7 Stocks The Bond Market Is Telling You To Buy

Includes: KMB, KMP, MO, PG, PM, T, VZ
by: Stephen Rosenman

Where can an investor find great yields these days? Not in bonds. Investors have been piling into Treasuries and investment grade corporate bonds, driving down yields in the frantic hunt for safety. High quality dividend paying stocks offer more value and, arguably, more safety.

Verizon (NYSE:VZ), AT&T (NYSE:T), Kimberly Clark (NYSE:KMB), Procter & Gamble (NYSE:PG), Kinder Morgan Partners (NYSE:KMP), Philip Morris International (NYSE:PM), and Altria (NYSE:MO) have yields that are particularly favorable when compared to their own bonds. What better seal of approval can be offered than stocks delivering yields greater than their long term bonds.

Bond holders, in all seven companies, now must go out at least 10 years to match the yield paid by the stock. In the case of Altria and Philip Morris International, bond holders need to go out to 2038 to achieve rates greater than the common stock. No Kinder Morgan Partners (KMP) bond equals the stock's 6.94% distribution. The longest KMP bond (KMP.HS maturing in 2041) yields 5.47%. KMP's distribution is appealing, especially when compared to their 30-year bonds yielding 147 basis points below the common stock. Is it really safer to own a KMP bond maturing in 2041 at a yield that much lower than the stock?

I like to think about it this way. Bond investors are lending money to these companies at low interest rates. The companies are using that cash to generate high returns. In return for owning the stock, you receive dividends at much higher rates than the lenders. You become a bank enjoying increasing interest spreads.

These are all strong companies with a proven record of raising their dividends, in some cases for over 25 years. Whether we have a recession or not, people will still smoke, diaper their babies, make iPhone calls, and need energy. These high dividend stocks are protected and with any downturn in price, they become attractive to investors looking for yields.

Moreover, their dividends are taxed at a lower rates than the interest obtained from their bonds. In Kinder Morgan Partners' case, a large portion of their distributions are tax-deferred. Long term bonds are not risk free. Many trade at high premiums. For instance, MO.HA is priced at $140 and VZ.II is priced at $141. No longer cheap, they pose significant downside risk. While unthinkable to many investors, an upturn in long term interest rates could lead to a massive losses for these bond holders.

Rising bond prices should make investors question whether they are really moving into safety. At some point, bond holders may find themselves in a stampede for the exits. The spread between these corporate bonds and stock dividend rates is widening. Strong dividends in these stocks should cushion any downside while providing steady cash flow for your portfolio and the potential for share price appreciation.

The charts below show:

  1. The stock dividend yield
  2. How far you need to go out to obtain a bond yield paying more than the stock and
  3. How far you can go out with their bonds paying less than the stock.

AT&T stock is compared solely to T.LA because the yields of the stock and this bond are identical. I've left out bond offerings that are too small to be available to most investors.

Disclosure: I am long PG, KMP, KMB.

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