Must-Know Criteria for Picking Inflation Proof, High Dividend Stocks

A few thoughts on Henrique Simoes' recent article Faber and Schiff: Inflation Inevitable (So Here's What to Do) on Seeking Alpha.

Yes, inflation is on the way. Perhaps, as Nouriel Roubini argues, it will take some time as the deflationary pressures of a still worsening economy and failing banking system work themselves out, so we may even see some deflation first. However, the Fed can't print the equivalent of the U.S. GDP's worth of new dollar bills (about $13 trillion) and not have serious inflation (unless we get government imposed price and wage controls?) at some point. I won’t even begin to discuss what happens if the demand for U.S. Treasuries dries up.

So assuming inflation is coming, what do you actually do? Simoes proposes some ideas. Here’s another. As one strategy, consider the hard asset based high dividend stocks I present in my current series The High Dividend Stock Investor's Collapsing Dollar Survival Guide, Part 1 -- Seeking Alpha

The Goals of this Strategy:

• Steady high yields, most of the recommendations’ dividends are very safe, some less so (but with more upside potential). Thus you are well paid while you wait for the market to recover (versus negative real returns in cash).
• Earnings and yields can keep pace with USD inflation, thus providing at least some protection for your principal and income.
• Currency diversification and thus reduction of risk from declines in the USD relative to other currencies.

The Key Criteria For High Dividend Stock Selections:

• Strong businesses that continue to maintain or grow their revenues, incomes and cash flows even in this environment.
• Owning or controlling vital hard assets or commodities that hold or increase value in times of inflation AND/OR dominant position in a market niche with steady and growing demand that allows these firms to raise prices when needed to keep pace with inflation.
• Earnings and distributions in a non-USD currency, ideally one that is tied to hard assets and commodities.
• High dividend yields about 7% or higher: Regardless of price movements, you continue to get steady junk bond like yields with far greater safety and better price appreciation potential (as long as they meet the above criteria).

Recent suggestions include:

Atlantic Power Corporation (ATPWF.PK)

Energy Savings Income (ESIUF.PK)

BP (BP)

CNOOC (CEO)

Enerplus Resources Fund Trust (ERF)

Enterprise Products Partners (EPD)

Kinder Morgan Energy Partners (KMP)

TEPPCO Partners (TPP)

Provident Energy Trust (PVX)

Veolia Environment (VE)

Verizon (VZ)

AT&T (T)

Vermilion Energy Trust (VETMF.PK)

DISCLOSURE: The author has positions in most of the recommendations

Comments

[PeteE:]

Yes Friar, We could improve our national energy profile substantially by building Thorium based Nuclear power plants. We have over 2 millenium supply of Thorium in the US alone. Thorium does not create the plutonium waste that Uranium does and does not have the threat of meltdown that uranium poses. We need cheap, unlimited electrical energy. From there we can make hydrogen, or Browns Gas, to run vehicles or go all electric. We need a national energy policy based on cheap unlimited electric power and solar and wind are poor choices next to Thorium powered nuclear. Google Thorium and get up to speed on it. It is the answer.

Apr 13 01:12 AM

[mark joseph:]

Careful beating up on the MLP's. They have always been levered heavy, as they have lots of expansion demand in the marketplace. If this leverage were as dangerous as some suggest it would have shown in the test of time. To the contrary, since 1991, MLP's have returned an average of 16% with dividends reinvested. As a group they have never had a down year (since the 80's). Show me where else that can be said. That is a long stretch of time with some amazing ups and downs in both the general marketplace as well as the energy marketplace.

MLP's have steadily increased their dividends during this crisis. Pipeline MLP's are the most consistent of the bunch with the price of oil having no effect on their model for better or worse. Even more institutional fund ownership has historically been below 10% but growing 8-10% a year, hence the contrarian capital appreciation while the rest of the market crashed. If funds continue to rush in this manner you will be rewarded with a double digit , growing dividends, and growth in your capital.

Apr 13 06:49 AM

[bricki:]

I've seen the telecom industry from the inside, and I wouldn't touch it with a 10-foot pole. Companies like T and VZ are ripe to become the GM's of the 2010's at the hands of internet innovators. Their traditional cash cow, copper land lines is losing subscribers at a 7-10% yearly rate. VZ has a decent program going with FIOS but they aren't gaining customers as fast as they thought they would from cable companies because they haven't made it attractive. Two year contracts? You have got to be kidding. T's UVerse is a flat out bad technology. The new cash cow, wireless, is under pressure from the innovators at the FCC to make bandwidth open, and Obama has appointed people sympathetic to that viewpoint.

These companies are slow, hide-bound, top heavy dinosaurs who cannot compete with the mammals of the internet age. Long term they represent something to watch for shorting opportunities, not risk free inflation hedges.

Apr 13 11:24 AM

[Cliff Wachtel:]

diversification of income stocks makes sense. Cliff


On Apr 11 09:05 AM Dividend Growth Investor wrote:

> MLPs are a nice way to generate high yields.However one should not
> invest everything in MLPs, since concentration i one type of asset
> is asking for trouble.
>
> As for dividend investing in general however, one has to ask themselves
> how sustainable the dividends are before buying that income stock.
> Most investors were lured by double digit yields in certain canadian
> income trusts, only to have their dividends cut or eliminated and
> suffer huge capital losses in the process.
>
> Special structures such as Canroys, MLPs, Reits are a nice way to
> generate high current income. But what would happen if tax law changes
> are implemented which abolishes the current structure of these trusts/partnerships?
> This has alread happened in Canada in 2006, and after 2-3 years there
> is still much uncertainty about what would actually happen. If you
> are a retiree who depended heavily on the income from these Canroys,
> how would you feel with all that uncertainty?
>
> When you are investing, you have to visualize different scenarios
> and construct your portfolio accordingly. I own dividend aristocrats,
> MLPs, Certificates of Deposit,and some TIPs both in taxable and tax
> defered accounts, and know that I no matter where the market or the
> econony goes, I would keep generating enough income to sustain my
> standard of living.
>

Apr 13 03:07 PM

[Cliff Wachtel:]

Good points. Given the high capex MLPs need to make to maintain and grow their businesses, and their steady earnings, the high debt level isn't as serious as it would be for other kinds of industries, as evidenced by the continued steady and growing dividend payments of the recommended MLPs. Limited credit availability could limit capex for growth and possibly dividends if things get worse, though if they've held up so far (or even grown th them in the case of EPD) its a good sign. Need to watch the cash flow.


On Apr 10 11:55 AM jamookey wrote:

> Cliff,I don't know if you are aware that some of your fellow authors
> there at ALPHA aren't that keen on mlps.Some say they are too leveraged,some
> think earnings may not keep up this year.I agree with you,I do like
> the mlps.They are always highly leveraged,but that has been the case
> for the last 8 years that I have researched and invested in them.However
> they still seem to raise if not maintain their dividends no matter
> what the economy does.The price of oil does not determine the rate
> they charge for using their pipelines.Good luck and thanx for the
> article.

Apr 13 03:21 PM

[Cliff Wachtel:]

Never meant to suggest risk free. If you're an industry insider you have insights I don't don't. Still, big communications has so far been for large cap companies, which I imagine couldn't help but act like big bureaucracies, for better or worse. The upside is that they have, so far, had the capital needed to compete. Curious to hear your views on which telecoms are good. Heck, someone has to provide the service.

Thanks for your comments, Cliff


On Apr 13 11:24 AM bricki wrote:

> I've seen the telecom industry from the inside, and I wouldn't touch
> it with a 10-foot pole. Companies like T and VZ are ripe to become
> the GM's of the 2010's at the hands of internet innovators. Their
> traditional cash cow, copper land lines is losing subscribers at
> a 7-10% yearly rate. VZ has a decent program going with FIOS but
> they aren't gaining customers as fast as they thought they would
> from cable companies because they haven't made it attractive. Two
> year contracts? You have got to be kidding. T's UVerse is a flat
> out bad technology. The new cash cow, wireless, is under pressure
> from the innovators at the FCC to make bandwidth open, and Obama
> has appointed people sympathetic to that viewpoint.
>
> These companies are slow, hide-bound, top heavy dinosaurs who cannot
> compete with the mammals of the internet age. Long term they represent
> something to watch for shorting opportunities, not risk free inflation
> hedges.

Apr 13 03:49 PM

[Cliff Wachtel:]

Worth looking into. Who are the major players in the field? Cliff


On Apr 13 01:12 AM PeteE wrote:

> Yes Friar, We could improve our national energy profile substantially
> by building Thorium based Nuclear power plants. We have over 2 millenium
> supply of Thorium in the US alone. Thorium does not create the plutonium
> waste that Uranium does and does not have the threat of meltdown
> that uranium poses. We need cheap, unlimited electrical energy. From
> there we can make hydrogen, or Browns Gas, to run vehicles or go
> all electric. We need a national energy policy based on cheap unlimited
> electric power and solar and wind are poor choices next to Thorium
> powered nuclear. Google Thorium and get up to speed on it. It is
> the answer.

Apr 13 03:54 PM

[Cliff Wachtel:]

As you said, the quality MLPs are core holdings. Thanks for your input, Cliff


On Apr 13 06:49 AM mark joseph wrote:

> Careful beating up on the MLP's. They have always been levered heavy,
> as they have lots of expansion demand in the marketplace. If this
> leverage were as dangerous as some suggest it would have shown in
> the test of time. To the contrary, since 1991, MLP's have returned
> an average of 16% with dividends reinvested. As a group they have
> never had a down year (since the 80's). Show me where else that can
> be said. That is a long stretch of time with some amazing ups and
> downs in both the general marketplace as well as the energy marketplace.
>
>
> MLP's have steadily increased their dividends during this crisis.
> Pipeline MLP's are the most consistent of the bunch with the price
> of oil having no effect on their model for better or worse. Even
> more institutional fund ownership has historically been below 10%
> but growing 8-10% a year, hence the contrarian capital appreciation
> while the rest of the market crashed. If funds continue to rush in
> this manner you will be rewarded with a double digit , growing dividends,
> and growth in your capital.

Apr 13 03:57 PM

[Cliff Wachtel:]

True, I prefer energy too. Still, diversification is a good thing. Check the rural telecoms I mentioned in Part 3. Thanks for your kind words, Cliff


On Apr 10 02:35 PM living4dividends wrote:

> Cliff - Thank you for your article. l eagerly read any article on
> dividends and yours provided some food for thought.
>
> I don't think ATT meets your criteria of "Steady high yields". T's
>
> Div payout ratio is 73.9. Any ratio below 60 is considered a safe
> number. As well, since P/E is highly manipulated in most stocks.
> I assume that FCF is one measure of dividend strength I invert the
> P/FCF to come with a yield FCFYLD:3.0%. I don't know how AT&T
> can support the dividend going forward.
>
> Verizon with its 5.73% yield is the same story with a P/E of 14.24,
> Div Payout of 77.97% and FCFYLD of 4.8%
>
> BP, on the other hand is a good pick with a juicy 8.38% yield 3.79
> P/CF, the worrisome thing about BP is its P/CF of 26.51 giving a
> FCF yield of 3.8% I like its low P/E of 6.23 and its low div payout
> ratio of 48.84
>
> CNOOC can support its yield. It is a bit low.
>
> The others are MLPS - I avoid those for the the same reasons mentioned
> by your first commenter.

Apr 13 04:07 PM

[Lin:]

Cliff

Re thorium , check out thoium power , thpw , based in Virginia , it is fast tracking blueprint for making thorium campatable with commercial reactors . They also have a " consultting sid , helping other countries initiate " safe nuclear power . India + Arab countries are working with them . This is the anwser !

Apr 13 09:34 PM

[Yodaorange:]

Cliff, I disagree with the premise that companies with high dividend yield, plus high dividend growth companies like these will do well in a high inflation environment. It sounds good that dividend growth can beat inflation, but it leaves out the fact the falling PE's will more the negatively compensate for rising dividends.

For example, in the 1973-1974 bear market, BP lost ~ 70% & ATT lost ~ 30% from peak to trough. When you have that magnitude of capital losses, it is difficult for the dividend growth to overcome it.

I do not think any of the MLP's existed back then so we can not say for sure how they will react, but there is no basis to think they will not take serious share price hits if inflation spikes again.

Thanks, YO

Apr 15 01:05 AM

[Cliff Wachtel:]

Thanks for your well thought out input. Dividends follow earnings and cash flow. Since these recomended mlps are virtual monopolies in their areas of operations for an essential product for both suppliers and buyers, that suggests that they have pricing power and will be able to pass along higher operating costs to their customers- i.e. keep earnings and cash flow up with inflation.

Regarding their SHARE PRICES, that's something else. They will follow the market. Market risk exists for any stock shares. These aren't the only inflation hedge, but are far easier to to manage than real estate and pay income while you hold them. Cliff


On Apr 15 01:05 AM Yodaorange wrote:

> Cliff, I disagree with the premise that companies with high dividend
> yield, plus high dividend growth companies like these will do well
> in a high inflation environment. It sounds good that dividend growth
> can beat inflation, but it leaves out the fact the falling PE's will
> more the negatively compensate for rising dividends.
>
> For example, in the 1973-1974 bear market, BP lost ~ 70% & ATT
> lost ~ 30% from peak to trough. When you have that magnitude of capital
> losses, it is difficult for the dividend growth to overcome it.
>
>
> I do not think any of the MLP's existed back then so we can not say
> for sure how they will react, but there is no basis to think they
> will not take serious share price hits if inflation spikes again.
>
>
> Thanks, YO

Apr 15 05:38 PM

[Cliff Wachtel:]

Exactly. The nature of their business demands high capex and thus debt. Given the steady revenue streams, they can afford to have higher debt than other businesses, though tight credit could trim capex for growth and thus slow dividend growth. Earnings down this year? They and everyone else. Virtually all stocks will go up and down with the market. The best of these are core holdings. Their virtual monopoly positions to both suppliers and consumers of gas and oil give them pricing power to pass on costs and keep up with inflation to some extent (depending to varying degrees on regulators). Thanks for your comments.Cliff


On Apr 10 11:55 AM jamookey wrote:

> Cliff,I don't know if you are aware that some of your fellow authors
> there at ALPHA aren't that keen on mlps.Some say they are too leveraged,some
> think earnings may not keep up this year.I agree with you,I do like
> the mlps.They are always highly leveraged,but that has been the case
> for the last 8 years that I have researched and invested in them.However
> they still seem to raise if not maintain their dividends no matter
> what the economy does.The price of oil does not determine the rate
> they charge for using their pipelines.Good luck and thanx for the
> article.

Apr 15 06:21 PM

[Cliff Wachtel:]

Thanks for your kind words. Will try to continue to be of help.Cliff


On Apr 11 12:35 AM Mahant wrote:

> I like your strategic thinking and thorough analysis which you keep
> updating on a timely basis. Lots of thanks.

Apr 15 06:43 PM

[Cliff Wachtel:]

Agreed. As long as stock prices stay down, BP's usually low yield is high. Big oils are rarely a bad bet, even less so with a good yield. Cliff


On Apr 12 09:15 AM Buy and Hold Plus wrote:

> BP looks like a good long term holding. Plus, BP is doing a lot of
> research into alternative energy, unlike XOM. Sooner or later, we
> will run out of oil. We can argue the live long day whether we've
> reached peak oil or if it's to come, but the bottom line is that
> oil is a finite resource. Companies that position themselves for
> that inevitable day when oil is no longer easily available will do
> better than those that say, yeah, it's coming, but we're just going
> to keep on drilling.

Apr 15 07:03 PM

[Cliff Wachtel:]

Glad you're enjoying the series and finding it useful.

Check about putting the Canadian stocks in tax deferred accounts - I don't give tax advice in this venue, but I believe you lose the 15% tax credit if the stock is held in a tax deferred accounts. However, I don't know if the dividend treatment varies for DRIPs. Cliff


On Apr 11 01:32 PM arthurofchicago wrote:

> Thanks Cliff. I am really enjoying your series.
> I agree with your basic philosophy and have/will acquire some of
> your recommended stocks as I complete my own dd.
>
> Question: Can anyone tell me how/whether stock DRIP programs are
> taxed by the Canadian government. I ask because I am buying for my
> IRA account. I understand that I can’t get a U.S. tax credit on taxes
> levied on paid dividends for stock held in my tax deferred account
> but was hoping a direct dividend reinvestment program might be possible
> work around.

Apr 15 07:34 PM

[Cliff Wachtel:]

interesting, worth looking into. Thanks for your comments, Cliff


On Apr 13 09:34 PM Lin wrote:

> Cliff
>
> Re thorium , check out thoium power , thpw , based in Virginia ,
> it is fast tracking blueprint for making thorium campatable with
> commercial reactors . They also have a " consultting sid , helping
> other countries initiate " safe nuclear power . India + Arab countries
> are working with them . This is the anwser !

Apr 15 07:37 PM

[Yodaorange:]

Hi Cliff, I agree that the dividend growth and stability of these companies is likely to keep pace with inflation. However, if you ignore share price, the total return might be less than Tbills. So on a total return basis, you could have a negative return for a very long time.The challenge with rising inflation is to find investments that have a positive total return that exceeds inflation. Not a simple task. to find these. You might want to make this clear in your articles, because some investors will not understand that risk.

Thanks, YO


On Apr 15 05:38 PM Cliff Wachtel wrote:

> Thanks for your well thought out input. Dividends follow earnings
> and cash flow. Since these recomended mlps are virtual monopolies
> in their areas of operations for an essential product for both suppliers
> and buyers, that suggests that they have pricing power and will be
> able to pass along higher operating costs to their customers- i.e.
> keep earnings and cash flow up with inflation.
>
> Regarding their SHARE PRICES, that's something else. They will follow
> the market. Market risk exists for any stock shares. These aren't
> the only inflation hedge, but are far easier to to manage than real
> estate and pay income while you hold them. Cliff

Apr 15 08:58 PM

[JCCIII:]

Cliff. In earlier articles in this series of excellent articles, you recommended Macquarie Power and Infrastructure Fund (Yahoo! Finance symbols MCQPF.PK and MPT-UN.TO). There is a 31 March 2009 news story on the TSX site stating that 40% of the 2008 distribution was return of capital. Do you have metrics on what portion of distributions of other income funds are return of capital? Would such a high proportion of the dividend being return of capital take this fund off your recommended list? Thanks.

Apr 17 03:24 PM

[Jonathan Ch...:]

I believe we face two very different scenarios with respect to inflation. One scenario, favored by the Gold Bugs, is that the huge number of paper dollars being created by government will inevitable lead to huge inflation numbers. I believe there is a very large probability this will occur.

The sceond scenario is that one of the major effects of the especially severe recession we are experiencing will change the psychology of consumers. That as a result of the difficulties they have seen, affecting themselves and their parents, they will become more conservative savers. This second scenario is the Japan scenario. Though the Japanese National Debt is much larger as a percentage of GDP than the US, their inflation rate is very low, due to high saving rates. The savings absorb the large amount of Yen debt created b the government.

Both scenarios are possible, and any strategy you adopt should attempt to include both possible events.

My preferred strategy is to purchase very low PE securities with high yields, and staying power in their business. It may seem counter intuitive, but these include preferred stocks in REITS (AHT-PD), Low PE Royalty Trusts (PVX), and strong companies with financial operations ( NLY, ACAS, AGNC). I also have some very speculative stocks (ENT, HUN, HTE) which are selling well below book, but are cash-flow positive. I am long on all mentioned stocks.

May 04 05:38 AM