After over 4 years of rallying, stocks appear to be in the process of enduring their first true correction since the Bear Market earlier in the decade.
With the low interest rate environment that has persisted for the past 7 years, and with the 10-year Treasury below 5.5%, investors have been searching for higher yielding investments. This process has led to higher interest in things like Junk Bonds, REITs and MLPs. Not surprisingly, the relative yields of those types of investments has compressed greatly, though in recent months the relative differences have been increasing.
As the U.S. economy slows amidst a booming global economy, we suddenly find ourselves in a tough spot. Rates are rising overseas almost universally, but here, where we are seeing the mortgage lending excesses over the past many years shed light on other excesses, Treasury rates are actually falling in what is known as a “flight to quality”.
This is no time, in my opinion, to chase yield. If, though, you are a conservative long-term investor who likes to invest in dividend-paying stocks, I suggest that you consider some of the parameters that go into the screen whose results appear below.
The goal of this screen is to find stocks that pay sustainable, high dividends. The last time I wrote about this topic, I received several emails scoffing at my characterization of 2% as a “high” dividend. I agree, in general, that it isn’t so high, but keep in mind that it is above the average of the S&P 500 and the list is designed to identify companies that have grown and have the prospects of continuing to grow. Thus, one must consider not just today’s dividend but what it might be in five years or longer. As far as the screen goes, using StockVal, I limited it to companies based in the U.S. whose dividend yields are 2% or higher.
Additionally, each of the companies has paid dividends in each of the past 10 years. None of the companies pays out more than 67% of its earnings as dividends. Each of the companies has grown dividends, earnings and sales (all on a per-share basis) at an annualized rate in excess of 5% over the past 3 years and has a minimum return on capital of 10% (they are profitable and growing). To prevent including companies whose short-term circumstances are too uncertain, I have eliminated all companies whose earnings estimates for either this year or next year have fallen in excess of 10% over the past 12 weeks.
To control paying too much, I excised all companies that have PE valuations in excess of 50% relative to their 5 year medians.. Finally, and very importantly, I have restricted the debt to capitalization ratio to a maximum of 35% to eliminate any companies that might face more onerous terms as they roll over maturing debt in the coming years. While some of these limitations are indeed very restrictive, the goal of the screen is to find safe stocks for turbulent times.
While the list has many familiar names, almost half the names have market capitalizations below $10 billion. Further, these stocks are up a median of only 1.7% year-to-date, trailing the market slightly. Finally, you may notice that only 7 of the stocks have declining earnings estimates for next year. Perhaps the weakness in the market will afford an opportunity to purchase one of these consistent, high-quality dividend payers.
Disclosure: At the time of writing, author had no position in any of the stocks listed.