Buying the stock to receive the dividend is intuitive but many have contacted me requesting further details on the second strategy. Investopedia has a great example of how this works. To explain this, I will use AT&T T as an example. AT&T declared a $.44 dividend to shareholders of record on January 10th, 2012. On the ex-dividend date the stock price should decline by the after-tax dividend amount, with an assumed tax rate of approximately 15% because many dividends qualify for a preferential tax rate. As a result, an investor would expect the stock price to decline by $.37 = [$.44 * (1-.15)]. If AT&T declined by more than $.37 in the absence of negative news you might have an attractive opportunity. Executing this strategy can generate outsized returns over short periods of times but should only be performed on companies that you would be comfortable owning.
To focus on these opportunities I ran a screen with a focus on relative safety for the investments. Since this is a high yield quest I began with a specification of a dividend yield greater than four percent and an ex-dividend date within the next week. To provide some layer of safety I narrowed down the environment by looking at companies with market capitalizations greater than one billion, PEs between zero and twenty, and institutional holding percentage of at least ten percent. While not a precise requirement, I prefer companies that have underperformed the S&P 500 in the last 52 weeksas it indicates limited downside relative to peers. This is summarized below:
- Dividend Yield ≥ 4.0%
- Ex-Dividend Date = Next Week
- Market Capitalization ≥ $1B
- PE Ratio: 0-20
- Institutional Ownership ≥ 10%
After applying this screen I arrived at four potential trades. Although I envision these as short-term trading ideas, you still need to be careful. The information presented below should simply be a starting point for further research and should not be taken as a recommendation.
Consider: Closed-End High Yield Funds
Templeton Global Income Fund GIM: 5.79% Yield - Ex-Dividend 1/12/12
Templeton Global Income Fund is a closed-ended fixed income fund with $1.2B total net assets launched by Franklin Resources Inc. BEN and managed by Franklin Advisers Inc. GIM "seeks high current income, with a secondary objective of capital appreciation. Under normal market conditions, the Fund invests at least 80% of its net assets in income-producing securities, including debt securities of U.S. and foreign issuers, including emerging markets." As of the last annual report (8/31/11), over 80% of net assets were invested in foreign government and agency securities concentrated primarily in Asia Pacific (37%), Americas (26%), and Other Europe (26%).The overall total returns were 17.5% and 12.1% based on market price and NAV, respectively. The diversified high income strategy and proven track record of success makes this an attractive opportunity.
As an aside, even if you have no plans to invest in GIM, I highly recommend reading the latest annual report for the insightful MD&A for the portfolio manager's view on the global economy.
Eaton Vance Limited Duration Income Fund EVV: 8.12% Yield - Ex-Dividend 1/11/12
Eaton Vance Limited Duration Income Fund is a closed-ended fixed income fund launched and managed by Eaton Vance Management. The fund invests in the fixed income markets, specifically the junk bonds and domestic senior loans subsets. Junk bonds are rated below BBB- but one of the firm's objectives is to maintain a weighted average portfolio credit quality of investment grade.
Average annual returns are 7% and 6% at NAV and market price, respectively. Taken in conjunction with the high eight percent yield there is certainly the potential for above-average return if you can stomach the high risk associated with junk bonds. Personally I think there are far safer ways to generate returns than rely on sub-investment grade bonds.
Please note that both GIM and EVV make monthly distributions.
Avoid: Broadcasting & Cable TV
Corus Entertainment (CJREF): 4.13% Yield - Ex-Dividend 1/12/12
Shaw Communications SJR: 4.55% Yield - Ex-Dividend 1/11/12
Shaw Communications spun-off Corus Entertainment in September 1999 and both companies engage in diversified entertainment offerings but focus primarily on Canadian cable television. Cable companies have traditionally been able to distribute sufficient cash flows to investors but the tides are starting to change with the rapidly rising cost of content. Factor in the popularity of internet connected television and other devices and I am not extremely bullish on the traditional entertainment content business model. As with EVV above, I do not believe that investors are being adequately compensated for the level of risk assumed.
The information presented above has been summarized below.
Disclosure: I am long T.