One of my favorite things to do when researching investments is to conduct studies on realistic worst-case scenarios for blue-chip stocks. Almost every time, the result I have found has been this: if the dividend remains reasonably intact and the underlying business maintains solvency, the total returns for seemingly dreadful stocks is never quite as bad as you might think by looking at a stock chart alone.
Today, I wanted to take a look at the numbers for the stock that had the ultimate fall from grace: BP.
In 2007, BP was regarded as the British equivalent of Exxon Mobil (XOM). BP was in every pension plan, retirement fund, and broad-based mutual fund. In much the same way that you'd have to do some digging to find a popular 401(k) in the United States that contained no Exxon Mobil stock, you'd have to go to great lengths to find a British fund that lacked a position in BP. By year-end 2007, BP was responsible for generating almost 10% of the income across the nation's retirement plans. Read that again: one single oil company was responsible for almost 10% of an entire nation's retirement income.
Of course, as we all know, things took a turn in 2010. On April 20th of that year, the Deepwater Horizon exploded in the Gulf of Mexico, creating the biggest oil spill in the history of the industry. From there, the business performance took a hit. The company posted earnings of negative $1.10 per share in 2010, and the company cancelled its dividend for the remainder of the year.This was quite a change for investors: they went from owning a company that posted earnings of $4.47 per share in 2009 and paid out $3.36 in cash dividends to owning a business that was posting losses and paying no dividends.
Given these unfortunate facts, how did the company perform for medium-term shareholders that bought BP stock on this date in 2007, at a relative high before the disaster struck?
Six years ago today, BP closed at a price of $60.97 per share. At the March 12, 2013 open, shares of BP traded at $40.60. At the surface level, it may appear that investors got whacked with a $20 per share over the past six years that they have patiently held their shares. Again, at this superficial level, it appears that every $10,000 invested into BP has been turned into a measly $6,659.
But there's more to the story. BP was able to resume its dividend payouts in 2011, by establishing a $0.42 per share quarterly dividend. The dividend got hiked again to $0.48 per share quarterly in 2012, before management decided to move the dividend up again to $0.54 per share (and that is where the dividend sits today).
What have been the effects of these dividend payouts for investors? Over the past six years, they have added $2,068 for every $10,000 invested in the oil giant. That means that, although the price has fallen from $60.97 in 2007 to $40.60 today, the investor has only generated a -2.24% annual loss on his BP investment over the past six years because of the strength of dividends in augmenting the total returns.
While I recognize that -2.24% annual losses are nothing to get excited about, let's consider what has happened to the BP investor over the six-year duration of his investment:
- First of all, in 2007, the stock market was at its high before the Great Recession crash of 2008-2009 hit. We are assuming that the investor bought his shares the year before the stock market took one of its worst nosedives since the Great Depression
- Energy prices fell off a cliff in 2009, creating a huge headwind affecting all the supermajors.
- BP did not pay dividends throughout this six-year period. The dividend did not exist for most of 2010, and the 2011 payout was only half of what it was at the beginning of the previous year. Yet the dividend still contributed meaningfully to total returns.
- And, of course, BP experienced the worst and likely most costly accident in the entire history of the industry.
This is why I often favor blue-chip stock investing. Case study after case study shows that many excellent companies (that don't face technological risk or product obsolescence) stand a good chance of holding up reasonably well when threats to the business emerge. Previously, I've pointed out how Johnson & Johnson (JNJ) has managed to grow earnings despite all its recalls, and how Procter & Gamble (PG) was able to post steady profits despite losing market share in key product areas. An excellent company has the ability to tolerate a lot of abuse.
The story at BP is yet another study to add to the exhibit list. It's highly likely that an investor that bought BP stock in 2007 will have positive total returns in the next 2-3 years, assuming that the company maintains its current dividend payout or shows modest price appreciation. That 5% dividend that you see today means something. The dividend alone is giving you a 1.25% return on your initial investment every three months. That adds up over time. It's a large part of why investors who bought BP before the stock market crash and Gulf of Mexico oil spill have only lost -2.24% annually since the onset of that bad chain of events.