launches and industry trends.

2014 Review: Economy Edition (02/04/2015)

U.S. GDP numbers were released last Friday, which means we can now finish 2014 year-in-review series by taking a look at major economic indicators. The employment situation continued to improve in 2014 (Exhibit 1).  The U.S. economy added 3.47 million new jobs (289,000 a month), which was a 60% improvement over 2013.  Total employment increased 2.5% which was quite a bit better than the 0.6% population growth.  The unemployment rate ended the year at 5.4%, which is in the range of what Fed currently considers full employment (see footnote).  U-6 rate is a broader measure defined as “Total unemployed, plus all marginally attached workers plus total employed part time for economic reasons”.

Exhibit 1 – Employment


GDP growth remained in the 2% range last year (Exhibit 2).  Auto sales jumped 8.9% to over 17 million a year (the highest level since 2005).  Inflation, as measured by Consumer Price Index, actually decreased and came in at 0.8%.  This level is well below the Fed’s 2% target and something to keep an eye on as everyone is trying to figure out when it will start raising rates.

Exhibit 2 – Growth & Inflation


Public debt increased to $17.8 trillion during the year (Exhibit 3).  On the positive side, a combination of tax hikes and spending cuts led to a big drop in budget deficit.  It declined by 30% to $483 billion or (only) 2.8% of GDP.  Despite the “Taper” , Federal Reserve still expanded its balance sheet to $4.2 trillion.  Average monthly increase was about $40 billion (down from $90 billion in 2013).  It should actually decline this year as securities mature and there are no fresh purchases. We’ll do a separate post analyzing Fed balance sheet in more details.

Exhibit 3 – Debt & Deficit


Note: Public debt figure as of Q3:2014

S&P 500 earnings growth decelerated to 7.9% (Exhibit 4).  P/E multiple expanded 3.3% to 17.8x.  10-Year Treasury rate declined to 2.2%, which was totally unexpected as most market pundits predicted a big jump in rates for 2014. 30-Year Fixed Mortgage rates also declined ending the year just under 4%.

Exhibit 4 – Earnings & Rates


Note: Q4:2014 S&P 500 earnings are consensus estimates as of Jan 22, 2015

Finally, the housing sector continued improving (Exhibit 5).  Both units and prices increased again in 2014, albeit at a much slower pace than in recent years.

Exhibit 5 – Housing


Note: S&P Case-Shiller 20-City Home Price Index as of Nov 2014


Federal Reserve currently considers full employment to be in the 5.2% – 5.5% range.

Committee participants’ estimates of the longer-run normal rate of unemployment had a central tendency of 5.2  to 5.5 percent.


More traditionally “Full Employment” in the U.S. means 4%.

The United States is, as a statutory matter, committed to full employment (defined as 3% unemployment for persons aged 20 and older, 4% for persons aged 16 and over); the government is empowered to effect this goal. The relevant legislation is the Employment Act (1946), initially the “Full Employment Act,” later amended in the Full Employment and Balanced Growth Act (1978).


2014 Review: International Edition (01/28/2015)

Continuing with the 2014 year-in-review series, I am going to take a look at the International markets in this post. Once again, U.S. was at the top of the list followed by currency-hedged foreign ETFs (Exhibit 1). Strong dollar was a big contributor to underperformance of International markets in 2014. For example, Europe lagged 21% behind SPY and 12% of it came from the currency impact. Frontier countries did ok, but cooled off significantly from 2013. Emerging markets actually outperformed developed countries for the year, but they still have atrocious 3 and 5-year numbers.

Exhibit 1 – 2014 Performance by Region/Category


Exhibit 2 is more granular and shows the performance of single-country ETFs. At the top, Asian countries had a big bounce after a pretty brutal 2013. The basement is dominated by European ETFs as well as various emerging markets. Russia and Greece are well-documented basket cases that have been in the news lately. However, developed European nations didn’t have a great year either.

Exhibit 2 – 2014 Single Country Performance


2014 Review: Sectors & Stocks (01/15/2015)

Continuing with the 2014 year-in-review series, I am going to take a look at U.S. sectors and industries in this post. Biotech continued its strong run coming in at the top of the list (Exhibit 1). After years of trading sideways, this group took off in 2011 as investors seeking growth areas piled in. Its 5-year annualized return is double S&P 500’s. Can such a strong run continue?

Semiconductors are sensitive to the economic cycle and their continued outperformance is a bullish sign. Utilities, on the other hand, are a yield play and had a big year as interest rates unexpectedly declined. Similarly, real estate recovered from a poor showing in 2013. Transports had a good year as economy continued to strengthen and oil prices tanked.

The bottom of the table is dominated by energy and resource plays. All manner of energy stocks followed oil prices lower. After a HUGE run in 2013, solar stocks lagged as declining energy prices don’t bode well for relative attractiveness of alternatives. Gold miners had another poor showing as the dollar rose. The group now sports negative 16.2% annualized 5-year return vs positive 15.3% for the overall market (SPY).

Exhibit 1 – 2014 Performance for Domestic Sectors & Industries


Performance of one industry group this year struck me as particularly amusing and instructional. Social Media ETF (SOCL) put together a huge run (even relative to very strong SPY) from June 2013 through March 2014 (Exhibit 2). Since then it has come back to earth and is now lagging the market. The amusing part is that it topped out two weeks after Facebook (FB) agreed to buy WhatsApp for $19 billion. Many consider this deal to be a poster child for the excessive excitement over the social media / internet space (particularly in venture-backed companies). It’s another example of investors [possibly] getting carried away – that applies both to individual investors and corporate buyers (remember AOL – Time Warner merger?).

Exhibit 2 – SOCL vs SPY


Let’s take a look at the 2014 returns for individual stocks. Exhibit 3 shows 20 best performing companies in the S&P 500. It’s an interesting mixture of travel, healthcare, consumer and tech names. The laggards, on the other hand, are overwhelmingly energy plays with a few consumer story-stocks (Exhibit 4).

Exhibit 3 – 2014 Top Performing S&P 500 Stocks


Exhibit 4 – 2014 Bottom Performing S&P 500 Stocks