Seeking Yield Via Dividend Growth

8/12/2013


With investors adjusting to the prospect of rising interest rates, high-yielding stocks sat out the latest leg of the market's rally. S&P 500 stocks averaged a 6% total return over the last three months, while those with dividend yields above 3.5% averaged a loss of 2%.

But, on average, the median 12-month return of stocks with dividend yields in the top one-fifth of the S&P 500 Index has exceeded the median for all S&P 500 stocks by 1.8% since 1992. In the past five years, dividend yield has done even better, outperforming by an average of 2.7%. Relative to the median S&P 500 stock, dividend yield ranks as the sixth-most-effective factor in Quadrix in the past five years and ninth since 1992. But returns of the top yielders were volatile compared to those of most other Quadrix factors.

A high-yield strategy tends to steer investors toward cheap companies with shareholder-friendly policies. It can also push investors into the dregs of the stock market. Sometimes a prized yield becomes an unwieldy albatross, with the dividend draining a company of the cash needed to reinvest in itself to sustain operating momentum, or to shore up the business during difficult periods.

For that reason, we seek out companies committed to growing the dividend. Consider, for instance, the transformation under way in technology. The average technology stock in the S&P 500 yields 1.4%, more than twice its average over the past decade and almost three times the average since 1994. Nearly half of dividend payers in the technology sector boast yields more than half a percentage point above their three-year averages.

Dividend yields for the S&P 500 are slightly below historical norms. The average stock in the S&P 500 yields 1.8%, down from its 2.0% average since the end of 1994. But income opportunities still exist. Today, 191 of the 415 dividend payers in the S&P 500 pay yields above their three-year averages. In addition to technology, the consumer-discretionary and financial sectors also feature a preponderance of stocks with yields above their three-year averages — even though dividend payers in these two sectors average one-year total returns of 43% and 41%, highest among sectors.

HIGHER DIVIDEND YIELDS: TECH LEADS THE WAY
S&P 500 Index stocks average yields of 1.8%, in line with the 10-year average. Technology companies helped offset a decline in financial dividends, averaging yields of 1.4%, more than double the 10-year average of 0.7%. Of all the sectors, only tech trades at a discount to its 10-year average price/earnings ratio. P/E ratios above 75 and below zero are excluded from the averages, and the data is current through July 31.
---- Average Dividend Yield ----
------- Average P/E Ratio -------
S&P 500 Sector
Current
(%)
Last 10
Years
(%)
Since
Dec.
1994
(%)
Current
Last 10
Years
Since
Dec.
1994
Consumer Discretionary
1.5
1.5
1.5
20
19
20
Energy
1.4
1.2
1.6
19
17
21
Financials
2.0
2.4
2.3
21
18
18
Health Care
1.0
0.9
0.9
22
20
25
Industrials
1.8
1.8
1.8
20
18
20
Materials
2.1
2.0
2.0
21
19
21
Consumer Staples
2.3
2.4
2.2
21
18
21
Technology
1.4
0.7
0.5
23
25
28
Telecom
6.1
4.2
3.3
31
20
21
Utilities
3.8
3.8
4.2
18
16
16
S&P 500 Index
1.8
1.8
2.0
21
19
20

The dividend stocks in the table below and reviewed below enjoy elevated yields relative to three-year norms, helped by strong dividend growth. Equally important, they have conservative payout ratios, signaling flexibility to fund additional growth.

Apple ($465; AAPL) continues the awkward transformation from high-growth darling into maturing tech giant. The company launched its quarterly dividend in 2012 and raised the distribution by 15% this spring as part of its plan to return $100 billion of its cash to shareholders by the end of 2015. That move helped thrust Apple's dividend yield, now 2.6%, into the top third of S&P 500 dividend-paying technology stocks.

Apple's stock has fallen 13% for the year and 34% from its all-time high in September. But this month, the shares climbed to their highest level since March after the White House overturned an import ban on some older iPhones and iPads. The U.S. International Trade Commission had ruled in June that these devices violated patents held by Samsung. However, the Obama administration worries that the surge in patent lawsuits will stifle competition. At 11 times trailing earnings, Apple shares trade 42% below the median S&P 1500 tech stock, 17% below the median for computer-hardware stocks, and 33% below their own five-year average. Apple is a Buy and a Long-Term Buy.


Fifth Third Bancorp's ($19; FITB) quarterly dividend of $0.12 per share still has a long way to go to reach prerecession levels of $0.44 per share. But the bank is off to a great start, growing its distribution at an annualized rate of 114% in the last three years — third-highest among the 75 dividend payers in the S&P 500 financial sector. That growth has pushed the stock's yield to 2.5%, exceeding its three-year average of 2.0%.

Fifth Third paid out 60% of earnings in dividends and stock buybacks in 2012, at the low end of management's long-term goal of 60% to 80%. The consensus expects per-share profits to jump 16% to $1.93 per share in 2013 and 5% annually for the next five years. In other news, earlier this month the bank downwardly revised previously reported June-quarter by $0.01 per share because of higher reserves set aside for litigation costs. Fifth Third is a Buy and a Long-Term Buy.


Qualcomm ($66; QCOM) keeps plowing more of its abundant free cash flow, up 29% to $4.73 billion in the past 12 months, back to shareholders. Dividend growth has accelerated in each of the past four years. The latest increase, a 40% hike announced in March, pushed the quarterly dividend to $0.35 per share. Qualcomm seems capable of generating double-digit growth for sales and per-share profits in the year ahead, which should help support further dividend hikes.

Many investors are not fans of share repurchases, particularly when companies spend lavishly on overpriced shares to mask the dilutive effects of stock awards. But Qualcomm has shown its savvy by concentrating its buybacks during periods when the stock price was lower. In the past year, Qualcomm has spent $2.13 billion on repurchases to keep the share count flat. It paid an average of just $59 per share over that period. In the past five years, Qualcomm has paid an average price of $44 per share for its own shares. Qualcomm is a Focus List Buy and a Long-Term Buy.


Wells Fargo ($44; WFC) shares have delivered a total return of 16% in the past three months, well ahead of the 7% average return for financial stocks in the S&P 500 Index. Yet Wells Fargo offers a yield of 2.7%, equal to or higher than any S&P 500 financial stock with a market value of more than $50 billion. The bank continues to rebuild its dividend in the wake of the financial crisis. Today, Wells Fargo's quarterly dividend stands at $0.30 per share, versus $0.05 per share at the beginning of 2011 and within 12% of its prerecession high of $0.34 per share.

It's not yet clear how Wells Fargo will fare in an environment of rising interest rates. CEO John Stumpf seems confident his bank can navigate the new terrain. Higher rates will mean less mortgage refinancing, a major growth source for Wells Fargo in recent years, but should also indicate a stronger economy that will spur loan growth at other parts of the business. "I would take that trade all day long," Stumpf said last month. Net interest margin, 3.46% in the June quarter compared to 3.48% in the March quarter, appears to be stabilizing, and should benefit from higher interest rates.

The consensus profit estimate for 2013 has risen 4% in the past 30 days to $3.84 per share, implying 14% growth. If the bank hits that target and raises its payout ratio to 40% early next year — still below prerecession levels — investors would receive a 28% hike, bringing the quarterly dividend to $0.385 per share. Wells Fargo's payout ratio rose from 33% in 2002 to 50% in 2007. Wells Fargo is a Focus List Buy and a Long-Term Buy.

THE NEW CLASS OF HIGHER-YIELD STOCKS
We screened for A-rated stocks yielding more than 2%, requring that their current yields exceed their three-year average by at least 0.5%. The table features mostly financials rebuilding their dividends following the 2008 crisis and technology companies plowing excess funds into the distribution. Stocks recommended for purchase are in bold.
Indicated
Dividend
($)
Current
Yield
(%)
3-Yr.
Avg.
Yield
(%)
Quadrix
Dividend
Yield
Score
3-Yr.
Annual.
Dividend
Growth
(%)
Payout
Ratio
(%)
1-Yr.
Total
Return
(%)
Quadrix Scores
Company (Price; Ticker)
Overall
Value
Sector
Apple ($465; AAPL)
12.20
2.6
0.7
79
NM
30
(24)
86
96
Technology
Cisco Systems
($26; CSCO)
0.68
2.6
1.6
79
NM
35
62
96
80
Technology
Corning ($15; GLW)
0.40
2.7
1.9
79
21
31
37
83
84
Technology
Deere ($81; DE)
2.04
2.5
2.0
77
18
25
6
81
88
Industrials
Fifth Third Bancorp
($19; FITB)
0.48
2.5
2.0
78
114
27
42
88
81
Financials
Helmerich & Payne
($66; HP)
2.00
3.0
0.6
84
30
36
41
96
92
Energy
J.P. Morgan Chase
($55; JPM)
1.52
2.7
2.1
80
82
25
57
99
93
Financials
Macy‘s ($48; M)
1.00
2.1
1.5
73
59
28
34
94
87
Cons.
Discretionary
Qualcomm
($66; QCOM)
1.40
2.1
1.6
74
16
32
11
97
78
Technology
U.S. Bancorp
($38; USB)
0.92
2.4
1.9
77
57
31
17
71
80
Financials
Wells Fargo
($44; WFC)
1.20
2.7
1.9
80
70
33
33
98
85
Financials
Note: Quadrix scores are percentile ranks, with 100 the best.     NM Not meaningful because they didn't pay a dividend three years ago.

 

 


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