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Investing Insights for CITGO Employees: The Pros and Cons of Dollar-Cost Averaging vs. Lump-Sum Contributions

The Value Series

What is Book Value?

Testing

Weighting

The Brandes Research Institute

About The Retirement Group

Sources

The Value Series

Given the current elevated market volatility, we think now is a good time to revisit important value metrics in our four-part series. As an employee or retiree of CITGO, who likely has little market analysis experience, we understand that the valuation process can seem confusing. However, we are here to tell you that the valuation process does not have to be complex to be successful. Simple valuation techniques such as the price-to-book ratio are generally easy to use and have been proven to be effective if utilized correctly. Investors are often looking for ways for their clients to beat the market. If you're one of those investors, you may want to consider the following strategy that has been implemented by the investment greats. Some value investors have historically beat the average annualized returns of the S&P 500, and many have successful track records spanning several decades to prove it. CITGO employees, it is important to be knowledgeable regarding tactics used by famous investors such as Warren Buffett, Benjamin Graham, David Dodd, Charlie Munger, Christopher Browne and Seth Klarman. The investment style implemented by these professionals focus on four metrics that characterize a value investment. These four metrics include the Price to Earnings Ratio, the Price to Cash Flow Ratio, High Dividend Yield and the Price to Book Ratio. These metrics, as you will see, are strong indicators of undervalued security. If undervalued security is brought back to fair value then we would see positive returns on that security. For CITGO employees, it is possible to utilize these metrics to better position yourself in the market for heightened returns. We will examine the effect of investing based off of certain characteristics and how their investment returns are correlated. Today, I want to end the four-part TRG Value Series with the granddaddy of metrics, the Price-to-Book value ratio (P/B).

What is Book Value?

Book value is preferred by many value investors to cash flow and earnings metrics because it is more stable year-to-year whereas cash flow and earnings can vary greatly. This is an important property for those at CITGO to look out for due to the following reason: When a business at a cyclical trough with diminished cash flow and earnings might look expensive on the basis of price-to-cash flow or price-to-earnings, that same business may appear cheap on the basis of price-to-book value. This is because book value won’t fall much or at all in a downturn, and vice versa. Thus, the argument goes, the price-to-book value gives a more reliable picture of a company’s usual business performance, which CITGO employees can use to elevate their investment decisions and investment performance. Benjamin Graham popularized the indicator in his books “Security Analysis” and “The Intelligent Investor”. Nobel Prize winner Eugene Fama and his research partner Kenneth French used the ratio in their three- and five-factor models to describe stock returns. Professor Joseph Piotroski uses the ratio as the only valuation measure in his F-Score methodology.

Testing

We understand the importance of data driven research for CITGO employees and retirees. Set out below are the results of two Fama and French backtests of the book value-to-market equity (the inverse of the PB ratio) data from 1926 to 2013. As of December 2013, there were 3,175 firms in the sample (Carlisle-PB, P2). The value decile contained the 459 stocks with the highest earnings yield, and the glamour decile contained the 404 stocks with the lowest earnings yield.

The average size of the glamour stocks is $7.48 billion and the value stocks are $2.54 billion. (Note that the average is heavily skewed by the biggest companies. For context, the 3,175th company has a market capitalization today of $404 million, which is smaller than the average, but still investable for most investors). Portfolios are formed on June 30 and rebalanced annually. When accounting for this backtest, CITGO employees may recognize how two portfolios are weighted by market capitalization, which means that bigger firms contribute more to the performance of the portfolio, and smaller firms contribute less. Here, we can see that the value decile has comprehensively outperformed the glamour decile, returning 12.6 percent compounded (17.7 percent in the average year) over the full period versus 8.6 percent for the glamour decile (10.9 percent in the average year) (Carlisle-PB, P3).

These returns are considerably lower than the returns found for the price-to-earnings and cash-flow ratios discussed earlier. Despite the irregularity, CITGO employees must be aware that the earnings and cash flow back tests ran back to only 1951, and the book value return data begins in 1926. The difference is due to the 1929 crash, which had an oversized impact on returns. The impact of the crash is visible on the chart; it took twenty years for the value decile to fully recover. CITGO employees must also note how something similar has happened to the glamour decile since 2000; it hasn’t grown in 13 years. To make a comparison possible of the book value’s performance to the performance of earnings and cash flow over the same period, I also measured the returns beginning in 1951. Since 1951, the low P/B value decile has generated a compound annual growth rate (CAGR) of 15.0 percent and an average annual return (AAR) of 17.9 percent. Over the same period, the glamour decile returned a CAGR of 9.6 percent and an AAR of 12.6 percent (Carlisle-PB, P5). These returns are approximately the same as the returns generated by the low P/CF and P/E studies over the same period.

In their study, they found that the quintile of the lowest P/E stocks significantly outperformed the high P/E quintile. The portfolio containing the lowest P/E stock returned 11.61% annualized compared to 4.83% for the highest P/E portfolio and 7.55% for the used universe of stocks. The graph below shows how the cumulative returns compare (it’s not even close). CITGO employees can utilize this information to avoid investing in underperforming assets and better predict economic trends that translate into higher ROI.

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Weighting

It is important for employees and retirees of CITGO to understand how market capitalization-weighted returns are useful for demonstrating that the outperformance of value over glamour is not due to the value portfolios containing smaller stocks. Unless you’re running an index (or hugging an index), they’re not really meaningful. The easiest portfolio weighting scheme is to simply equally weight each position. (If we’re prepared to put up with a little extra volatility for a little extra return, we can also Kelly weight our best ideas). Kelly Weighting is determined by the Kelly Criterion which is a formula used to determine what percentage of their capital should be used in each trade to maximize long-term growth. There are two key components to the formula (Kelly % = W- [(1 - W) / R]): the winning probability factor (W) and the win/loss ratio (R). The winning probability is the probability a trade will have a positive return. The win/loss ratio is equal to the total positive trade amounts divided by the total negative trading amounts. The result of the formula will tell investors what percentage of their total capital they should apply to each investment. By utilizing the Kelly Weighting, investors employed or retiring from CITGO can have a better grasp of their exposure to each individual asset in their portfolio and make informed decisions regarding their asset allocation.

CITGO employees should also account for the equal weight return statistics for book value. In the equal weight backtest, the value generated a 20.2 percent compounded return (27.3 percent on average), beating out glamour’s 6.3 percent compounded return (10.4 percent on average) (Carlisle-PB, P10). Since 1951 the equally weighted P/B value decile has generated a compound annual growth rate (CAGR) of 20.0 percent and an average annual return (AAR) of 25.4 percent (Carlisle-PB, P11).

Over the same period, the glamour decile returned a CAGR of 6.4 percent and an AAR of 10.8 percent. These returns are close to the same as the returns generated by the low P/CF and P/E studies over the same period. When accounting for this information, CITGO employees must recognize that the value portfolios outperformed because they bought more book value per dollar invested than the glamour portfolios: 4.57x on average versus 0.25x in the glamour portfolios (Carlisle-PB, P12). In the equal-weight portfolios, value has significantly outperformed glamour since 1999, beating it by an extraordinary 15.9 percent compounded, and 16.1 percent in the average year (Carlisle-PB, P13).

The Brandes Research Institute

Because we understand just how important data-driven solutions are for our CITGO employees and retirees, we have provided another study, which discusses the P/CF ratio. In a Brandes Research Institute study, Exhibit 6 below illustrates the global all-cap findings across three price metrics.

The results confirmed a consistent value premium across all metrics. We will focus on the P/CF ratio and the outperformance in the decile 10 value stocks. The smallest outperformance between decile 1 glamour stocks and decile 10 value stocks can be observed with the P/B measurement, where the average outperformance was 7.1% (Brandes, p. 8).

About The Retirement Group

The Retirement Group is a nation-wide group of financial advisors who work together as a team.

We focus entirely on retirement planning and the design of retirement portfolios for transitioning corporate employees. Each representative of the group has been hand selected by The Retirement Group in select cities of the United States. Each advisor was selected based on their pension expertise, experience in financial planning, and portfolio construction knowledge.

TRG takes a teamwork approach in providing the best possible solutions for our clients’ concerns. The Team has a conservative investment philosophy and diversifies client portfolios with laddered bonds, CDs, mutual funds, ETFs, Annuities, Stocks and other investments to help achieve their goals. The team addresses Retirement, Pension, Tax, Asset Allocation, Estate, and Elder Care issues. This document utilizes various research tools and techniques. A variety of assumptions and judgmental elements are inevitably inherent in any attempt to estimate future results and, consequently, such results should be viewed as tentative estimations. Changes in the law, investment climate, interest rates, and personal circumstances will have profound effects on both the accuracy of our estimations and the suitability of our recommendations. The need for ongoing sensitivity to change and for constant re-examination and alteration of the plan is thus apparent.

Therefore, we encourage you to have your plan updated a few months before your potential retirement date as well as an annual review. It should be emphasized that neither The Retirement Group, LLC nor any of its employees can engage in the practice of law or accounting and that nothing in this document should be taken as an effort to do so. We look forward to working with tax and/or legal professionals you may select to discuss the relevant ramifications of our recommendations.

Throughout your retirement years we will continue to update you on issues affecting your retirement through our complimentary and proprietary newsletters, workshops and regular updates. You may always reach us at (800) 900-5867.

Sources

What to do with an Early Retirement Ebook
Social Security Ebook
Lump Sum vs. Annuity Ebook
401(k) Rollover Strategies Ebook
Closing the Retirement Gap Ebook
Brandes Institute, The. “Value vs. Glamour: A Long-Term Worldwide Perspective”. 2014. < https://www.brandes.com/docs/default-source/brandes-institute/value-vs-glamour-worldwide-perspective>.
Carlisle, Tobias. “Investing Using the Price-to-Earnings Ratio and Earnings Yield (Backtests 1951 to 2013)”. May 26, 2014. <http://greenbackd.com/2014/05/26/price-to-earnings-ratio-backtest-1951-to-2013/>.
Causeway Capital. “The Compelling Case for Value Stocks”. 2018 https://www.causewaycap.com/wp-content/uploads/2018/02/201802-TheCompellingCaseforValue-1.pdf
Research Affiliates. “To Win with ‘Smart Beta’, Ask if the Price is Right” September 7, 2016 < https://seekingalpha.com/article/4004564-win-smart-beta-ask-price-right>
Tweedy Browne Company LLC. “What Has Worked in Investing: Studies of Investment Approaches and Characteristics Associated with Exceptional Returns.” 1992. <http://www.tweedy.com/resources/library_docs/papers/WhatHasWorkedFundVersionWeb.pdf>.
Yuan, Vera. Guru Focus. “Earnings, Free Cash Flow, Book Value? Which Parameters Are Stock Prices Most Correlated To?”. August 2, 2013. < http://www.gurufocus.com/news/225255/earnings-free-cash-flow-book-value-which-parameters-are-stock-prices-most-correlated-to->.
Fama and French Backtesting http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html

What are the eligibility criteria for employees to participate in the Retirement Plan of CITGO Petroleum Corporation, and how do these criteria affect the benefits that employees accrue? Employees of CITGO Petroleum Corporation must meet specific criteria to qualify for the Retirement Plan, which is designed to provide a stable income during retirement. Understanding these eligibility requirements is crucial for employees, as it impacts their expected benefits and retirement strategy.

Eligibility for the CITGO Petroleum Corporation Retirement Plan: Employees must be at least 21 years old and have completed 12 months of employment with at least 1,000 hours of service to be eligible. Hourly employees covered by a collective bargaining agreement are typically included after meeting these requirements. Eligibility significantly affects benefits accrual, as being a participant allows employees to begin accruing service and vesting credits, which directly influence retirement benefit calculations(CITGO_Petroleum_Corpora…).

How does the Cash Balance Benefit structure work within the Retirement Plan of CITGO Petroleum Corporation, particularly regarding the accumulation of Compensation Credits and Interest Credits? The Cash Balance Benefits offer a valuable retirement savings mechanism for CITGO employees, impacted by their Basic Earnings and years of service. As interest rates fluctuate, the manner in which these credits accumulate can significantly influence the overall retirement benefit.

Cash Balance Benefit Structure: The Cash Balance Benefit under the Retirement Plan includes Compensation Credits and Interest Credits. Compensation Credits are based on a percentage of Basic Earnings, determined by the employee's age and years of service. Interest Credits are applied annually and are calculated based on the higher of the 30-year Treasury securities rate or 1.5%. These credits are added to the employee's notional account balance each year, with the total balance used to determine the retirement benefit(CITGO_Petroleum_Corpora…).

In what ways can employees of CITGO Petroleum Corporation manage their Frozen Accrued Benefit upon retirement, and what considerations must they take into account? Employees nearing retirement should know how to optimize their Frozen Accrued Benefit for their individual retirement planning. Factors such as timing, potential changes in personal circumstances, and regulatory aspects play a critical role in this planning process.

Managing Frozen Accrued Benefits: Upon retirement, employees can manage their Frozen Accrued Benefit by selecting different payout options such as a single-life annuity or joint and survivor annuities. The timing of retirement also plays a key role, as early retirement may reduce the benefits based on age reduction factors. Employees need to consider their financial circumstances and retirement goals to optimize this benefit(CITGO_Petroleum_Corpora…).

What are the implications of transferring employment status (from hourly to salaried) on participation in the Retirement Plan of CITGO Petroleum Corporation? Understanding how a transition from hourly to salaried employment affects fund accumulation and credit service under the Retirement Plan is vital for employees planning their careers. Such transitions need to be handled carefully to ensure that benefits remain maximized.

Effect of Employment Status Transfer: A transfer from hourly to salaried employment will freeze Benefit Credit Service under the Plan, but Vesting Credit Service continues. Compensation and Transition Credits cease for hourly employees transitioning to salaried roles. However, Interest Credits continue until the Cash Balance Benefit is distributed. These changes can affect the overall retirement fund accumulation(CITGO_Petroleum_Corpora…).

How do various retirement benefit options, including lump-sum payments and annuities, function within the CITGO Petroleum Corporation Retirement Plan? Employees face various choices regarding the disbursement of retirement benefits, each carrying unique financial implications. Evaluating these options requires a keen understanding of how they interact with overarching financial goals.

Retirement Benefit Options: CITGO Petroleum employees can choose between receiving their retirement benefits as a lump sum or through an annuity. Each option has different financial implications. Lump-sum payments offer immediate access to funds, but annuities provide a steady income stream over the retiree's lifetime. The choice between these options depends on the employee’s personal financial strategy(CITGO_Petroleum_Corpora…).

What is the role of the Plan Administrator in resolving benefits-related issues for employees at CITGO Petroleum Corporation, and how can employees effectively interact with this office? Employees must understand the administrative structure governing their retirement benefits. Effective communication with the Plan Administrator can significantly enhance an employee's ability to navigate complex issues regarding their retirement.

Role of Plan Administrator: The Plan Administrator is responsible for managing and resolving any issues related to retirement benefits. Employees can contact the Benefits HelpLine for inquiries or disputes regarding their benefits. Effective communication with the Plan Administrator ensures that employees can navigate and resolve issues related to their retirement plan(CITGO_Petroleum_Corpora…).

How does the vesting schedule impact the retirement benefits of employees at CITGO Petroleum Corporation, and what strategies can employees employ to ensure full vesting? The vesting schedule is a critical component influencing when employees become entitled to their benefits. Employees should be aware of what actions can enhance their vesting status prior to retirement.

Impact of the Vesting Schedule: CITGO’s vesting schedule requires employees to have at least three years of service to become 100% vested. Vesting entitles employees to receive full benefits under the Plan. Employees nearing retirement should ensure they meet the vesting requirements to maximize their entitled benefits(CITGO_Petroleum_Corpora…).

What are the special provisions that exist for employees returning to work after receiving retirement benefits within the CITGO Petroleum Corporation Retirement Plan? Employees considering retirement must appreciate how returning to work can alter their benefits under the Retirement Plan. The potential effects on benefit payments, roles, and rights are crucial discussions for retiring employees.

Returning to Work Post-Retirement: Employees who return to work after receiving retirement benefits will have their benefit payments suspended. Upon re-retirement, their benefits are recalculated to reflect any additional service accrued during reemployment. Employees must understand these provisions to avoid potential disruptions to their retirement income(CITGO_Petroleum_Corpora…).

How is the funding status of the Retirement Plan of CITGO Petroleum Corporation determined, and what implications does it have for current and future benefits? The viability of the Retirement Plan is heavily influenced by its funding status, impacting all participants. Employees should stay informed about what underpins this status and how it may affect their own long-term retirement planning.

Plan Funding Status: The funding status of the Retirement Plan is essential, as it affects the availability of lump-sum payments and may influence future benefits. Employees should monitor the Plan’s funding status to understand how it impacts their options and the security of their retirement benefits(CITGO_Petroleum_Corpora…).

How can employees of CITGO Petroleum Corporation obtain further information about their retirement benefits, and what specific resources are available to assist them? Employees seeking additional guidance must know the channels available for inquiries. By reaching out to the Benefits HelpLine, employees can access crucial information that aids in managing their retirement planning effectively. For more information, employees can contact the Benefits HelpLine at CITGO Petroluem Corporation by emailing Benefits@CITGO.comã€4:18â€ sourceã€‘.

Accessing Further Information: Employees can obtain further details on their retirement benefits by contacting the Benefits HelpLine or the Plan Administrator. These resources provide necessary guidance on managing retirement benefits and addressing any issues or questions that arise(CITGO_Petroleum_Corpora…).