Dominion Resources (NYSE:D) is a large regional utility based in Richmond, VA that provides power and other services to customers in 15 states. While Dominion's business is strong, in this article, we'll be taking a look not at the utility's earnings, but a debt issue that could boost the income in your portfolio. That issue is the 2009 Series A 8.375% Enhanced Junior Subordinated Notes (DRU) and we'll take a deeper look into it now to see if it is right for your portfolio.
The DRU is a subordinated, exchange traded debt issue. That means this issue is not preferred stock; rather, it is simply debt the company sold that is traded on a stock exchange instead of through traditional bond exchange outlets. However, this debt is like any other debt and accrues the same rights and obligations. It is subordinated so in the event of a bankruptcy proceeding, the DRU would be subject to lower rights in terms of payouts than more senior debt but it would still outrank common and preferred stock, if applicable. However, Dominion is a very strong regional utility and bankruptcy is as far from a reasonable possibility as one can get.
The DRU pays a very strong quarterly dividend at 52.34 cents per share, or $2.09375 per year. At the issue price of $25 per share, this works out to a robust 8.375% yield. However, with DRU currently trading at a slight premium to its issue price at $25.76, the current yield is a bit lower at 8.12%. Nevertheless, that is still a very strong yield and with a solid payer in Dominion and quarterly installments, this issue is a great source of income.
There are a couple of things that one should be aware of before investing in DRU. First, as this is a debt issue and not preferred stock, the payouts are classified as interest and not dividends. While this doesn't matter in a retirement account, taxable account holders of DRU will not be subject to the preferential dividend tax treatment. Thus, the after-tax yield of this issue will be much lower for those holders than a comparable preferred stock issue. If you are holding this security in a Roth or Traditional IRA it won't matter but if you are holding it in a traditional brokerage account, the tax treatment could be a material negative for you.
Another potential negative is that Dominion has the ability to defer interest payments on DRU for up to ten years but must make them up at such time. While I don't consider this a real possibility for a variety of reasons, it is something to consider. However, if Dominion ever wants to tap the capital markets again it won't miss interest payments at all and one look at the company's financials shows that the idea of missed interest payments is likely pretty farfetched. However, the clause exists and it is something to be aware of. And for what it's worth, this issue was rated in October by Moody's and S&P at Baa3/BBB, respectively.
In addition, this security, like any other interest-bearing security, is going to suffer from some interest rate risk. DRU has proven to be relatively less volatile than some others in the past year or so amid taper talk from the Fed but there is no way around interest-bearing securities moving up and down with interest rates. DRU's relatively subdued price movements are likely at least partially the result of the next point we should know about DRU and that is the call date.
DRU is a debt issue that is set to mature in 2064 but may be extended, at Dominion's option, up to an additional 15 years. If Dominion chooses not to redeem DRU, interest payments will persist until that time. However, Dominion has the option to redeem DRU beginning in June of next year. That means this debt could potentially have a very short shelf life but just because Dominion has the opportunity to redeem this issue doesn't mean that it will. Of course, there is no way to know when Dominion may choose to redeem this issue until it has already occurred.
Overall, DRU offers investors a very safe, very high yield but with a couple of caveats. Interest payments are not subject to preferential dividend tax treatment and Dominion could call this issue in as little as seven months from now. However, if Dominion chooses not to call this issue I believe it offers one of the safest 8%+ yields you'll find in the marketplace. If you are willing to risk that the issue will be called next year, DRU could provide your portfolio with the boost of income it needs in these low interest rate times.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.