Dividends 2019: Resolve To Restrain Expectations And Scrutinize Risk

by: Adam Aloisi

Ten years hence the financial crisis, investors should have muted expectations compared to the past decade of experience.

How much portfolio risk are you taking?

My general thoughts on equity-buying today and a handful of specific ideas.

Financial annals will likely look back at 2018 as a generally tumultuous year in terms of equity performance. Two sharp corrections highlighted an otherwise mildly collective down year. To those of us that have been skeptical about broad-based stock valuations for some time, the rough ride experienced was certainly not a shock.

Still, at least on a near-term basis, equities continue to be resilient, with investors maintaining their "buy the dips" mentality, which has prevailed for almost a decade now. Last year's early 11% selloff (SPY) was re-traced with a higher high by October and the more brutal late year 20% selloff has already been re-traced by half.

SPY - 1 year

Source: Ameritrade

Of course, as we scan various corners of the market, some stocks - particularly in the tech sector - have fared far worse. Apple (AAPL), for instance, has sold off in excess of the broader market and hasn't bounced back due to iPhone demand concerns. Cutting edge component companies, Nvidia (NVDA), for example, have seen market caps shaved by half due to bloated valuation and disappointing near-term guidance.

Given the variety of geopolitical and disruptive macro- and micro-market forces currently at work, don't expect equity volatility to abate any time soon - but do expect more disappointments. Further, closely monitor fixed-income markets where, recently, economic ebullience has been quickly replaced by recessionary trepidation.

What all this means for the average dividend investor will vary, with some likely in need of generally little to no portfolio repositioning, while others may be in need of something much disruptive.

Expectation Resolutions

Where dividend investors (or any investor for that matter) typically get themselves in trouble is by maintaining an overly rose-colored view of matters during economic expansion. For basically a decade now, markets haven't experienced anything particularly wholesale ugly, à la the Y2K tech meltdown or the '08-'09 financial crisis. While 2018, at times, was somewhat painful to endure (at least on a price level), it certainly wasn't ugly.

While I don't typically get into the game of making specific long-term predictions, I think it's probably a safe bet to say that the next 10 years will not be as fruitful as the past decade. Combine that with evidential slowing growth that appears to be occurring within technology, REITs, and other market corners and we don't appear to be looking into the eye of obvious expansion right now. And, at least to me, it's unclear what the reversal catalyst might be at this point.

Frankly, if we take into consideration some of the subcutaneous problems we face, including state pension underfunding, healthcare spending challenges, and now, a federal government shutdown, we're not exactly looking at the hallmark of foundational stability.

This is not my cue to usher you to the exits, but lest it be indicative of a less-than-exuberant forward view. While I certainly don't strive to be pessimistic, I see it as best for investors to continue to play it close to the vest right now. To wit, it's far easier to get yourself in trouble being over-expectational than under-expectational.

Portfolio Risk Resolutions

Some of the perennial questions dividend investors are prone to ask themselves - and perhaps more so today - are:

  1. How much high-yield as opposed to dividend equity should I hold?
  2. Should I own more high growth, low yield or higher-yield, low growth, dividend growth?
  3. How many total positions should I be holding?
  4. Am I holding the right mix of income securities given current equity and fixed-income market conditions?
  5. How much cash should I hold?

While some investors may intentionally wish to be aggressive or, by circumstance, be forced to aggression, I don't think now's the time to bet the farm on high-yield. Though I could see some accumulation given the recent selloff in the space, but I'd still be wary of the prospect for a recessionary environment that could whipsaw lower-credit-worthy entities or securities.

In terms of dividend equity, certainly question #2 above should, to an extent, be answered via one's specific need for income and perhaps also via life stage. As a more middle-age investor, I tend to opt more on the side of seeking higher growth/lower yield, but certainly would not fault someone more conservative or in retirement for opting for the inverse. Equity mix tends to be a subjective matter in my estimation.

Also subjective would be cash allocation. I'd opine that point in time "cash stash" can independently vary due to an amalgamation of factors: macro-market viewpoint, need for income, desire to be a "timer," etc... Generally speaking, those who've been holding cash over the past decade or otherwise espoused a Ron Paul perma-bear viewpoint have lost out on one of the great bull runs in market history. Having said that, with the cycle perhaps on the verge of a longer-term pause, cash has suddenly become more of a king today.

As mentioned earlier, there may be many dividend/income investors with well diversified portfolios that may not need to rethink the ranch. While I'm not necessarily a fan of an "index hugging" sector-spread mentality, and prefer targeted exposure to sectors that are "working," I think now's a pretty good time to be hedging your bets across the economic-sphere.

Strategy Session

Despite markedly improved wholesale valuations relative to several months ago, I continue to advise caution, although not necessarily hibernation, with new equity money. Excesses that developed over the past several years coupled with what may be a benign forward growth pattern developing will likely take time to resolve in my estimation. I'd see some sort of range-bound market, à la the 2000-2013 "Lost Decade" as likely.

So what does that mean for specific equity allocation and action?

Again, given that we don't appear to be on any doomsday precipice, staying the course or simply holding may be appropriate for most investors. For others, it may mean that a somewhat more active portfolio approach may be necessary to achieve more robust total returns.

For those that were blindsided, lost sleep, or were otherwise panic-stricken by the recent selloff, some sort of portfolio rehab may be advised - be it in the form of movement away from high-yield to more conservative equity-income pastures or gravitating from individual equities to more diversified ETFs.

I'll preface my individual equity thoughts with the caveat that, much as the past year, I'm not pounding the table on just about anything right now.

Given that dividend and dividend-growth investors tend to be underweight the tech sector, I think now's probably as good a time as any to nibble a bit. Some new names I decided to buy recently include both Broadcom (AVGO) - the diversified chip purveyor and Lam Research (LRCX) - the chip equipment fabricator. I also added to my large position in Accenture (ACN). While I'm certainly not expecting any sort of snapback rally, it's hard to deny the impact that tech is having on society.

I have yet to decide whether I will add to my Apple (NASDAQ:AAPL) position or not. Despite the attractive valuation, I'm still considering whether the current lull is a cycle blip, much as we've seen in the past, or something more secularly damning. Since I've simply sat through this painful correction, I certainly hope it is more of the former. On the bright side, dividend growth should continue on the robust side as the company sorts out things near-term.

As most dividend investors know, low interest rates have ushered in considerable affection for real estate investment trusts, or REITs, which, given their recurring and frequently growing income streams, have gained popularity as bond proxies. As many may also know, I've been sitting somewhat alone on the bearish side of this group for some time now due to generally lackluster growth trends. I'd see the collective range bound trading continuing, at best.

In terms of specific REITs to nibble on right now, as you might expect, I don't have a really long list. I've always liked the NNN space, but there's been a mad rush there over the past year, so I'm not a buyer of the widely helds. I did add to MGM Growth Properties (MGP), which yields 6.3% and probably can continue to raise the dividend in the 5-ish percent range going forward. I continue to like the "experiences over possessions" theme that seems to be enveloping society today. And Las Vegas continues to be a hot travel destination.

Elsewhere, while I continue to own Digital Realty (DLR), the company seemed to echo the slowing growth trends across the real estate space when it articulated its 2019 outlook. The best days for the company may now be behind it. The best days for healthcare REITs are probably behind them as well. While you may be able to cherry pick attractive entry points, secular healthcare dollar allocation issues will limit forward growth potential.

While there's no question that Simon (SPG), Taubman (TCO), and Macerich (MAC) will be survivors in the mall space given their experiential backdrop, I've become neutral there given the despondency surrounding Sears (OTCPK:SHLDQ) and J.C. Penney (JCP) and pressure that online shopping is presenting to core and niche mall denizens. Don't expect the dividend growth of old going forward.

Sticking with the experiences theme and moving back to dividend equity, I've been again somewhat alone in my support of Royal Caribbean Cruises (RCL). Trading at 10 times consensus forward estimates and growing earnings at about 10 percent, the stock is cheap. Cruising continues to gain traction with all demographic groups. Dividend yield is about 2.7% and probably grows in the 10% range for the foreseeable future.

Given the recent trough in oil prices, I've been also adding to a position in Valero (VLO), the petroleum refiner. It boasts an attractive 4% yield with 10% growth potential over the next several years given even a modest rebound in oil pricing (which I would anticipate).

To conclude my equity-income thoughts, here's a motley crew of dividend growth stocks that I like going forward (although may not necessarily buy today).

  • Dunkin' Brands (DNKN)
  • Nutrien (NTR)
  • Home Depot (HD)
  • Aircastle (AYR)

As noted, I'd keep my foot generally off the high-yield gas pedal, although I would not argue with judicious exposure. Select closed-end funds, or CEFs, are some of my go-to HY vehicles. On the year-end dislocation, I added a bunch to a position in PIMCO Dynamic Credit Income Fund (PCI) - 9% yield, 2% discount - although if you cherry-picked the recent bottom, you could have had it for a 10% yield!

My general CEF advice is to hone in on funds with attractive NAV performance histories and attempt to buy them at discounts (although that may not always be possible).

In the BDC space, which can be viewed as a more tightly controlled HY closed-end fund, I'd opt for internally managed vehicles, again, with good track records. My two big holdings there, Main Street (MAIN) and Hercules Capital (HTGC), both sell at NAV premiums. While you can certainly opt for a litany of externally managed BDC outfits selling at steep asset discounts, you'll likely be dealing with misaligned managements and, potentially, capital degradation.

A big, fat dividend/yield is worthless if your underlying capital is being eroded at an equivalent rate.


Following one of the sharper declines in recent market memory, income investors should resolve to tighten their investment focus in 2019, accepting of the fact that portfolio returns and dividend growth may moderate compared to recent experience.

While that doesn't mean that one should wake up tomorrow and start churning a portfolio, moving to cash, or building a bomb shelter, it does mean that one should be highly cognizant of asset valuations, slowing growth, and heightening economic challenges.

If you are able to maintain reasonable forward expectations and craft a portfolio that balances personal risk tolerance and need, there's every reason to believe in acceptable, even if not robust, returns (and dividend income) ahead.

Disclosure: I am/we are long AAPL, ACN, AVGO, AYR, DLR, DNKN, HD, HTGC, LRCX MAIN, MGP, NTR, PCI, RCL VLO. 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.