I remember when tech stocks were glamorous and basic materials companies were much-hated value plays. Ten years after the tech bubble, many tech stocks now offer attractive dividend payments. Has the world gone insane? Using a basic screen that incorporates the payback period to grade stocks, fewer attractive stocks were found in the basic materials sector than were found in the tech sector.
Calculating Payback Periods
Part of the allure of dividend-paying stocks is that they pay back your initial investment directly. The number of years it takes for an investment to pay you back is called the payback period. Since many dividend investors are attracted to high-paying dividend companies on the premise that they can ignore what the markets do and simply focus on their dividend income, the payback period provides a reality-check for how long payback based on dividend payments could take.
Payback periods also serve as simple and crude measure of risk. Other investment metrics like required return do not always match up to the calculated payback period. This is because required return takes into account how dividend distributions in earlier years are worth more than the same dollar value paid out later in the future. (You would be able to reinvest the earlier distribution and earn a return on it, making it worth more.)
Payback period estimates depend on earnings growth and dividend payout ratios. Payout ratios were assumed constant, and the dividend was projected by taking the minimum of the following:
- Earnings growth over the past five years
- Analyst estimates for earnings growth for the next five years
- Return on equity times the earnings reinvestment rate
The minimum of these measures was then used to estimate dividend growth for the next three years.
Basic materials stocks were screened for dividend payback within two decades, dividend yields in excess of the 10-year treasury yield and payout ratios below 60%. The values of these inputs are provided below:
Ticker | Company | Dividend Yield | Payout Ratio | EPS growth past 5 years | EPS growth next 5 years |
Atlas Pipeline Partners LP | 6.2% | 7.2% | 9.7% | 10.0% | |
Alliance Resource Partners LP | 5.4% | 44.5% | 15.4% | 10.7% | |
Eni SpA | 6.2% | 29.6% | -5.7% | 3.0% | |
ONEOK Partners, L.P. | 4.3% | 55.9% | 3.7% | 12.0% | |
Olin Corp. | 3.7% | 26.5% | 12.0% | 9.0% | |
Pioneer Southwest Energy Partners L.P. | 7.5% | 50.0% | 1.6% | 6.3% | |
RPC Inc. | 3.4% | 16.0% | 21.8% | 23.5% | |
Total SA | 5.5% | 53.2% | -2.7% | 3.0% |
Abnormal growth will not last forever, and analyst estimates, as informed as they are, are not predictive indefinitely. To address this limitation, a terminal 3% dividend growth rate was applied for every stock in the list after three years of projected growth rates. (Predicting economic growth many years out is impossible, and 3% seemed like a reasonable value.)
Many basic materials stocks have distribution rates which are high enough that the sum of future dividends would equal your initial investment inside of two decades:
Ticker | Industry | P/E | P/B | Return on Equity | Payback Period (years) |
APL | Oil & Gas Pipelines | 7.0 | 1.5 | 23.5% | 12 |
ARLP | Industrial Metals & Minerals | 9.0 | 4.3 | 36.4% | 13 |
E | Major Integrated Oil & Gas | 10.2 | 1.2 | 11.9% | 16 |
OKS | Oil & Gas Pipelines | 21.6 | 3.5 | 16.8% | 18 |
OLN | Specialty Chemicals | 7.3 | 1.8 | 26.6% | 18 |
PSE | Oil & Gas Drilling & Exploration | 6.8 | 4.9 | 77.6% | 12 |
RES | Oil & Gas Equipment & Services | 7.0 | 2.7 | 45.5% | 15 |
TOT | Major Integrated Oil & Gas | 7.7 | 1.4 | 19.6% | 17 |
Conclusion
This screen only found eight basic materials stocks yet found 15 tech stocks. Clearly, the tech sector offers a greater number of attractive dividend-paying stocks than basic materials. What a difference a decade makes!
Fortunately, most of these basic materials stocks (OKS being the exception) trade at cheap price multiples and warrant consideration in an dividend stock portfolio.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
