Nobody’s forcing you to act

One of the things Buffett likes about the stock market is that you do not have to do anything. He has said that, if the market closed for a decade, it would not bother him.

That may sound odd. But compared to other types of investment, I see it as a big advantage of share ownership.

By contrast, imagine you own a rental property or small business. Even if you went 10 years without selling it (or buying a new one), there would still be plenty to do. You might have to renovate the property, for example, or keep working in the business.

Compare that to shares. You can buy a share – something Buffett thinks of as a small stake in a business, not just a piece of paper. You can hang onto it without doing anything. There is no need to lift a finger. With some shares, you may even receive regular financial rewards simply for owning the share, in the form of dividends.

Riding the storm

That is nimportant, because it means that no matter how panicked other people may start to be during a period of stock market volatility, there is typically no need for a shareholder to act if they do not want to.

If you own shares and believe the underlying value of the business remains unchanged, a tumbling share price does not matter. As Buffett notes, the market offers you a price at which you can buy or sell a share each day it is open – but you have no obligation to act on it.

Buffett’s own approach in such a situation tends to be simply riding out the storm. Having owned some shares for decades, he has hung onto them through thick and thin in the wider stock market, because he continues to believe in their investment case.

On the hunt for bargains

But a rocky market can throw up some bargains. Take ExxonMobil as an example. During the 2020 stock market crash, it traded for as little as a fifth of the all-time high price it has hit over recent weeks. That means a huge capital gain for some shareholders.

On top of that, the company has raised its dividend per share annually for decades. The yield is 2.6% — but for a buyer at the lower price back in 2020, the current yield would be over 13%.

Current oil price volatility is a risk to the company’s earnings. For now, I will therefore not be investing.

But ExxonMobil’s underlying strengths today remain the same as in 2020: a large base of proven energy resources, long extraction and marketing expertise and a cost-efficient operation.

ExxonMobil is on my watchlist in case future market turbulence again marks its stock down to a bargain price.

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That’s because putting money into shares can help build up a portfolio of shares to help fund retirement.

But something a lot of people don’t understand is that that doesn’t necessarily rely on a booming stock market. In fact, a correction or even a crash in the market can help speed the process up.

Lower prices can be scary but helpful

Let’s start by considering what a crash actually is.

Each day it’s open, the stock market quotes you (and everyone else) a price at which it’s willing to sell you a given share. It also quotes you a price at which it’s welling to buy the same share (or any others) from you.

But that’s just an opportunity – not an obligation.

That point’s crucial.

A crash can scare people because they look at their portfolio valuation and suddenly it’s much lower than it was even a few days before. But that’s only a paper loss. As there’s no obligation to sell, there’s no obligation to crystallise that loss.

But there is an opportunity – and potentially a lucrative one for those who want to retire early.

Quality on sale

That opportunity is buying into great businesses at a lower price than it’s normally possible to do.

That can push up dividend yield, as yield’s a function of both a company’s dividend per share and what you pay for that share.

I can illustrate this with a share I bought during the pandemic (and later sold): US oil major ExxonMobil (NYSE: XOM).

With its scale, business efficiency, and worldwide footprint, I think there is a lot to like about ExxonMobil. Even at today’s share price, I see it as a share for long-term investors to consider.

But it was much cheaper a few years back.

ExxonMobil has raised its decade per share annually for many decades. Right now it yields 2.7%. That is below the FTSE 100 yield on this side of the pond, but by US standards it is well over double the current S&P 500 yield.

In 2020, though, the ExxonMobil share price was less than a quarter of where it stands today.

So, someone who bought then would now be yielding over 11%, versus the 2.7% yield on offer to today’s buyer.

That share price fall – and recovery – tells its own story.

A big risk back then was weak oil prices. ExxonMobil kept growing its dividend, but Shell and BP both cut theirs. Oil prices have since risen, but today’s geopolitical uncertainty means they’re still a risk. That could hurt ExxonMobil’s mammoth profitability.

Getting ready now for future opportunities

Buying a share at a lower price and so earning a much higher yield can help an investor hit their retirement goals years early.

Such opportunities don’t come around too often, though – and when they do, they mightn’t last long.

That’s why it can pay to prepare in advance.

Rather than waste time trying to time the next stock market crash, I’m updating my list of shares I’d like to buy if I can do so at an attractive enough price.

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What it takes to go from zero to a million

If one seriously wants to become a stock market millionaire, it takes not just ambition but also a practical plan.

Putting in just a few quid and hoping to stumble on some miraculous once-in-a-generation share will not cut the mustard, I reckon.

Not only is a proper investment strategy required — so is capital. It takes money to make money.

That means that, while it is possible to start with zero, a disciplined regular saving plan is a helpful tool to provide money to invest.

Everyone’s financial situation is different and that will affect how much any one person can invest in their share-dealing account or Stocks and Shares ISA. But the short of it is, the more one puts in, the faster one can aim for a million.

Why doing less can earn more

Imagine an investor puts in £800 each month and was able to grow their portfolio value at a compounded value of 5% annually by investing in 50 leading shares.

Doing that to aim for a million, the investor would be opening the champagne after 38 years.

But imagine if they bought just the 7 or 8 best-performing of those 50 shares and achieved a compound annual growth rate of 10%. They would be a millionaire in 26 years. At 15%, it would take just a couple of decades.

How the top shares perform will vary over time. But the same principle always applies: the best-performing few shares in any group (say, the FTSE 100) over a given time period will outperform the rest.

That can speed things up, perhaps significantly, as in the path towards a million.

That is just simple maths. What is not so simple, alas, is knowing (or even guessing well) which shares will be top performers in any given timeframe.

Going for great, nor merely decent

Many investors know the difference between finding what feels like a really good opportunity and a merely decent one. Great ones can be rare: Warren Buffett pins much of his success on “about a dozen truly good decisions” over many decades.

It can therefore feel tempting to invest in merely decent opportunities. But Buffett’s strong performance comes from being patient and going for brilliant chances in a big way.

As an example, consider ExxonMobil (NYSE: XOM).

I expect demand for oil and gas to stay high. For decades people have been talking about use falling – and I do see that as a risk – but so far it has been resilient, as the global population grows.

Exxon is in prime position to benefit from this. It has a more focussed portfolio than some rivals, outstanding assets, and a proven business model over many decades.

In fact, not only has it proven its business over decades, the energy major has grown its dividend annually for decades.

The thing is, although I think it is a great business the share price does not strike me as cheap. So, for now, I am watching without buying.

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This challenge is underscored by the ever-rising pension age, reflecting the strain on the State pension system.

The age at which we can retire is set to rise to 67 between May 2026 and March 2028, and expectations are it will increase to 68 from 2044. Research released this month by the International Longevity Centre suggest even this may not suffice. The think tank proposed a rise to 71 instead.

The crux of the issue with the State pension system is that contributions today fund current retirees, rather than investing in burgeoning businesses or technologies. This model is increasingly unsustainable due to demographic shifts leading to a larger retired population supported by a smaller working-age base.

Go my own way

So, what’s the alternative? Personal investment. By proactively managing my finances, I can secure my retirement independently of the State pension age.

I’d opt for stocks over a fixed savings account with a 5% return. That’s because the long-term average stock market return is around 10% annually.

Investing my £20,000 Stocks and Shares ISA allowance at this rate, let’s examine the potential growth over 35 years compared to a 5% return:

At a 10% growth rate, my initial £20,000 investment could blossom to £652,773 in 35 years, a stark contrast to the £114,674 at a 5% growth rate. Even though 10% is only twice as much as 5%, the compounding effect leads to me banking nearly six times as much by the end of the 35-year period.

Decisions, decisions

How would I go about investing in stocks? First, I’d open a Stocks and Shares ISA and max out the £20,000 limit.

I’d fill the account with a broad selection of international, high-quality, dividend-paying companies. I’d look through the FTSE All-World High Dividend Yield Index for ideas. This index features a range of companies across various sectors and countries, offering a blend of growth potential and dividend income. Notable constituents include technology giant Broadcom, banking leader JPMorgan Chase & Co, and energy titan Exxon Mobil Corporation, among others. These companies could offer robust returns while diversifying my investment risk.

By the end of the 35-year period, I’d use the 4% withdrawal rule. This would, in theory, allow me to take out £22,974 a year without threatening the principal.

Of course, while that sounds like a decent chunk of change to live off today, I dread to think how much a loaf of bread, a pint of milk, or a week’s holiday to Spain might cost by the year 2059.

I could bolster my yearly withdrawal by drawing down some of the principal too if necessary while I waited for the State pension to finally come through.

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So why have I sold all of my Exxon shares?

Cyclical energy markets

Energy markets tend to be cyclical. When selling prices are high, producers invest in new projects. Those can have long lead times. So by the time oil gets pumped, the economics may have changed completely. Suddenly, a glut of oil leads to crashing prices. In turn, that leads to less spending on new projects for the future – setting up the whole cycle to start again.

A couple of years ago, energy demand was uncertain and producers like Exxon dramatically cut their capital expenditure. In 2020 alone, Exxon spent almost $10bn less on capex than it had originally planned. Other energy majors also made deep cuts. Meanwhile, pandemic-era falls in energy use are a thing of the past in most markets. There have also been unexpected supply shocks, such as those caused by the Russian invasion of Ukraine.

Soaring Exxon stock price

All of this has helped push Exxon’s price upwards. A tighter supply outlook, robust demand and high selling prices have meant the company has been in clover. It earned $5.5bn in the first quarter alone.

But that is not the only explanation for the surging Exxon share price, in my view. A couple of years ago, some investors worried that the oil giant’s huge Guyana project could turn out to be a white elephant. What was the point of spending vast sums to develop a new oil project when there were doubts in some quarters that oil and gas demand would ever recover to 2019 levels, let alone grow further?

Fast forward two years and a lot has changed. With resurgent oil demand, the massive Guyana project looks like a smart move on Exxon’s part. It ought to be pumping 340,000 barrels per day later this year.

Pandemic-era cost cuts also mean the company is now leaner, so it can turn a profit at a lower oil price than before. Its breakeven cost per barrel of oil has fallen well below $40. Meanwhile, the benchmark WTI crude oil price has soared to $120 per barrel.

My move on Exxon

It feels like everything is suddenly going swimmingly for Exxon. That makes me a bit nervous, given the cyclical nature of the oil market. High prices will not last for ever — but I think they have been a key factor in driving up the price of Exxon lately.

That is why I have sold all my Exxon stock. Both oil prices and the Exxon share price may go higher from here. But, as Warren Buffett cautions, I am sometimes fearful when others are greedy. At some point I think the current oil bubble will pop, so I have taken my profits off the table now. I will continue my search for what I see as more reliable stocks I can hold for the long term

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British American Tobacco

One of my favourite passive income ideas that I use in my own portfolio is owning shares of British American Tobacco (LSE: BATS). The company behind famous brands such as Lucky Strikes is a cash generation machine. Cigarettes are cheap to make but can be sold at a premium price. That helps explain the £9.8bn of net cash the company generated from its operating activities last year.

BATS has substantial net debt – around £40bn when it last reported. So some of that cash generation is used for interest payments. Even after that, the strong cash flows allow for generous dividends. Last year the company paid out a mammoth £4.7bn to shareholders in the form of dividends. With a 10-year compound annual growth rate of 7% and annual increases for over two decades, the BATS dividend is highly attractive to me.

On top of that, the company’s share price means that currently the yield is around 7.8%. That means that if I put £1,000 into the shares today, that investment alone would hopefully give me £78 of passive income next year.

But dividends are never guaranteed and there are risks to the BATS dividend. For example, mounting regulation could impose additional costs, eating into profit margins. Declining rates of cigarette purchase in key markets could lead to falling revenues.

ExxonMobil

Another of the passive income ideas I use in my portfolio is ExxonMobil (NYSE: XOM). The US-based energy company is an oil and gas giant. While there is a risk that shifting energy demands cuts revenues, personally I reckon oil and gas could remain profitable for decades to come. A growing global population and lack of cost-effective substitutes in many cases should keep oil demand high for a long time.

Exxon has energy expertise that might allow it to benefit from an increase in alternative energy sources too. That could boost revenues and profits, although in the coming years I see it as insignificant compared to the main profit drivers of oil and gas. Last year saw many companies including Exxon cut back heavily on capital expenditure. That could lead to lower oil availability several years down the line. That could help support pricing.

Exxon yields around over 5%. As well as the risk of declining demand and oil price falls, there is an exchange rate risk. As the shares pay out in US dollars, currency shifts could affect how much I earn in passive income from my Exxon position.

Two simple passive income ideas

If I put £5 a day away, after a year I would have over £1,800 saved up. I could split that between BATS and Exxon. At the current yield, that would give me a projected passive income stream of around £120 per year in future. Both companies have a history of dividend growth so my passive income could increase in years to come, although that is not guaranteed.

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A popular US stock, but for good reason

The first is Amazon (NASDAQ:AMZN). Before people roll their eyes at such a generic choice, hear me out. I get that Amazon is one of the most popular stocks globally for investors. Yet there are good reasons for this. The share price might only be up 7% in the past year, but it’s provided a 4.5x return over five years.

The business is also still showing growth. In its Q3 filing, net sales were up 15% versus the same period last year. Even though operating income was lower, it still made $4.9bn for the quarter, quite a staggering amount.

With the scope of diversification in business operations and recent acquisitions, I think Amazon is well-placed for the future. Clearly, one risk is that Amazon grows to such a size with so many fingers in pies that it becomes less focused and efficient.

Dividend stars

With a lot of focus on the top US stocks posting share price gains, I could easily forget about some great income picks. For example, Exxon Mobil (NYSE:XOM). It has a dividend yield of 5.8%, with a share price gain of 46% over one year.

The oil and gas company is one of the largest in the sector and has a rich history over decades since the merger of Exxon and Mobil in 1999. This gives me confidence the business will continue to function in years to come, even during tough times. 

One risk is the projection for oil prices for 2022. If we do see tighter restrictions on travel, then fuel demand will fall. If supply stays the same, this will lower the oil price and negatively impact Exxon Mobil.

Another top US stock that pays dividends is Western Union. The dividend yield for one of the world’s largest international payment businesses is 5.3%. The share price is down 17% over the past year, which is one reason why the yield has moved higher.

The share price has fallen due to decreasing offline money transfers due to the pandemic. If restrictions on travel continue, this could be a risk with investing. However, the company is able to offset some of this via growth in digital payments instead. Further, as travel picks up again, the business should naturally see a rebound.

Allocating the cash

These three top US stocks are viable options for me to consider as a UK investor. With my £1,000, I’d split it equally between the them. However, I could also invest more in a particular stock if I had a high conviction. I think Western Union is the most undervalued stock of the trio, so could put more than 33% of my money in the stock.

Overall, they’re my top pics as we head into 2022.

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Let’s imagine I had £20,000 to put to work in the stock market today. If I was looking for a mixture of growth and income potential from blue chip names, here’s how I might do it. I would diversify across five sectors to reduce my risk, putting £4,000 into shares of a leading company in each one.

Digital giant: Alphabet

One of the ways I sometimes first become aware of businesses I could invest in is through using them as a customer.

Like many people, one company I interact with many times a day as a customer is Alphabet (NASDAQ: GOOG), the parent company of Google. The internet giant is ubiquitous in many people’s daily lives. From search to email, Google is the front page of the internet for hundreds of millions of users worldwide.

I think that has helped it build a level of customer loyalty that should help Alphabet remain profitable for decades to come. Its business model of selling targeted adverts is highly lucrative. But Alphabet has evolved into a diverse set of revenue streams, so that it is not purely reliant on ad income. With profits last year of $72bn, it is hard to remember that the company is little over a couple of decades old.

I like Google shares as an idea for my portfolio because I see them as a sort of royalty on future internet use. In the long term, I expect internet use to keep growing substantially. With its huge user base and proprietary technology, Google is set to continue being a key beneficiary. If profits continue to rise over time I expect the shares to do well, even if there are bumps along the road.

There is a risk that Google could become less popular with younger users as some social networks have done, which could hurt revenues and profits.

Banking shares to buy now: Lloyds

I think a recent pullback in the Lloyds (LSE: LLOY) share price offers a buying opportunity for me.

Over the past year, the shares are up 27%, at the time of writing this article earlier today. I still think there is a long-term growth story here, though. As the UK’s leading mortgage lender, the company is well-positioned to benefit from ongoing strength in the housing market. It is also looking to expand its business lines. For example, it has set out ambitions to grow its own letting property portfolio. I think there is a risk that could distract management from its core business. But if it works out, it could well add to the company’s profitability.

I also expect good news on the company’s dividend in 2022. It has a growing cash surplus, at least some of which could be put to use by boosting the dividend in line with Lloyds’ progressive policy. But dividends aren’t guaranteed and any downturn in the economy is a risk for the bank. Higher borrower defaults could hurt profits.  

Consumer goods leader: Unilever

With an eye on the long term, another name on my list of shares to buy now for my portfolio is Unilever (LSE: ULVR).

The consumer goods company owns popular brands from Dove to Hellmann’s. I like its broad portfolio of premium brands, which gives it pricing power. I also like the fact that it is highly exposed to a full gamut of markets. It does a lot of business in developing markets like India and Indonesia, as well as developed ones. That brings a risk that when there are economic downturns, revenues may fall. But it offers the benefit that, as more people worldwide increase their disposable income, Unilever can benefit from some of their spending.

For several years, the company has underwhelmed investors. In the past year, for example, the Unilever share price has slipped 8%. Some of the reasons for underperformance remain as risks. For example, rampant cost inflation could lead to lower profit margins. But I see the price fall as an opportunity to pick up a quality blue chip company for my portfolio at a more attractive price than before.

Energy titan: ExxonMobil

There’s a lot of discussion about future energy demands. No matter what may happen, one of the companies I reckon should keep doing well is energy giant ExxonMobil (NYSE: XOM).

I don’t think oil demand will disappear any time soon. In fact, unlike many commentators, I don’t even expect it to decline. While some customers may switch to alternative energies, the global customer base keeps increasing with population growth. I think that will compensate for some customers abandoning oil. With its huge operations and recent efforts to lower production cost per barrel, Exxon should keep pumping profits from its oil wells for decades. It also has a large natural gas business which I think has a promising future.

On top of that, if alternative energy really does become a big thing, I think the company’s expertise will stand it in good stead to develop a strong market position.

Energy pricing is cyclical, so the Exxon share price can be volatile. I like its income prospects, though. Having raised its dividend annually for over three decades, the iconic company currently offers a 5.7% yield.

High yield tobacco: British American Tobacco

I’d also buy British American Tobacco (LSE: BATS). The owner of famous tobacco brands including Rothmans, Camel, and Pall Mall pays a yield of 8%. That makes it one of the juiciest income shares right now in the FTSE 100.

There’s clearly a risk here. As cigarette use declines in many markets, it could hurt both revenues and profits at the company. But I think the yield helps to compensate me for that. The company has been developing non-cigarette products, including vaping and heated tobacco. They could help it grow revenues in coming years. Last week, it guided the market to expect revenue growth of over 5% for the year, adjusted for currency fluctuations. With its broad portfolio and iconic brands, BAT makes my list of five blue chip shares to buy now for my portfolio and hold for the long term.

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Indeed, Shell’s first quarter earnings release issued today revealed that the firm had made $1.6bn in earnings in the first quarter on a current cost of supplies basis, excluding identified items down 58% year-on-year. This comfortably beat expectations. City analysts were expecting the company to report earnings of $1bn.

On the other hand, when BP reported first-quarter results at the end of April, the company reported a much larger year-on-year drop in profits than its larger peer. BP made a profit of $523m on an underlying replacement cost basis, 80% below the figure of $2.6bn reported in the year-ago period. Still, the market had expected the company to report a first quarter loss of $140m, so BP comfortably beat City expectations.

Crunching numbers

During the first three months of 2016, BP lost $747m from its upstream operations on an underlying basis and made $1.8bn on refining and trading, boosted by what the company said was an improved performance from its trading arm. Shell lost $1.4bn from its upstream activities ($994m in its integrated gas unit, which in previous quarters had been part of the upstream business) and $2bn from refining, trading, and retail.

Both companies also announced drastic cuts to capital spending. Shell, which acquired smaller BG Group in February, is cutting capital spending to $30bn this year, 36% less than the two companies combined spent in 2014 and BP is planning to cut capex to between $15bn and $17bn. Shell’s capex is the highest among its rivals, exceeding that of US rival ExxonMobil putting the company in a prime position to benefit if the price of oil returns to historic levels in the near future.

The one main difference between BP and Shell’s first quarter results was management’s tone on debt. You see while Shell is committed to reducing its debt after buying BG, BP’s managers seem to want to increase the group’s debt. The company specified alongside first quarter results that it was looking to increase gearing from a range of 10% to 20% to a range of 20% to 30% now that the company has agreed a $20bn settlement with the US authorities. Meanwhile, Shell is looking to reduce its gearing from around 25% back to a mid-teens level. Asset sales will be the main lever Shell is going to pull to reduce debt.

Both companies have forecast dividend yields of 7.2% for 2016.

The bottom line 

Overall, Shell and BP’s first quarter results were broadly similar. However, Shell is committed to both maintaining capital spending to ensure the group can continue to grow when oil prices recover and the company is also trying to clean up its balance sheet. BP it seems, is heading in the other direction. 

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Analysts at investment bank Jefferies have suggested that Shell-BG could become bigger than ExxonMobil (NYSE: XOM.US) by 2018, reheating suggestions that Exxon might seek to protect its size advantage by acquiring one of the smaller oil majors, such as BP.

BP’s market capitalisation of $125m is only a third of ExxonMobil’s $360m market cap, and the US firm would probably have the financial firepower to take control of BP if it chose to.

Legal woes a problem?

BP’s current US legal troubles might deter ExxonMobil, which would probably be reluctant to get involved in BP’s long-running and high-profile US legal battles. Exxon’s US roots mean it may not want to be seen to be profiting from a major US oil spill, albeit indirectly.

However, BP’s battles are partly of its own choosing: I suspect that the vast majority could be settled quite quickly, if the firm wanted to smooth the way for a takeover deal.

History repeated?

The last major downturn in the oil industry, at the end of the 1990s, triggered a wave of major deals that reshaped the oil and gas landscape. Exxon joined with Mobil to become ExxonMobil. Texaco merged with Chevron, and BP acquired Amoco.

This time round, I believe there’s a possibility that BP could be on the receiving end of a bid. For ExxonMobil, the attraction would be twofold.

Firstly, the US giant could cement its position as the largest publicly-listed oil and gas producer in the world.

Secondly, and perhaps more importantly, acquiring BP at a relatively depressed price would give a significant boost to Exxon’s reserves, which like those of many large oil producers, are being depleted from production faster than they are being replaced through exploration.

Is BP cheap enough?

BP currently trades on a historical P/E ratio of less than 10, but earnings downgrades caused by the falling price of oil mean that the firm trades on a 2015 forecast P/E of 17.

However, BP’s earnings will recover strongly when the price of oil starts to rise — and if Exxon did acquire BP, the US firm’s size and famed operational efficiency would be likely to improve the profitability of BP’s operations.

Buy BP?

In my view, BP is a reasonably good buy at today’s price, regardless of any eventual takeover activity.

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