David Elliot Shaw (D. E. Shaw) founded his hedge fund firm, D.E. Shaw & Co., in 1988. His firm applies a quantitative methodology that attempts to benefit from "subtle anomalies affecting the prices of various securities." Many of the fund's selections are short-term picks, although the fund holds a number of long-term positions. Lately, the firm has expanded the use of "qualitative techniques" to identify profitable investments. These techniques rely on human research to identify fundamentally attractive financial instruments, private equity ventures, debt financing for both profitable companies and those in distress, and so on.
D.E. Shaw & Co.'s funds have been successful. Its Oculus fund returned as much as 19.9% net of fees in 2011, while Composite fund produced a 6.2% return net of fees.
While remaining Chairman of D.E. Shaw & Co., Shaw spends more time on his other computational projects. With net worth of $3 billion, he is ranked 377th on the list of Forbes Billionaires and number 129 in the United States.
Like many other famous investors, Shaw is bullish about Apple Inc. (AAPL), which represented the single largest position in his hedge fund in the first quarter. However, a glance at his portfolio reveals that he favors several other high-quality stocks that pay attractive dividend yields. Among his five top picks paying dividends are IBM (IBM), Procter & Gamble (PG), Wells Fargo (WFC), McDonald's Corp. (MCD), and Pfizer (PFE). IBM has the lowest yield of 1.8%, while Pfizer boasts the highest yield of 3.9%. Here is a closer look at each of these picks:
International Business Machines
This IT bellwether stock was the sixth largest holding in D.E. Shaw & Co.'s portfolio in the first quarter. It is currently valued at close to $333 million. The company is a $219 billion global technology and consulting giant offering a wide range of products and services. It produces and sells computer hardware and software, IT infrastructure, hosting and IT consulting services. IBM saw its earnings per share (EPS) rise at a nearly 17% average annual rate over the past five years. Analysts are bullish about the company's outlook, forecasting EPS growth at an 11% average annual rate for the next half decade. Still, IBM revenues have been stagnant at best, while EPS has been growing, consistently beating analysts' expectations. The EPS growth is partly reflective of the company's strategy to shift into higher-margin businesses, while cutting costs and unprofitable operations. As regards the revenue prospects, IT spending remains weak, and is likely to expand at a meager rate of 2.5% this year, according to research firm Gartner.
IBM pays a dividend yield of 1.8% on a low payout ratio of 25%. Its competitors Hewlett-Packard (HPQ), Microsoft (MSFT), and Accenture (ACN) pay dividend yields of 2.7%, 2.7%, and 2.3%, respectively. In terms of the valuation, the company boasts a forward P/E that is below that for the industry. The company has an exceptionally high ROE, at 74%, and cash per share of $10.7. The stock is changing hands at $189.7 a share, up 7.5% for the year. Warren Buffett is the most bullish investor about IBM (see Warren Buffett's top stock picks).
Procter & Gamble
This $164 billion consumer goods giant was the eighth largest position in D.E. Shaw & Co.'s portfolio. The position is currently valued at $272 million. The company is the largest producer of household and personal care products by revenue. Its EPS grew at an average rate of close to 10% per year over the past half decade. Analysts expect that the firm will boost its EPS at an average rate of 7.3% per year for the next five years. P&G has a diversified product offering and is benefiting from growth in emerging markets. A slow growth in developed markets has been a drag on revenues, which are expected to increase in the low range of between 2% and 4% in fiscal 2013. The company faces stiff competition from private labels. Given that the lion's share of the firm's revenues is foreign-based, foreign exchange fluctuations have started to exert a negative influence on the company's EPS.
P&G pays a dividend yield of 3.7% on a payout ratio of 69%. Its peers Kimberly-Clark Corporation (KMB), Johnson & Johnson (JNJ), and Colgate-Palmolive Co. (CL) yield 3.5%, 3.6%, and 2.4%, respectively. P&G's stock is trading at $61.55 a share, down 5% in a year. Its forward P/E is almost on par with that of its peers on average. Donald Yacktman and Warren Buffett like P&G.
This mega-bank was the 10th largest holding in D. E. Shaw's portfolio in the first quarter of 2012. The position is currently valued at $283 million. The $176 billion multinational diversified financial institution is ranked the fourth largest bank in the U.S. by asset size. The bank's EPS grew at a paltry 2.7% average annual rate over the past five years. This rate of growth is expected to accelerate 3.6 times for the next five years. The bank is a value play, given that it has comparably high ROE of 12.1%, earnings yield of 11%, P/E well below the bank's historical metrics, and price-to-book of 1.2 (historically very low, but still above the industry's ratio). While persistently low interest rates have compressed margins in the industry, Wells Fargo has benefited from low mortgage rates' fueling refinancing activity. (The bank originated more than a third of all residential mortgages in the first quarter of 2012.)
Wells Fargo pays a dividend yield of 2.7% and has a dividend payout ratio of 30%. Its peers JPMorgan Chase & Co. (JPM) and Bank of America Corporation (BAC) are yielding 3.5% and 0.5%, respectively. The stock is currently trading at a forward P/E below the industry's ratio. The stock is changing hands at $33.26 a share, up 17.5% in a year. The company is popular with Warren Buffett, Ken Fisher, and billionaire hedge fund manager Dan Loeb.
D. E. Shaw's stake in McDonald's Corp. was the 12th largest position in the hedge fund's portfolio of holdings. That stake is currently valued at $251 million. The world's largest chain of hamburger fast food restaurants has a market cap of $91 billion. It is a dynamic and innovative company which has adapted to new trends and opportunities. McDonald's is a true multinational firm which derives 60% of its revenues from abroad. This strategy is adversely affecting the company's sales and earnings performance in the medium term, due to weak international market conditions. However, given the rising incomes and the emergence of a flourishing middle-class in emerging markets, especially in the BRIC countries, in the long run, the company's international presence is likely crucial for continued growth. Analysts expect that McDonald's will continue to expand its EPS in high single digits for the next five years.
McDonald's pays a dividend yield of 3.1% on a payout ratio of 52%. Its peers Yum Brands (YUM), Darden Restaurants (DRI) and Wendy's Company (WEN) pay yields of 1.8%, 3.9% and 1.7%, respectively. The company has been boosting its dividend at a robust 22% average rate per year over the past five years. On a forward P/E basis, the company's shares are undervalued relative to the industry and the company's own historical metrics. The stock is changing hands at $89.90 a share, up 5% in a year. Billionaires Jim Simons and Ken Griffin are bullish about McDonald's prospects.
D. E. Shaw's stake in this pharmaceutical giant was 14th largest in the hedge fund's portfolio. The stake is presently valued at $264 billion. Pfizer's EPS contracted over the past five years, and they are expected to grow at a low average rate of 2.5% per year for the next five years. Patent expirations and the ensuing generic drugs competition have taken a bite out of Pfizer's sales. The company has a good pipeline of new drugs, including those for the potential treatment of Alzheimer's disease, which could be lucrative if successful and approved. The company is a good value and income play.
Pfizer pays a dividend yield of 3.9%, which is much higher than the yields on the 10-year Treasury and S&P500 index. Its peers Merck & Co. (MRK), Johnson & Johnson , and Novartis AG (NVS) pay yields of 4.0%, 3.6%, and 4.5%, respectively. Pfizer's dividend payout ratio is 72%. The company has a low forward P/E, which is well below the firm's historical ratios. The stock is also trading at a price-to-book ratio below the long-term metrics. At $22.65 a share, the stock is up 12.4% in a year, and hovering close to its 52-week high. Billionaires Ken Fisher, Donald Yacktman, and George Soros own the stock (see George Soros' top stock picks).
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.