Jeremy Grantham is a co-founder and Chief Investment Strategist of Grantham Mayo Van Otterloo (GMO), a Boston-based asset management firm. The investment firm is one of the world's largest, with assets under management totaling more than $100 billion.
Grantham has built his investment reputation by identifying speculative bubbles and rightly steering clear of speculative investments in assets that are overpriced. He correctly predicted the Japanese real estate bubble in the 1980s, the tech bubble of the late 1990s, and the U.S. real estate bubble in 2008. Grantham's adamant stance about avoiding investing in high-tech stocks with excessive valuations during the late 1990s' dotcom bubble caused investors' withdrawal, halving his assets under management. However, those who stayed with Grantham were richly rewarded.
For some time now, Grantham has been advocating investing in high-quality, large-cap stocks. He believes that high-quality stocks will outperform other investments in the period of the next seven years. [Grantham recently also warned investors about a need to position their portfolios for decades of rising commodity prices.] Here is a closer look at five high-quality dividend stocks in Grantham's portfolio.
Johnson & Johnson (JNJ) was the single largest equity holding in Grantham's portfolio as at the end of the second quarter, worth almost $1.77 billion. J&J is a $190-billion pharmaceutical giant. It is a diversified pharmaceutical, medical device, and consumer goods company. The company has paid dividends for 49 years in a row. While J&J's EPS shrank slightly over the past five years, its dividends grew at an average rate of 8.4% per year. Currently, the stock is yielding 3.6% on a payout ratio of 77%. The company's competitors Pfizer (PFE), Covidien PLC (COV), and Novartis AG (NVS) are yielding 3.6%, 1.5%, and 4.1%, respectively. J&J has faced some difficulties in recent years due to patent expirations, product recalls and litigation. However, J&J's strong balance sheet with light debt load, a diversified product offering, a promising drugs pipeline, and an attractive dividend yield make it a safe dividend play. Still, it should be noted that the stock looks somewhat pricey. In terms of valuation, on a forward P/E basis, J&J is trading at a premium to Pfizer and Novartis, while it is priced below Covidien. J&J's stock is changing hands at $69.06 a share, up 6.9% over the past year. Among fund managers, guru investors Ken Fisher and Warren Buffett are major investors in the company.
Microsoft (MSFT) was the third-largest stake in Grantham's portfolio in the second quarter, worth some $1.51 billion. Microsoft is a technology bellwether with a market cap of $261 billion. The company has been paying dividends since 2003 and now qualifies as an attractive income play. The stock is yielding 2.9% on a payout ratio of 46%. Microsoft's peers Apple Inc. (AAPL) and Hewlett-Packard Company (HPQ) are yielding 1.5% and 2.9%, respectively. Google (GOOG) does not pay dividends. Microsoft has seen consistent EPS and dividend growth. Over the past five years, Microsoft's EPS and dividends increased at average rates of 7.0% and about 15% per year, respectively. The company has just upped its dividend by 15%. An expected acceleration in the company's EPS growth-to about 9.0% per year for the next five years-assures that robust dividend increases will continue in the future. The stock boasts a high free cash flow yield of 8.9% and a ROE of 25.6%. On a forward P/E basis, the stock is trading at a notable discount to the software industry and the technology sector. It is also priced below Apple and Google. Value investor Jean-Marie Eveillard (First Eagle Investment Management-check out its top holdings) and billionaires Ken Fisher and Jim Simons are fans of Microsoft stock.
The Coca-Cola Company (KO) is the fourth-largest stake in Grantham's portfolio. It was worth $1.49 billion at the end of the second quarter. The company is a global beverages giant with a market cap of $171 billion. The company is paying a dividend yield of 2.6% on a payout ratio of 54%. Its rivals PepsiCo (PEP) and Dr Pepper Snapple Group (DPS) are yielding 3.0% and 3.1%, respectively. The company is a dividend aristocrat and has paid dividends consistently since 1920. Over the past five years, its EPS grew at an average annual rate of 11.3%, while its dividend rose at a rate of 8.6% per year. The rate of EPS growth is expected to decelerate to an average rate of 7.5% per year for the next five years. The company has a free cash flow yield of 2.2% and a ROE of 27%. As regards its valuation, on a forward P/E basis, the stock is priced on par with the soft drinks industry. Compared to its main rival PepsiCo, Inc., the stock is priced at a small premium. The stock is changing hands at $38.03 a share, up 12.2% over the past 12 months. Investment legend Warren Buffett owns more than $15.6 billion in the stock.
Pfizer (PFE) is the fifth-largest stake in Grantham's portfolio. It was worth close to $1.45 billion at the end of the previous quarter. The company is a $183-billion pharmaceutical giant. It has paid a dividend since 1901. It is currently yielding 3.6% on a payout ratio of 66%. Pfizer's competitors Johnson & Johnson , Merck & Co. (MRK), and Novartis AG are yielding 3.6%, 3.8%, and 4.1%, respectively. The company has experienced some volatility with regard to its earnings, as its EPS contracted over the past five years and its dividends were cut in 2009. The company is seeing lower revenues due to expiring drug patents and fierce competition from lower-priced generic drugs. This will keep both top- and bottom-line growth subdued in the next five years. As regards its valuation, on a forward P/E basis, the stock is priced slightly below its main competitors, J&J, Merck, and Novartis. Pfizer is trading at $24.51 a share, up 40.2% over the past year. Billionaire Ken Fisher owns more than $509 million in the stock, while Rob Citrone (Discovery Capital Management) owns some $251 million.
Philip Morris International (PM) is the sixth-largest position in Grantham's portfolio. It was worth about $1.44 billion at the end of the second quarter. The company is a $155-billion tobacco and cigarettes maker, selling popular brands such as Marlboro, Parliament, Merit, and Virginia Slims. Currently, the company is paying a dividend yield of 3.7%. Its payout ratio is 68%. For the reference, Altria Group (MO), Reynolds American (RAI), and Lorillard (LO) are yielding 5.3%, 5.4%, and 5.2%, respectively. Philip Morris' EPS expanded at an average rate of 10.8% per year over the past five years. Quarterly dividends increased by 184% since June 2008. Analysts forecast that the EPS will expand at 9.7% per year for the next five years. Given the company's strong brand and pricing power, Philip Morris is expected to have a bullish revenue outlook. Especially strong will be the demand for Philip Morris' products in the Middle East, Asia, and Africa regions, where the company generates the lion's share of its sales and profits. As regards its valuations, on a forward P/E basis, the stock is trading at a slight premium to the tobacco industry. The stock is changing hands at $92.14 a share, up nearly 42% over the past year. Fund managers Tom Russo (Gardner, Russo, & Gardner), Phill Gross (Adage Capital), and Jim Simons are three largest shareholders in the stock among fund managers.