2012 has been quite volatile for the broad stock market and the European situation is further threatening equity investments. With the economic and political climates only becoming more tumultuous I have been concentrating on high yield opportunities to mitigate risk. We all know about the blue-chip dividend companies but there are attractive funds 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. Regardless of your short-term strategies, these funds can be attractive longer-term investments depending on your individual circumstances.
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 July 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. It is true that you can personally avoid immediate taxation by owning the security in an account with beneficial tax treatment but this serves as a benchmark. 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 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. 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 $1B, PEs between zero and 20, and institutional holding percentage of at least 15 percent (except ADRs). While not a precise requirement, I prefer companies that have underperformed the S&P 500 year-to-date as it indicates reduced downside relative to peers. With the impending European crisis I now pay additional attention to a company's geographical dependency and will avoid companies with significant European exposure. This is summarized below:
- Dividend Yield ≥ 4.0%
- Ex-Dividend Date = Next Week
- Market Capitalization ≥ $1B
- PE Ratio: 0-20
- Institutional Ownership ≥ 15%
- Avoidance of European Exposure
After applying this screen I arrived at the equities discussed below. Although I envision these as short-term trading ideas, you still need to be exercise caution. The information presented below should simply be a starting point for further research in consultation with your professional financial advisor before you make any investment decisions. 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.
Avoid: Mortgage Real Estate Investment Trusts
MFA Financial, Inc. (MFA): 11.40% Yield - Ex-Dividend 7/11
My high-yield screens are increasingly uncovering financial service companies with extremely high yields, frequently in double digits. The traditional metrics associated with dividend companies may not fully apply to mREITs so a unique analysis is required. Since these companies are required to distribute such a high percent of earnings to investors, the yields are much higher than you find with more traditional companies; however, the stock prices and dividends can both be quite volatile. Not all mREITs are created equal as the mortgages can be for residential, commercial, healthcare or many other underlying purposes. Note that mREITs may have preferential tax treatment. Please consult with your accountant and/or financial advisor.
From mreit.com: an "mREIT is a Mortgage REIT ... which is an entity that specializes in investing solely in mortgage products (e.g. purchasing and selling mortgage-backed securities). Like other REITs (Real Estate Investment Trusts), an mREIT can only deal with mortgages and 90% of earnings must be paid out to its investors annually."
As I have said in the past, I do not have a wholesale blessing on this sector because there is still much uncertainty surrounding real estate and the related political environment. mREITS can make for profitable longer-term investments but since this area is not my forte, I cannot recommend mREITs that focus on non-agency securities for dividend capture strategies.
I recently highlighted American Capital Agency Corp. (AGNC) as a strong mREIT candidate because it focuses on agency securities for which the principal and interest payments are guaranteed by either a U.S. government agency or a U.S. government-sponsored entity. MFA Financial on the other hand focuses on non-agency securities that inherently involve more risk. As of 2011 approximately 65% of the portfolio was in agency mortgage-backed securities with the balance consisting primary of non-agency securities. At the close of the first quarter 2012 the mix shifted further as agency securities accounted for less than sixty percent of the portfolio. Most alarmingly about MFA is the volatility of the dividends. I strongly prefer a dependable, consistent dividend payout rather than an unpredictable distribution pattern.
Avoid: Cable and Broadcast TV
Shaw Communications (SJR): 4.97% Yield - Ex-Dividend 7/11
Shaw Communications engages in diversified entertainment offerings, but focuses 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. Sports programming is a double-edged sword because it is one of the biggest advantages over Internet streaming; however, it is the most expensive for cable companies to offer. This is still a 'cash cow' industry but it is changing too quickly for me to fully support investing in it.
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. Five percent seems to be that magic yield number for this type of utility companies that draws support and that could occur again with Shaw. The stock has underperformed the S&P 500 by nearly ten percent this year as recently reported earnings declined as slow revenue growth has been unable to keep pace with increasing costs.
The information presented has been summarized below. Yellow and red represent "avoid" and "consider" classifications, respectively.
Disclosure: Author is long T.