Starving for Yield – The Passive Income and Cash Flow Trap

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In an era of Zero Interest Rate Policy (ZIRP) and Negative Interest Rate Policy (NIRP), it’s no wonder that everyone and their grandma is starved for yield these days… Unlike years (decades) past, saving money and putting it in the bank is just extremely unrewarding… The returns are so anemic, that unless you were depositing millions of dollars in principal to your savings account, there’s just no way you’re realistically going to get to early FI through that route.

Ahhh yes… early FI… What everyone is fighting for!

And as everyone who is on the journey to financial independence knows full well, passive income (cash flow) is the name of the game — Build up an income stream that exceeds your monthly living expenses, and you can live out the rest of your days NEVER having to worry about money ever again…

Sounds so appealing right?

Unfortunately, like most things in life, the devil is in the details

Yes, it’s absolutely true that in order to not only get to but sustain early FI for perpetuity, you will need to have a reliable income stream in place to help you pay the bills each and every month… But just because passive income (cash flow) is the “holy grail”, that doesn’t mean that’s where our efforts need to be fixated at 24/7!

Right now, the markets are setting up a trap to ensnare the retail investors… And sadly, most folks on the path to early FI will not be able to detect it because they are so focused on building up their monthly passive income streams, brick by brick, that they refuse to observe anything else that’s going on outside of their task at hand…

As readers of this blog know, I strongly believe that money is made in the macro, not the micro.

So, as much as I’m a fan of passive income (cash flow), and believe me, I have a more pressing need than most right now to maximize my yields because I’m no longer employed, I refuse to invest on someone else’s terms.

No!

Give me a fantastic deal, an “opportunity of a lifetime”, or I’m going to cash out my chips and sit on the sidelines, instead…

Right now, when I look around me, all I see are massive Quantitative Easing (QE) bubbles (which are a consequence of easy money printing gone wild).

More succinctly for you:

  • S&P 500, Dow Jones, Nasdaq are all fuckin expensive!
  • Dividend growth stocks are fuckin expensive!
  • Real estate is fuckin expensive!
  • Bonds are beyond fuckin expensive!
  • Etc.

Thanks, but no thanks…

When everyone is out chasing after the same investments, I’ve learned throughout my investing career that the best course of action for me to perform is to steer clear of the madding crowds…

And again, since EVERYONE and I mean ABSOLUTELY EVERYONE is yield starved right now, it should come as no surprise to you where Big Money is flowing into…

Here it is again in static image form (in case the re-tweet didn’t go through above).

bubbles

Bubbles NEVER end well!

There will ALWAYS be bag holders left behind!

People clamor on and on about how you can’t “time the market” so don’t bother trying…

Well, yeah, no one is ever going to be good enough to be able to perfectly call exact market tops and bottoms, but c’mon, seriously? It don’t take no rocket scientist to see that assets that produce yield are currently being bid out of the stratosphere…

Cit pe multiples

Does that above chart look cheap to you? Do those valuations scream “once in a lifetime opportunity?”

If not, why bother?

No, I don’t believe ZIRP and NIRP are natural market forces!

 

Yes, I do believe that the Day of Reckoning will come! Someday sooner rather than later…

  • Dot-com was NOT different (but won’t the internet create unlimited growth and prosperity for all?)!
  • Subprime was NOT different (but I thought housing prices can only increase in value?)!
  • High yield will NOT be different (but where else do I go for passive income?)!

 

It’s NEVER different this time…

And at some point, valuations will matter again!

They ALWAYS do… So, I know that I’ve got history on my side…

 

Quite frankly, I don’t really give a shit what Central Banks across the globe are doing right now… They are quickly running out of bullets and this “Wealth Effect” Ponzi Scheme is going to go up in flames… Just wait and see.

Who has the QE bubble benefited? The rich of course… It hasn’t done anything to improve the economy for the everyday common worker… most of whom don’t even own any assets to begin with because they are struggling just to make ends meet everyday…

Sure, the rich are super greedy, but even greed has limits… And with declining/uninspiring outlook for future earnings growth, seriously, how anyone could still have interest buying up stocks, bonds, and real estate right now is beyond me…

Real estate, especially, scares the hell out of me…

When this QE bubble finally pops, debt will become your worst nightmare… In a deflation, debt will bring down anyone who is playing with a House of Cards… And too many real estate investors are getting way too complacent (like they always do at market tops)…

Anyway, I hate to be all “doom and gloom”, but anyone who is out there risking their hard-earned principal overpaying for mediocre assets that provide a pathetic yield (e.g. IBM, PG, EMR, etc.) with no real prospects for future growth, is focusing on all the wrong things… And will probably be blindsided when the tide finally turns.

Risk vs. reward…

If you don’t have a good grasp on that, you will struggle mightily in your quest trying to get to early FI.

In a game of Chess, the main objective is to capture your opponent’s King… But in order to do so, you don’t ALWAYS fuckin fixate on the main objective!

  • You plan.
  • You strategize.
  • You take what your opponent gives you.
  • You setup traps and avoid traps.
  • You focus on capturing the Queen (the most valuable and important piece).
  • Etc.

With early FI, the same mentality needs to apply here!

Yes, I want passive income (cash flow)… Big fuckin deal… So does everyone else… And right now, everyone else is paying through the nose to get even a semblance of it…

But maybe instead of fixating on passive income (cash flow) all the time, perhaps there are better appreciation (capital gains) deals to be found? Or maybe even sitting on the sidelines, flushed with cash, from time to time, can prove to be an excellent strategy?

Because, you know, you can convert net worth into cash flow later, right?

Don’t fall for your opponent’s trap!

Be an extremely picky and selective investor — If you can’t buy high quality merchandise for pennies on the dollar, look elsewhere, bide your time, and refuse to settle for less!!!

There’s ALWAYS a bull market somewhere… and there’s ALWAYS a bear market somewhere else…

Never let the stupid markets dictate your every move. Pay attention to valuations and fundamentals. Be cognizant of the fact that EVERY SINGLE ASSET CLASS moves up and down like a sine wave.

From Macro Trends.

screen-shot-2016-09-20-at-3-20-15-pm

There’s no such thing as straight-line perpetual growth!!!

When the ducks are quacking, feed them, and then get the hell out of dodge!

That’s been my gameplan…

And it’s helped me succeed so far in life… Of course, practically nothing that I’ve invested in up to date has ever been popular with the masses…

  • S&P 500 in 2009 (don’t buy the market will keep crashing!)
  • Real estate in 2012 (don’t buy the market will keep crashing!)
  • Precious metals in 2015 (don’t buy the market will keep crashing!)

So, I’ve learned to embrace what is hated… Further, avoid what is adored.

And look, as investors, just because we stop buying a particular asset class, it doesn’t mean that we have to liquidate all of our current holdings either!

Binary thinking is so elementary….

The world doesn’t have to be black and white… Aren’t there supposedly a million shades of grey, or something along those lines?

I still own rental properties for cash flow… I never sold any of my pre-designated Buy and Hold Forever assets… I just stopped buying real estate after 2015 because I realized the markets were insanely expensive!

It doesn’t have to be an “all or nothing” proposition… Right now, I like cash a lot and have plans to raise a lot more of it as we head into the fall season (which I expect to be plenty volatile).

 

As always, please do your own research and due diligence, and make only the corresponding investment decisions that are best for your own unique situation!

 

Just don’t assume that you have to do what everybody else is doing…

 

Quite frankly, right now, if I had to choose, I’d much rather buy shares of uranium mining stocks than shares of the S&P 500…

 

With uranium companies, in some cases, you have market valuations for an ENTIRE COMPANY trading for less than what it would cost to construct one of their mills/processing plants… You get all the other assets for free!

 

Now that’s what I call a good deal!

 

How come all I hear are *crickets*?

 

Don’t fall for the yield trap…

 

If everyone is out doing the exact same thing, there probably ain’t no juice (alpha) left for you to extract…

 

And to get to early FI, it’s all about maximizing gains (total returns) with your investment decisions.

 

Fight On!

 

Photo Credit: The Chess Website

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FI FighterJohnIntroducing the Start Here Section!FinanzrThe Money Commando Recent comment authors
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Srini
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Srini

Hi Jay,
Good post and was smiling all long while reading. I am happy to share that i will be quitting my day job by this year end ( Have started serving my 3months notice period with my employer)

I have been considering
a) Covering all the monthly expenses through cash flow ( Need to augment my existing cash flow with new instruments). This may leave no cash chest to make use of new opportunities
b) Eat into my cash chest to cover the cash flow deficit (30% of my monthly expenses) for next couple of years so that my existing investment grows and i can liquidate when the time is ripe. In the mean time if the opportunity presents itself, i will take half from the cash chest to divert to investment.

I am leaning towards option b) but havn’t made up my mind completely.

On Uranium, i have been tracking this sector from 2013 but have been hearing all commentators talking the pros and cons of uranium. The fact is its extremely difficult to accurately predict the supply. for the past year i have a strong feeling that U will move up when in the next inflation cycle kicks in and until then it may take more time to absorb the over supply in the market. I have sold all of my positions by mid 2014-15 and lucky enough to add to Gold and Silver mining portfolio. But boy U sector is in liquidation and in medium to long term there is boat load of money to be made in this sector.

All the best
Srini

Finanzr
Guest

You guys have been right in so many ways – and to be frank it was for everybody to see. But not everybody looked (including me).
I have always wondered, why we see deflation instead of inflation. My simple thinking was: more money = more inflation. But that is far from true.
Here is an interesting read on that topic:
http://www.forbes.com/sites/marcgerstein/2015/12/01/forget-the-fed-its-about-velocity/#1cb4769b55c6
https://www.stlouisfed.org/on-the-economy/2014/september/what-does-money-velocity-tell-us-about-low-inflation-in-the-us

So if I get it right, we just have to wait until velocity kicks back in to see inflation galloping away. I doubt the FED will be able to reduce money supply fast enough if velocity increases.

Any thoughts on potential catalysts? Maybe Deutsche defaulting?

Roadmap2Retire
Guest

Excellent post, FI Fighter! Couldnt agree more. Investors today are going blind hunting and searching yield. They are looking down on the tracks picking pennies and arent paying attention to the train heading towards them.

I for one have decided to pull money from these lofty levels of the market and looking elsewhere. As you mentioned basic materials are a great place and the start of this bull market in gold/silver is providing some great opportunities.

Fight on!
R2R

BeSmartRich
Guest

Great reading. That contrarian thinking will assure some margin of safety. I am currently restructuring portfolio now. Hopefully, I will be ready when bargain shows up again!

Lane
Guest

The real estate investor crowd are pointing to governments as the next bubble. Japan and a few of the other EU nations are getting more and more into debt. The debt is spreading like a plague to sorta healthy countries. Even stable dividend US stocks such as Unilever are giving out a zero dividend. WTF.

It makes sense to hold on to US real estate since it is a leverage able mixed commodity which is protected by the biggest bad ass military.

I don’t know much about stocks and world markets… Enough to not to screw around with it but in an environment of negative yields. US real estate seems to be the least ugly girl at the ugly girl dance. Right now I bought turnkey rentals I can get 8% Cashflow and 25-30% total returns per year. It’s not as good as a few years ago but yea … Least ugly girl.

The Money Commando
Guest

Yup – couldn’t agree more. I’ve stopped all new investments and have sold a few of what I consider the weaker companies that were in my portfolio (including the IBM you referenced).

There’s no value to be had in the market right now. It’s insane. As you said, at some point valuations WILL matter again, and I plan to be sitting on a fat cash pile, ready to take advantage of the bargains to be had at that time.

The hardest thing is to sit around doing nothing, waiting for everybody else to see that the Emperor has no clothes.

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John
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John

Jay, you mentioned you are building a war chest of around $200K waiting for the next downturn. Is that money just in an online account earning approx 2%? Because if it is deployed in Precious metals or Uranium; won’t those sectors also get hit in a downturn? I am planning to buy another house in the Bay area during the next downturn but can’t figure out where to hold the cash

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