Ranking The Dow Jones Industrial Stocks With The Chowder Rule

|
Includes: DIA, JPM, UNH, V
by: Ex-Bingo Addict

Summary

The Chowder Rule measures current yield and dividend growth.

The 30 companies making up the Dow Jones Industrial Index are ranked.

United Health, JPMorgan, and Visa get a closer look.

Last year, I wrote an article on how the Dow Jones Industrial stocks would compare based on the "Chowder Rule." You can find that article here. This article is an update looking at the Chowder Rule again and the index, along with some new insights and opinions.

What is the Chowder Rule?

The "Chowder Rule" is a bit of an institution among Seeking Alpha followers. It's a process formed by, yes you guessed it, Chowder. This rule was created to help decide which companies' stocks to invest in. Chowder himself dubs it, "The Success Formula That Never Fails."

This process can help you identify the best dividend growth companies. It enables you to compare high yield/low dividend growth stocks vs. low yield/high dividend growth stocks.

The First Step

First thing's first, each company must have investment grade credit. Chowder wants to see a BBB+ rating by Morningstar or a Quality rating of B+ or better from S& Capital IQ. If you use Value Line, check for a safety rating of 1 or 2. You can read more about the research process at, "It's All About the Fundamentals".

What's considered high yield?

First you need the S&P 500's yield. Currently, its yield is 1.89%. If a stock yield is 50% higher than the S&P 500's yield, it's considered "high yield." That would mean a current yield of 2.84% would be considered "high." For this exercise, let's make it easy and round up to 3.0%.

How do you get a Chowder score?

The rule is quite simple. You first take the current yield of a stock and its 5-year dividend compounded annual growth rate (CAGR). Add these two numbers together and that gives you its "score."

A Chowder score of 12 or greater is required when the current dividend yield is 3.00% or greater. If the current dividend yield is less than 3.00%, it must have a score of 15 or higher. Using this scoring system, you may invest in a lower yielding stock if it has higher dividend growth rate to compensate for the lower current income.

Exception to the rule

There is one other exception to this rule. In the case of slower growing sectors, namely utilities, REITs, and telecoms, a Chowder score of only 8 is required. These stocks typically have higher yields and lower 5-year CAGR due to the nature of their industry. You can expect higher current income from these types of investments. The dividend growth going forward will be limited though. In this example, Verizon (NYSE:VZ) is the only one affected.

An Example

Example 1: Home Depot (NYSE:HD) has a current dividend yield of 2.0% and a 5-year CAGR of 15.8%. That gives HD a score of 17.8. A score of 15 is required so HD passes this cut so and merits further research.

Example 2: Pfizer (NYSE:PFE) has a current dividend yield of 3.2% and a 5-year CAGR of 5.40%. PFE's score is therefore 8.6. Since Pfizer has a dividend yield of 3% or greater, only a 12 is required. Yet, it scores an 8.6 and falls way short of the goal line.

The Dow Jones Industrial Stocks With Current Yield And 5-Year CAGR

Using the Chowder Rule, we will now review the 30 stocks that make up the Dow Jones Industrials (NYSEARCA:DIA), using current yields as of March 24th, 2015. (5-Year CAGR as per fastgraphs.com)

Ticker

Dividend Yield

5-Year CAGR

Chowder Score

Required Mix

Above/Below

UnitedHealth Group

UNH

1.30%

115.80%

117.10

15

102.10

JPMorgan Chase

JPM

2.90%

51.20%

54.10

15

39.10

Visa

V

0.70%

30.70%

31.40

15

16.40

Microsoft

MSFT

2.90%

16.60%

19.50

15

4.50

Disney

DIS

1.10%

18.50%

19.60

15

4.60

Home Depot

HD

2.00%

15.80%

17.80

15

2.80

IBM

IBM

2.70%

14.60%

17.30

15

2.30

Wal-Mart

WMT

2.40%

14.60%

17.00

15

2.00

Chevron

CVX

4.00%

9.60%

13.60

12

1.60

Caterpillar

CAT

3.50%

10.00%

13.50

12

1.50

Exxon Mobil

XOM

3.20%

10.20%

13.40

12

1.40

McDonald's

MCD

3.40%

9.90%

13.30

12

1.30

Intel

INTC

3.10%

10.00%

13.10

12

1.10

Nike

NKE

1.10%

13.70%

14.80

15

-0.20

Coca-Cola

KO

3.20%

8.30%

11.50

12

-0.50

General Electric

GE

3.60%

7.80%

11.40

12

-0.60

Procter & Gamble

PG

3.00%

8.30%

11.30

12

-0.70

Verizon Communications

VZ

4.40%

2.90%

7.30

8

-0.70

Boeing

BA

2.40%

11.70%

14.10

15

-0.90

Travelers

TRV

2.00%

11.80%

13.80

15

-1.20

3M

MMM

2.10%

10.90%

13.00

15

-2.00

Pfizer

PFE

3.20%

5.40%

8.60

12

-3.40

Goldman Sachs

GS

1.30%

10.00%

11.30

15

-3.70

United Technologies

UTX

2.20%

8.90%

11.10

15

-3.90

Johnson & Johnson

JNJ

2.70%

7.40%

10.10

15

-4.90

Merck

MRK

3.10%

3.00%

6.10

12

-5.90

American Express

AXP

1.30%

7.00%

8.30

15

-6.70

DuPont

DD

2.50%

2.30%

4.80

15

-10.20

Cisco Systems

CSCO

3.00%

N/A

N/A

12

N/A

Apple

AALP

1.50%

N/A

N/A

15

N/A

UnitedHealth (NYSE:UNH) Sits On Top

At the top of the list is UnitedHealth Group. Its dividend yield is only 1.3% yet its 5-year CAGR rate is at 115.8%. As I pointed out last year, UNH's dividend growth rate is a bit skewed. The growth rate had some rocket fuel coming from a mere $0.03 dividend to $0.50 per share in 2010. This boot came after UHN's failed attempt to make an acquisition. The company decided instead to return money to the shareholders.

UHN is still making 30+% dividend hikes after 2010. The payout ratio is at a healthy 25%, giving room to go higher. UHN did hit an all-time high last week, though. That milestone opens a debate of two camps. One wants to wait for a pullback, another says the strong get stronger. Personally, I think UNH is about fair value and nothing excites me about it and would pass. You'll have to decide if UnitedHealth's temperature is feverish, or just right for your portfolio.

Silver Medal: JPMorgan Chase & Co. (NYSE:JPM)

Almost every large bank had to freeze or cut the dividend in due to the financial crisis, and the house that Morgan built was no exception. A once mighty dividend of $1.52 per share in 2008 turned into a lowly $.20 in 2010.

JPM has bounced back and in a big way. In 2014, it paid out a $1.56 per share dividend, topping even its old record. Its 5-year CAGR checks in at 51.2%, driven up by the 400% boost in 2011. Even after that one-time huge lift, it still made double-digit hikes in the following years. 2015 will follow suit as the Federal Reserve Board has just cleared JPM for another 10% hike.

JPM was the poster child for scandal following the financial meltdown. They caught a nice break, though, as Abba's Aces pointed out here: a federal court won't delay a $13 billion mortgage settlement.

S&P Capital IQ rates JPM with four stars (Buy). They feel it's undervalued by 41% and has a fair value of $86. That recommendation has been driven by an eventual rise in interest rates. A bigger interest rate spread will be welcome news for JPM's bottom line.

JPM deserves further research given these facts. I had not considered buying more up until this point.

Visa (NYSE:V) Is Where You Should Have Been

Visa's slogan is "Everywhere You Want To Be". Where you wanted Visa was in your portfolio last year as it rose over 20%.

Adjusted earnings growth of 20.6% and no debt? You'll have to pay a premium for that. In return you'll get a mere 0.7% dividend yield. The good news is it's been growing quickly. 2014 saw a 20% hike, taking the dividend up to $1.92 annually per share. There's plenty of room to grow, as the payout ratio is only 19% of earnings.

The prohibitive part about Visa is its above-historical P/E ratio. At a 27.7 P/E ratio, you'll only be getting an earnings yield of 3.61%, compared to a "safe" 10-year treasury rate of 2.08%. If Visa pulls back and moves closer to a P/E ratio of 20, I'd snap up more shares. Until then, I'll wait for a better entry point. A dividend yield of 0.7% doesn't offer much downside support.

The Others

Microsoft (NASDAQ:MSFT), Disney (NYSE:DIS), Home Depot, McDonald's (NYSE:MCD), Caterpillar (NYSE:CAT), Wal-Mart Stores (NYSE:WMT), Exxon Mobil (NYSE:XOM), Intel (NASDAQ:INTC), IBM (NYSE:IBM) and Chevron (NYSE:CVX) also make the cut being above their respective Chowder Rule required score. Many dividend growth investment portfolios form a core around these mega cap stocks. They merit your attention to see if they may fit your objectives as well. Keep in mind that dividend hikes (or cuts) may greatly affect yields and scores.

Wrapping Up

The Chowder rule is a very handy tool to measure dividend yield combined with dividend growth. It is just one tool, though. It may aid you in making investment decisions but it does not take the place of research. As shown in this article, you have to drill down and see why a company has the Chowder score that it does. You also must ascertain if a company can keep raising its dividend at an acceptable level.

You must consider a company's future prospects and not just its past. As the legal disclaimer goes, past results are not indicative of future results. Just because a company has a 25-year dividend raising record does not guarantee it will continue on that path.

Yet, as Antonio utters in Shakespeare's The Tempest, "What's past is prologue." Companies with a history of rewarding stockholders with dividend raises may be more prone to do so going forward. The key is navigating between both the past and the future when investing.

Sources: Seeking Alpha, YCharts, Fast Graphs, CNBC, Forbes, and US Dept of Treasury.

Disclaimer: The above article is for informational purposes only. Always consult your own professional financial, legal, and tax advisor. The above information is believed to be accurate. Always conduct your own research and do not rely solely on the opinions or information presented here. Past results are not guarantee of future results.

Disclosure: The author is long V, IBM, WMT, CVX, XOM, MCD, KO, GE, PG, JNJ.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.