3 Ex-Dividend Opportunities: Is The 40% Yielder For Real?

Includes: CLF, EPD, MMP, NTI, TYG
by: Paul Zimbardo

The looming fiscal cliff has caused extreme market volatility and has forced investors to seek safer stocks. With the economic and political climates becoming more tumultuous, I have been concentrating on high yield opportunities. Blue-chip dividend companies are well-known but there are attractive equities with high yields 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 equities 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 $0.44 dividend to shareholders of record on October 10, 2012. On the ex-dividend date the stock price should decline by the after-tax dividend amount, with an assumed tax rate of 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 $0.37 = [$0.44 * (1-.15)]. If AT&T declined by more than $0.37 in the absence of negative news you might have an attractive opportunity. For conservatism you may ignore the tax aspects and only trade if the stock price declines by the full dividend amount. 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 as the objective is to concentrate on liquid companies that are affordably priced. 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, P/Es between zero and 20, and institutional holding percentage in excess of fifteen 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 avoid companies with significant European exposure. This is summarized below:

  • Dividend Yield ≥ 4.0%
  • Ex-Dividend Date = Next Week
  • Market Capitalization ≥ $1B
  • P/E Ratio: 0-20
  • Institutional Ownership ≥ 15%
  • Ideally Modest S&P 500 Underperformance
  • Minimal 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 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.

Northern Tier Energy Trust LP (NYSE:NTI): 40.44% Yield; Ex-Dividend 11/19

Northern Tier Energy is an independent downstream energy partnership with refining, retail, and pipeline operations that serve the PADD II (Midwest) region of the United States. NTI focuses primarily on refining in St. Paul, Minnesota, and also has retail operations in Minnesota and Wisconsin. The Wall Street Journal published an article recently that focused on partnerships which offer very high yields (the article specifically mentions NTI) due to the focus on refining rather than more traditional pipeline operations. IPODesktop performed an excellent analysis of the partnership this summer when it filed for its IPO. The stock has surged 61% since its IPO and recently announced record earnings.

You likely did a second take at the 40.44% yield quoted as it is well in excess of any normal company's yield. The company had its initial public offering two months ago and announced its first quarterly pro-rated distribution of $1.48 per share. The cash available for distribution spans the period from the IPO (July 31) through September 30; therefore, this is effectively only two months of dividend payments. The $1.48 distribution implied a monthly distribution of $.74, or $8.88 on an annual basis, assuming no increases or decreases. This accounts for the approximate forty percent annual yield cited above. Even if the stock faces the expected seasonal weakness the yield will still be extremely high and at the worst case yields over 6.5% for this quarter alone. It is difficult to find a quality company with a 6.5% annual yield, let alone a quarterly one.

The stock was recently downgraded to hold by Deutsche Bank with a $25 price target arguing that the stock looks fairly valued. Note that the partnership recently completed a 7.125% debt offering to reduce the amount of 10.5% notes outstanding. This further strengths the partnership's financial position that is highlighted by a 1.9 current ratio. The partnership also has been able to generate very strong cash flows from operating activities recently with $175M year-to-date.

I believe that Northern Tier is worth considering based upon investors' thirst for high yield opportunities as the broader market continues to decline. I do not expect the yield to stay this high but you could have a very attractive opportunity in the short-term. Long-term investors should exercise restraint as such a high yielding stock could decline significantly depending on new dividend rates in 2013.

Cliffs Natural Resources (CLF): 7.09% Yield; Ex-Dividend 11/20

Cliff Natural Resources is an international mining and natural resources company that is the largest producer of iron ore pellets in North America as well as one of the major producers of volatile metallurgic coal. Coal and iron may not be the most attractive investment areas in the United States currently but the company is expanding its operations to foreign markets to capitalize on the demand for iron and steel. With Obama reelected, it is almost a certainty that the coal industry will face further government regulations that will continue to depress profits. The more important factor is that natural gas has been so cheap recently that coal is expensive by comparison.

After Cliff reported very disappointing third quarter earnings in October the stock gave up its recent gains and dropped approximately ten percent. Owning CLF is like riding a rollercoaster. This is one of the highest beta stocks I follow (2.45) and is not for the faint of heart. I still find the valuation compelling with the stock near its 52-week low and the high yield is a reward while you wait. I have been trading CLF for the past year to take advantage of its volatility and strong option premiums; utilizing dividend timing can further boost your returns.

Tortoise Energy Infrastructure Corp. (NYSE:TYG): 5.72% Yield; Ex-Dividend 11/20

Tortoise Energy Infrastructure is a closed-end management company that invests in public traded MLPs. MLPs are typically energy companies that engage in the gathering, transportation, processing, and related activities for natural gas, crude, or other refined products. As of October, the fund had a clear preference towards natural gas and crude pipelines which comprised nearly 85% of the underlying portfolio with natural gas gathering/processing representing the balance.

Current top holdings include Magellan Midstream Partners, L.P. (NYSE:MMP) and Enterprise Production Partners, L.P. (NYSE:EPD). The weighting in MMP has increased this year and it is now the top holding at 8.3%. The dividend rate has inched forward over the years but do not expect growth greater than the low single digits. Selecting TYG may be a less volatile alternative to selecting individual MLP stocks.

The information presented has been summarized below. Yellow and red represent "avoid" and "consider" classifications, respectively.

Disclosure: I am long T. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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