Is it time to flee to safety? With the economic and political climates only becoming more tumultuous I have been concentrating on high yield equities. We all know about the blue-chip dividend companies but there are attractive companies with high yields that are going ex-dividend every week. This strategy can work in one of two ways: either you buy before the ex-date to receive the dividend or buy after if the stock declines far below the after-tax amount of the dividend.
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 10, 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 4 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 $1B, PEs between zero and 20, and institutional holding percentage of at least 25 percent. While not a precise requirement, I prefer companies that have underperformed the S&P 500 in the last 52 weeks as 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 ≥ 25%
After applying this screen I arrived at the companies discussed below. 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. My goal is to present new companies to you and provide a brief overview of their recent developments and this should not be considered a substitute for your own due diligence.
Consider: Private Equity Companies
KKR Financial Holdings (KFN): 7.72% Yield - Ex-Dividend 2/14
KKR is a specialty finance company that operates primarily in the private equity and specialized investment categories. As with many of the companies that appear in my dividend screens, it appears that KKR is depressed because it is a financial services company. Furthermore, there is even more uproar surrounding private equity due to Republican Presidential candidate Mitt Romney and his high-profile work at Bain Capital. Private equity companies are attractive dividend producers because they often either turnaround or improve existing companies and are able to return excess cash quickly. These can be volatile companies because their ventures can fail but once they have successful investments, they can pay higher than average dividends. The dividend was suspended in 2008 when the market crashed, but was reinstated in late 2009 and has been steadily rising since then. As a limited partnership, there are special tax implications for this investment that also need to be considered on an individual basis. Since last quarter the dividend yield has declined approximately eighty basis points as the share price has improved. In the fourth quarter KKR issued $225M of senior notes at 8.375% to repay outstanding debts. Last week the company reported fourth-quarter EPS of $0.43, surpassing estimates by $0.06. Note that a special annual dividend was declared but that is not going ex-dividend this week.
Consider: Pharmaceutical Companies
Eli Lilly (LLY): 4.99% Yield - Ex-Dividend 2/13
Eli Lilly is one of the largest pharmaceutical ("pharma") companies in the world with drugs focusing on cancer, men's health, osteoporosis, and many other medical issues. Eli has one of the stronger pipelines in the industry and historically pharma companies have been able to maintain their high payout ratios so the yield appears to be safe. There is an abundance of coverage on Eli Lilly here on Seeking Alpha and the common theme is that Eli is a solid dividing paying company that generates sufficient cash flows. 2012 will be a difficult year for the company as it has lowered guidance due to the patent expiration of Zyprexa but that is largely baked into the stock. Eli Lilly will likely be heavily involved in the talks to acquire the Turkish pharma company Mustafa Nevzat Ilac Sanayii AS in an attempt to cover up for the decline in revenue; however, Pfizer (PFE) and other heavyweights will also be quite interested as well.
Consider: Electrical Utilities
Exelon Corporation (EXC): 5.27% Yield - Ex-Dividend 2/13
Duke Energy Corp (DUK): 4.66% Yield - Ex-Dividend 2/15
Consolidated Edison (ED): 4.09% Yield - Ex-Dividend 2/13
This is a crowded week for electrical utilities as six of the 13 screener results were in this industry. I focused on the three largest results - Exelon, Duke, and Consolidated Edison ("Con Ed"). While slight geographical differences exist for regional utilities, the underlying business is essentially the same: a stable, cash-cow business that returns most profits to investors via dividends. I have successfully owned utility companies in the northeast U.S., notably Con Ed and Progress Energy (PGN). Note that Progress Energy is being acquired by Duke.
Con Ed does not offer the highest yield but its proven track record of capital gains in addition to dividend makes it a high potential total return company. The company's strong outperformance recently has dragged the yield down and makes Exelon a more attractive option now. A deeper look at the two companies also reveals that Exelon is growing faster, has a lower forward PE, higher ROE, and a lower dividend payout ratio. It appears to be only a matter of time before the underperformance reverses for Exelon.
Consider: Office Equipment Providers
Pitney Bowes (PBI): 8.11% Yield - Ex-Dividend 2/15
Pitney Bowes provides mail processing equipment and integrated mail solutions to businesses of all sizes worldwide. In general, if a company has any issues with its mail, Pitney likely has the solution. You might know the company from the automated metered stamping machine that is ubiquitous in offices across the country, and these type of products are the company's core service. Once a company has a Pitney Bowes offering they often work with the company to provide more services. As you can tell this is a mature, sleepy business that has only average growth prospects but is attractive primarily because of its safe dividend. PBI has underperformed the S&P by almost thirty percent in the last year but the dividend has helped to mitigate the declines. The negative performance is likely due to fears about congressional changes to USPS but even in this digital age, business mail is not going to disappear anytime soon. Earnings and revenue have been holding relatively steady indicating that fears might be overblown. This is a riskier company but I believe it is at least worth further research.
Avoid: Broadcasting & Cable TV
Shaw Communications (SJR): 4.71% Yield - Ex-Dividend 2/13
Shaw Communications engages 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. I do not believe that investors are being adequately compensated for the level of risk assumed and the companies mentioned above offer comparable (or higher) yields for less risk.
The information presented above has been summarized below.