Investing in a sideways trading market is not generally a wildly profitable endeavor. When stock prices level off and trade in a narrowly defined range it often becomes quite a challenge to identify those companies trading at valuations that favor the investor. In addition, the waiting for stock prices to rise can drive even patient investors to jump overboard and sell a stock poised to rise before its time comes. I find that the best way to endure these scenarios in the market is to buy shares of high-quality companies that pay dividends. I reinvest the dividends from those stocks in additional shares of that company so when the price does rise, not only has my initial investment grown but the additional shares purchased through dividends appreciate as well.
In line with a traditional dividend growth strategy I look for stocks that have demonstrated histories of paying and increasing dividends, have the cash flow to support and ensure continued dividend growth, opportunities to grow earnings, and trade at valuations favorable to the investor. In light of many of the challenges facing the markets in the coming months and years, a sideways trading market would not be a surprise. A number of quality dividend stocks could be purchased now and held on throughout the sideways trading period to reap significant gains when the markets and global economy fully recover.
General Electric (NYSE:GE)
This often debated conglomerate seems to be involved in everything. It provides locomotives, airplane engines, gas powered turbines, home appliances, financing, and seemingly anything else individuals or businesses could need. Many dividend-growth investors shunned the company when it slashed the dividend in 2009 thanks to weakness in the GE Capital unit. These investors may want to re-evaluate the more focused GE that has emerged in the past few years focused on industrials, and rewarding shareholders.
Since releasing a relatively positive earnings report, in mid-October, and re-affirming full-year guidance the stock has fallen 6%, and now trades at just over $21. At the current price, GE holds a TTM P/E ratio of 15.4, which exceeds its average P/E from the past five years of 14.2. However, the historic P/E for GE during the financial crisis was weighed down by the poor performance of GE Capital. Since that time GE Capital has become a much smaller portion of the company, and has begun contributing positively to earnings. While GE Capital has evolved, the company has also focused the business more on high-margin industrial products and markets, like energy.
GE slashed its dividend, from $1.24 to $0.40 annually, in 2009 at the peak of the financial crisis. In 2010, the companies began increasing the dividend again, and up to now have issued four dividend increases. Currently GE pays a $0.68 dividend, and an announcement of another dividend increase will likely come out in December. Even without an additional increase, GE currently yields 3.2% on a payout ratio of about 50%. GE has improved the underlying business, and the financial results are beginning to show. GE is and remains a strong buy for the future.
CSX is one of two major rail operators in the eastern portion of the U.S. CSX serves 23 states, including some of the most densely populated portions of the country, with over 21,000 route miles of track. The company derives revenue from a number of major markets including coal, automotive, industrials, agriculture, intermodal transportation and services.
I look at CSX as more than an opportunity to just collect dividends in a sideways trading market, because CSX offers significant opportunities for growth. CSX has traded sideways for more than a year, all the while increasing earnings per share 12% over the past 12 months. CSX has suffered greatly over the fear that declining coal revenue would take a big chunk out of the bottom line, but to this point the company has managed to continue growing earnings and revenue despite sharp drop-offs in coal.
CSX management has done an excellent job of reigning in costs and streamlining operations to capitalize on any opportunity that has been placed in front of them. The company is expanding margins, and expects to continue to see those grow. While the company expects declining coal shipments to remain a headwind through 2013, any uptick in coal exports could serve as a significant catalyst to drive the stock price higher.
At its current price of $19.67 CSX has a TTM P/E ratio of 11.1, well below the five-year average of 14.2. CSX anticipates EPS growth of greater than 10% annually over the next 3-5 years, and the dividend should grow right alongside earnings. At these prices CSX yields 2.8%, but over the past five years has averaged dividend growth of 22.8%. At these prices I see CSX as a great long-term buy. The dividend should continue to grow, and the share price should appreciate as well.
Intel is the world's largest semiconductor chip maker. With 2011 revenue of $54B, Intel is the undisputed industry leader. The company is most well-known for its stranglehold on the PC market, but in 2009, the company completed a reorganization to align with all of the major product groups including: PC, Data Center, Communications, and Mobility.
Weakness in PC sales and negative guidance has depressed shares of INTC over the past few months. At the current price of $20.05 INTC trades with TTM P/E ratio of 8.7, roughly half the five-year average of 17.3. While the PC market has begun to shrink INTC is making an effort to move into the world of mobile and tablets. With INTC's size, scale, and resource advantages it should be able to capitalize on these investments and gain market share in these key growth markets.
INTC pays a $0.90 cent annual dividend, which equates to a 4.5% yield at the current price. Over the past five years INTC has averaged 14.8% annual dividend growth, and currently pays just 36% of earnings as dividends. Even an immediate drop in earnings should not challenge Intel to maintain and increase the dividend in the years ahead. While the share price will likely remain depressed for some time a 4.5% yield allows me to weather the storm.
Caterpillar designs, manufactures, and sells machinery, equipment, and engines to customers around the world through its dealer network. The company is the world's largest provider of construction and mining equipment with annual revenue of $60B.
CAT has underperformed the market significantly over the past twelve months. Shares have fallen 7.6% while the S&P 500 has grown by 17.7%. CAT trades at $84.47, which gives shares a TTM P/E ratio of 8.6 versus the five-year average of 16.8. The company forecasts that challenges in the global economy will continue to persist and that growth will be tepid going forward. Although that outlook may sound grim, any uptick in economic growth worldwide should drive the price of CAT up significantly. Construction and mining cannot get done without heavy equipment, and no one provides more heavy equipment than Caterpillar.
CAT currently pays a $2.08 annual dividend, which works out to a 2.5% yield at the current price. CAT management has re-affirmed that the dividend is safe, and will not be cut despite the weakness seen in the global economy. CAT pays out just 19% of earnings as dividends, and has grown the dividend by 7.6% annually over the past 5 years. With a payout of just 19% management has the flexibility to continue to increase the dividend without negatively affecting the company's cash flow. It may take a while, but when the global economy recovers Caterpillar will be a stock that grows with it.
Sideways markets can challenge any investor. It takes a great deal of patience to ride out the turbulent times and delay the gratification of immediate returns for long-term gains. However, investors who employ a dividend growth strategy may find it easier to ride out the turbulence and reap greater long-term gains by investing in great dividend stocks at favorable valuations. The stocks identified in this article are not a comprehensive list of stocks for an investor to hold through challenging market conditions, but represent specific companies exhibiting a number of the qualities that make a stock attractive under these market conditions.
Disclosure: I am long CSX, GE, INTC. 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.