In a previous article, I outlined that it is getting more difficult to find quality dividend paying stocks to buy. Most of the usual suspects like Kimberly-Clark (KMB) or Colgate-Palmolive (CL) are very overvalued today, which prevents me from adding to my positions there. Other companies like Chevron (CVX) are attractively valued today, but unfortunately my portfolio is overweight in them. Currently I find the oil sector to be cheap and have some of the lowest P/E ratios in the market. However, I would hate to be concentrated in one sector which is exposed to the fluctuating prices in its commodity products.
In this current environment, I am starting to deviate slightly from my entry criteria on a more consistent basis. I usually avoid paying over 20 times earnings for a company for which I expect earnings and dividend growth, and which I could see holding on for the next 20 years. However, I am willing to bend the rules on consecutive dividend increases or minimum yield requirements. Over the past five years, I have increasingly come to realize that buying a quality company as a long term investment at a reasonable valuation is more important than simply purchasing a company that fits a certain set of quantitative criteria.
Over the past week, I purchased stock in eleven businesses. I have outlined these businesses below. Some of these purchases represented additions to existing positions, although a few represented new positions.
Aflac Incorporated (AFL), through its subsidiary, American Family Life Assurance Company of Columbus, provides supplemental health and life insurance products. Aflac has managed to boost dividends for 30 years in a row, and has a ten year dividend growth rate of 19.30%/annum. The company is really cheap at 9.70 times earnings, but has the capacity to grow profits in the foreseeable future through strategic partnerships in Japan and US markets and increasing number of sales associates. One of the opportunities for growth could be US, which accounts for roughly only a quarter of revenues. It is amazing that a company deriving 70-75% of revenues from Japan could achieve such astounding growth over the past 30 years. Currently, the stock trades at 9.70 times earnings and yields 2.30%. Check my analysis of Aflac.
American Realty Capital Properties, Inc. (ARCP) owns and acquires single tenant, freestanding commercial real estate that is net leased on a medium-term basis, primarily to investment grade credit rated and other creditworthy tenants. I like the fact that management is aggressively purchasing assets, acquiring companies and working towards increasing Funds from Operations for shareholder distributions. I can easily view this REIT becoming the next Realty Income in a few years. The risk of course is that they overpay for acquisitions, and this ends up costing existing shareholders big time. The REIT has raised dividends since going public in 2011. This REIT currently yields 6.20%.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. I am attracted to the above average yield on ConocoPhillips, in comparison to Exxon and Chevron. Unfortunately Chevron is already one of my highest weighted positions, which is why ConocoPhillips was the second US oil choice. I am building my position in the stock with this purchase. The company is extremely well run, has a history of disposing out of non-core assets such as Lukoil stock (LUKOY) and Kashagan Project, and sending cash to shareholders in the process. The company has increased dividends for 13 years in a row, and has managed to boost them by 15.10%/year over the past decade. Currently, the stock trades at 10.70 times earnings and yields 4.20%. Check my analysis of ConocoPhillips.
Dr Pepper Snapple Group, Inc. (DPS) operates as a brand owner, manufacturer, and distributor of non-alcoholic beverages in the United States, Canada, Mexico, and the Caribbean. The company has a portfolio of strong brands in North America, and is cheaper than its two larger rivals. The opportunities involved are gaining back international distribution rights to its name and expanding non carbonated products. Even if it doesn't do these things, the company can easily repurchase of stock each year, grow earnings in the low single digits and pay a 3% dividend, for a total return of high single digits or low double digits. Currently, the stock trades at 15.60 times earnings and yields 3.30%.
International Business Machines Corporation (IBM) provides information technology (IT) products and services worldwide. I like this global technology juggernaut, the ability to consistently repurchase shares, raise dividends for 16 years and its vision to earn $20/share by 2015. The company has increased dividends for 18 years in a row, and has managed to boost them by 18.80%/year over the past decade. Currently, the stock trades at 14 times earnings and yields 1.90%. Check my analysis of IBM.
The Coca-Cola Company (KO), a beverage company, engages in the manufacture, marketing, and sale of nonalcoholic beverages worldwide. The company is a global drink giant, responsible for 1.8 billion drink servings to the world every single day. There is a strong brand name, a global distribution network and opportunity for growth in emerging markets. While I really like the company, I had not added to the stock for a while until 2012, which resulted in much lower allocation to this quality company. I am trying to rectify that, and if Coke ever sells at 15 times earnings, I would be a buyer. The company has increased dividends for 51 years in a row, and has managed to boost them by 9.80%/year over the past decade. Currently, the stock trades at 19.40 times 2013 earnings and yields 2.80%. Check my analysis of Coca-Cola.
McDonald’s Corporation (MCD) franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. The golden arches is another stock, which is priced attractively here today, and which can deliver plenty of value over the next 20 years. It is a globally recognized brand, has pricing power, and has continually managed to reinvent itself. With its “Plan to Win” strategy, the company targets 3-5% growth in annual sales and 6-7% growth in operating earnings. Add in a 3% yield, and a 2% reduction in stock through share repurchases, and you can easily expect very good results over time. The company has increased dividends for 36 years in a row, and has managed to boost them by 28.40%/year over the past decade. Currently, the stock trades at 18.20 times earnings and yields 3.10%. Check my analysis of McDonald’s.
Realty Income Corporation (O) is a publicly traded real estate investment trust. It invests in the real estate markets of the United States. I slightly overpayed for this REIT, since I locked in an entry yield below 5%. However, I believe that the company is well managed, and like the distributions which are paid monthly, and regularly increased. Existing management has a strong track record of acquiring quality assets, looks at developing expertise in areas where not many competitors are looking, and tries to increase profits for shareholders. The company has increased dividends for 19 years in a row, and has managed to boost them by 4.20%/year over the past decade. Currently, the REIT yields 4.90%. Check my analysis of Realty Income.
Target Corporation (TGT) operates general merchandise stores in the United States. I like the perceived quality of Target relative to Wal-Mart. The stores look more upscale than the Wal-Marts of the world, and target customers with higher incomes. In addition, the company is much smaller, and just starting to expand internationally. I view this as an opportunity. Management is trying to earn $8/share by 2017, which would make shares purchased today even cheaper. The company has increased dividends for 46 years in a row, and has managed to boost them by 18.60%/year over the past decade. Currently, the stock trades at 16.80 times earnings and yields 2.40%. Check my analysis of Target.
Wells Fargo & Company (WFC) provides retail, commercial, and corporate banking services. The bank cut dividends in 2009, after receiving $25 billion from US Treasury. Since 2011 however, it has started increasing distributions, which are slightly less than the highs reached in 2008. When I last analyzed Wells-Fargo in May, I was not very happy about the company, because of near term weakness. However, I came to realize a few weeks later that I was deviating from my mantra of investing for the next 20 years, rather than for the next one. I sold some naked puts, and last week I initiated a small position in the bank. Currently, the stock trades at 11.80 times earnings and yields 2.80%. Check my analysis of Wells Fargo.
Wal-Mart Stores, Inc. (WMT) operates retail stores in various formats worldwide. This is the largest retailer in the world, which has a tremendous scale of operations and immense pricing power. The company’s bright spot include its international operations, which could easily reach domestic ones in 10 – 15 years. I like the low valuation, which is pricing very low growth in earnings per share over the next decade. The company has increased dividends for 39 years in a row, and has managed to boost them by 18.10%/year over the past decade. Currently, the stock trades at 15.40 times earnings and yields 2.40%. Check my analysis of Wal-Mart.
These shares are not purchased at the low valuations I took for granted up until the days of early 2013. However, most of the companies listed above are having some of the lowest valuations that you can find today. The positions in American Realty Capital Properties Dr Pepper Snapple Group and Wells Fargo have not raised dividends for at least ten years in a row, however I believe these franchises offer compelling long-term potential to achieve that. IBM does not yield much to fit my entry criteria, but has a low P/E, excellent growth and a consistent history of share repurchases.
Full Disclosure: Long AFL, ARCP, COP, DPS, IBM, KO, MCD, O, TGT, WFC, WMT, KMB, CL ,CVX
Relevant Articles:
- Check Out the complete Archive of Articles
- Why most dividend investors never succeed
- Sixteen Great Dividend Champions on Sale
- Look beyond P/E ratios dividend investors
- How to invest when the market is at all time highs?
Wednesday, July 31, 2013
Monday, July 29, 2013
Looking for dividend bargains in an overheated market
With prices on many stocks I follow reaching new highs, it is getting more difficult to find attractive places for my investment dollars. Because of the above factors, I have ventured into modifying my entry criteria slightly, in order to adapt to the current environment in 2013. I definitely feel out of step with the current market however.
I usually screen the list of dividend champions and dividend contenders about once every month using my entry criteria, in order to find attractively valued securities. In addition, I also review dividend increases every week, in order to uncover hidden dividend gems.
After I come up with a list of cheap companies, I try to perform a more detailed review of financials, business prospects and competitive strengths, in order to gain a more thorough understanding of the company’s business model.
In most cases however, chances are that I have analyzed before the companies on the dividend champions and dividend contenders lists. As a result, I just check the last time anything material happened between my analysis time and the purchase date. The beauty of dividend investing is that knowledge is cumulative – if you understood the business model of Coca-Cola in 2011, along with risks and opportunities, your knowledge is most likely still relevant. Things could change over time of course, as Coca-Cola (KO) acquired North America bottling operations from CCE in 2010. For most of your dividend champions, there are not going to be changes in the business model over several years. By reviewing the annual reports, one can easily keep up with any other annual changes like new markets, new products as well as obtaining information about the most recent trends in fundamentals.
Unfortunately, most of the companies I usually focus on have been overpriced. For the companies that I find attractively priced today, I already have an above average allocation to them. Unfortunately, my principles of holding a diversified portfolio prevent me from concentrating my holdings too much. For example, I find Phillip Morris International (PM) and Chevron (CVX) to be attractively priced today. Unfortunately, all two of these companies are in the top five of my holdings. As a result, I would need to look elsewhere for opportunities.
There are also many opportunities with the oil and gas majors these days, many of which trade under 10 times earnings, and offer above average yields. However, investors should avoid concentrating portfolios too much in a given sector. This is because oil and gas companies earnings could suffer if commodity prices dropped from here. If your income portfolio has more than 15 - 20% in a given sector, chances are you might be overly concentrated to it.
Another attractive factor behind dividend investing however is that once you select a great company at a good price, you can simply hold on to it. You can choose to perform small portfolio tweaks here and there, but even if you don’t you should still do just as well doing little. Monitoring your positions is important as well however, as things do change over time. If I were retired and living off my portfolio, I would not really care whether stocks are up or down, as long as fundamentals are intact and companies are showering me with cash on a recurring basis. As an investor in the accumulation phase however, the problem is that while you would benefit from dividend growth, you would fail to turbocharge your income growth because you are not reinvesting your pile of growing dividend payments.
I have been able to identify several companies with low price/earnings ratios, adequate dividend coverage and yields, which have good long-term business and dividend growth prospects:
Aflac Incorporated (AFL), through its subsidiary, American Family Life Assurance Company of Columbus, provides supplemental health and life insurance products. The company has raised distributions for 30 years in a row, and has a five year dividend growth rate of 10.90%/annum. Currently, the stock is trading at 9.70 times earnings and yields 2.30%%. Check my analysis of Aflac.
Ameriprise Financial, Inc. (AMP), through its subsidiaries, provides a range of financial products and services in the United States and internationally. The company has raised distributions for 9 years in a row, and has a five year dividend growth rate of 20.60%/annum. Currently, the stock is trading at 17.20 times earnings and yields 2.40%. Check my analysis of Ameriprise Financial.
Chevron Corporation (CVX), through its subsidiaries, engages in petroleum, chemicals, mining, power generation, and energy operations worldwide. The company has raised distributions for 26 years in a row, and has a five year dividend growth rate of 9.20%/annum. Currently, the stock is trading at 9.60 times earnings and yields 3.10%. Check my analysis of Chevron.
Philip Morris International Inc. (PM), through its subsidiaries, manufactures and sells cigarettes and other tobacco products. The company has raised distributions for 5 years in a row, and has a five year dividend growth rate of 13.10%/annum. Currently, the stock is trading at 17.30 times earnings and yields 3.80%. Check my analysis of Philip Morris International.
Target Corporation (TGT) operates general merchandise stores in the United States. The company has raised distributions for 46 years in a row, and has a five year dividend growth rate of 20.50%/annum. Currently, the stock is trading at 16.80 times earnings and yields 2.40%. Check my analysis of Target Corporation.
Wal-Mart Stores, Inc. (WMT) operates retail stores in various formats worldwide. The company has raised distributions for 39 years in a row, and has a five year dividend growth rate of 13.50%/annum. Currently, the stock is trading at 15.40 times earnings and yields 2.40%. Check my analysis of Wal-Mart Stores.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. The company has raised distributions for 13 years in a row, and has a five year dividend growth rate of 13.10%/annum. Currently, the stock is trading at 10.70 times earnings and yields 4.20%. Check my analysis of ConocoPhillips.
McDonald’'s Corporation (MCD) franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. The company has raised distributions for 36 years in a row, and has a five year dividend growth rate of 13.90%/annum. Currently, the stock is trading at 18.20 times earnings and yields 3.10%. Check my analysis of McDonald’'s.
In modifying my entry criteria, I can accept a shorter streak of dividend increases, and even a lower current yield. However, I would never sacrifice on company quality, and I would not purchase shares trading above twenty times earnings.
Full Disclosure: Long AFL, CVX, PM, TGT, WMT, COP, APD, KO
Relevant Articles:
- Check Out the complete Archive of Articles
- How to invest when the market is at all time highs?
- Is the Dividend Craze Over?
- The World’s Best Dividend Portfolio
- Lower Entry Prices Mean Locking Higher Yields Today
- Carnival of Wealth, Back to School Edition
I usually screen the list of dividend champions and dividend contenders about once every month using my entry criteria, in order to find attractively valued securities. In addition, I also review dividend increases every week, in order to uncover hidden dividend gems.
After I come up with a list of cheap companies, I try to perform a more detailed review of financials, business prospects and competitive strengths, in order to gain a more thorough understanding of the company’s business model.
In most cases however, chances are that I have analyzed before the companies on the dividend champions and dividend contenders lists. As a result, I just check the last time anything material happened between my analysis time and the purchase date. The beauty of dividend investing is that knowledge is cumulative – if you understood the business model of Coca-Cola in 2011, along with risks and opportunities, your knowledge is most likely still relevant. Things could change over time of course, as Coca-Cola (KO) acquired North America bottling operations from CCE in 2010. For most of your dividend champions, there are not going to be changes in the business model over several years. By reviewing the annual reports, one can easily keep up with any other annual changes like new markets, new products as well as obtaining information about the most recent trends in fundamentals.
Unfortunately, most of the companies I usually focus on have been overpriced. For the companies that I find attractively priced today, I already have an above average allocation to them. Unfortunately, my principles of holding a diversified portfolio prevent me from concentrating my holdings too much. For example, I find Phillip Morris International (PM) and Chevron (CVX) to be attractively priced today. Unfortunately, all two of these companies are in the top five of my holdings. As a result, I would need to look elsewhere for opportunities.
There are also many opportunities with the oil and gas majors these days, many of which trade under 10 times earnings, and offer above average yields. However, investors should avoid concentrating portfolios too much in a given sector. This is because oil and gas companies earnings could suffer if commodity prices dropped from here. If your income portfolio has more than 15 - 20% in a given sector, chances are you might be overly concentrated to it.
Another attractive factor behind dividend investing however is that once you select a great company at a good price, you can simply hold on to it. You can choose to perform small portfolio tweaks here and there, but even if you don’t you should still do just as well doing little. Monitoring your positions is important as well however, as things do change over time. If I were retired and living off my portfolio, I would not really care whether stocks are up or down, as long as fundamentals are intact and companies are showering me with cash on a recurring basis. As an investor in the accumulation phase however, the problem is that while you would benefit from dividend growth, you would fail to turbocharge your income growth because you are not reinvesting your pile of growing dividend payments.
I have been able to identify several companies with low price/earnings ratios, adequate dividend coverage and yields, which have good long-term business and dividend growth prospects:
Aflac Incorporated (AFL), through its subsidiary, American Family Life Assurance Company of Columbus, provides supplemental health and life insurance products. The company has raised distributions for 30 years in a row, and has a five year dividend growth rate of 10.90%/annum. Currently, the stock is trading at 9.70 times earnings and yields 2.30%%. Check my analysis of Aflac.
Ameriprise Financial, Inc. (AMP), through its subsidiaries, provides a range of financial products and services in the United States and internationally. The company has raised distributions for 9 years in a row, and has a five year dividend growth rate of 20.60%/annum. Currently, the stock is trading at 17.20 times earnings and yields 2.40%. Check my analysis of Ameriprise Financial.
Chevron Corporation (CVX), through its subsidiaries, engages in petroleum, chemicals, mining, power generation, and energy operations worldwide. The company has raised distributions for 26 years in a row, and has a five year dividend growth rate of 9.20%/annum. Currently, the stock is trading at 9.60 times earnings and yields 3.10%. Check my analysis of Chevron.
Philip Morris International Inc. (PM), through its subsidiaries, manufactures and sells cigarettes and other tobacco products. The company has raised distributions for 5 years in a row, and has a five year dividend growth rate of 13.10%/annum. Currently, the stock is trading at 17.30 times earnings and yields 3.80%. Check my analysis of Philip Morris International.
Target Corporation (TGT) operates general merchandise stores in the United States. The company has raised distributions for 46 years in a row, and has a five year dividend growth rate of 20.50%/annum. Currently, the stock is trading at 16.80 times earnings and yields 2.40%. Check my analysis of Target Corporation.
Wal-Mart Stores, Inc. (WMT) operates retail stores in various formats worldwide. The company has raised distributions for 39 years in a row, and has a five year dividend growth rate of 13.50%/annum. Currently, the stock is trading at 15.40 times earnings and yields 2.40%. Check my analysis of Wal-Mart Stores.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. The company has raised distributions for 13 years in a row, and has a five year dividend growth rate of 13.10%/annum. Currently, the stock is trading at 10.70 times earnings and yields 4.20%. Check my analysis of ConocoPhillips.
McDonald’'s Corporation (MCD) franchises and operates McDonald's restaurants in the United States, Europe, the Asia/Pacific, the Middle East, Africa, Canada, and Latin America. The company has raised distributions for 36 years in a row, and has a five year dividend growth rate of 13.90%/annum. Currently, the stock is trading at 18.20 times earnings and yields 3.10%. Check my analysis of McDonald’'s.
In modifying my entry criteria, I can accept a shorter streak of dividend increases, and even a lower current yield. However, I would never sacrifice on company quality, and I would not purchase shares trading above twenty times earnings.
Full Disclosure: Long AFL, CVX, PM, TGT, WMT, COP, APD, KO
Relevant Articles:
- Check Out the complete Archive of Articles
- How to invest when the market is at all time highs?
- Is the Dividend Craze Over?
- The World’s Best Dividend Portfolio
- Lower Entry Prices Mean Locking Higher Yields Today
- Carnival of Wealth, Back to School Edition
Saturday, July 27, 2013
Best Articles for July 2013 & Recent Additions to My Portfolio
For your weekend reading enjoyment, I have highlighted a few interesting articles from the archives, which I find to be relevant today. The first five articles have been written and posted on this site, while the last five have been selected from other authors. I tend to post anywhere between three to four articles to my site every week. I usually try to write at least one or two articles that contain timeless information concerning dividend investing. This could include information about my strategy, or other pieces of information, which could be useful to dividend investors.
Below, I have highlighted a few articles posted on this site in July 2013, which many readers have found interesting:
I also either added to my positions or initiated positions in about eleven dividend paying stocks. You can check my tweet here, and can possibly expect a more detailed post next week.
- How To Find A Dividend Stock You Can Hold Forever
- Energy Independence is a Terribly Stupid Idea
- Financial Independence Is Both A Journey And A Destination
- Ways to accelerate dividend income
- 10 Potential Dividend Growth Companies Worth Considering
Thank you for reading Dividend Growth Investor site. I am also on Twitter, if you are interested in following me on another platform, where I post about recent trades I have made.
Friday, July 26, 2013
Gazprom dividends unlock value for shareholders of this undervalued giant
I typically invest in your usual dividend growth stock that boasts a long record of consistent dividend increases. Long term readers know that I also own index funds in a 401k ( like millions of others in the USA) but also do merger arbitrage and sell options. Sometimes however, I uncover assets which I find to be deeply undervalued with the potential to return several times the original invested value. One such company is Gazprom (OGZPY). Below you could find the business description of the company:
OAO Gazprom, together with its subsidiaries, engages in the exploration and production of oil and gas. It produces crude oil and gas condensate. The company also engages in the storage, transportation, and sale of gas; and processing of oil, gas condensate, and other hydrocarbons, as well as sale of refined products. In addition, it is involved in the generation and sale of electric and heat energy. The company serves customers in Baltic, Commonwealth of Independent States, the United States, the Asia-Pacific, and Europe, as well as exports to approximately 30 countries.
Currently, the company is selling at 4.80 times earnings. This shows you that either Mr market does not believe earnings are sustainable, or that Mr Market is simply being irrational today. I purchased the stock in June 2013.
I believe that Mr Market is being irrational about the company. First of all, Russia went from being touted as the next big thing during the BRIC boom which ended in 2008, to being one of the most undervalued markets in the world, as measured by P/E ratio. Currently, shares are trading at the same levels they did at the depths of the financial crisis.
Some of the fears behind Russia are corruption and a perceived lack of transparency. Corruption is an issue, although it has been going on for the past 23 years. Investors who bid up Russian stocks in 2008 knew about it, but did their speculation anyway. It speaks greatly that a company like Gazprom, which is surrounded by tales of corruption, is still able to earn a very good profit every year.
Based on the latest 2012 figures, the company seems to have been able to replace production with new reserves. However, the warning sign is that production of carbons has been declining since reaching a high point in 2006.
High oil and gas prices have led to rapid increases in revenues and profits over the past decade. All figures are in Russian Roubles, with $1 buying approximately 33 roubles.
Gazprom owns 72% of Russian gas reserves, and supplies 70% of natural gas in the country. The problem is that Gazprom sells gas in Russia at about 3 times the amount it is selling it in Europe or the countries in the Former Soviet Union. Gazprom is also one of the largest suppliers of natural gas to the European market, with a 25% share. In recent years, the company has faced increased competition from Norway. However, given the company’s infrastructure and long-term relationships with gas providers in so many countries, it is highly unlikely that the amount of natural gas it would sell abroad simply drops precipitously. In addition, while sales in Europe have been flat, prices have been increasing, thus resulting in higher revenues.
A potential opportunity for Gazprom could be selling the commodity to rapidly growing Asian economies like China. Natural gas consumption is expected to increase by 4% per year through 2030, versus 1% for Europe.
Gazprom also sells not only natural gas, but generates revenues from oil, electricity generation, refining and has a vast network of transportation assets to move the commodity into the end markets.
The company’s bylaws mention the requirement to distribute between 17.50% - 35% of its profit in the form of dividends to shareholders. The Russian Federation owns 50% of the entity, while 28.35% are held by ADR holders. The Russian state has an incentive to generate revenues from Gazprom, which is why it has the incentive to earn dividends from the entity. Since Gazprom is so crucial for Russian political interests, it is highly doubtful that this stake would ever be privatized. Government mismanagement could be a red flag, although total mismanagement that would result in the company’s demise would not be very helpful to the Russian government.
Looking at dividend payments per share, and dividend payout ratios since 2003, it is evident that the company has managed to pay over 17.50% in the majority of the period. The notable exception is during the financial crisis, when dividends were cut steeply. Gazprom is more of a value play, rather than the typical dividend growth investment I purchase. The dividend fluctuates, and is increased or cut regularly.
In addition, as non-resident of Russia, there is a 15% withholding tax on distributions. A US taxpayer can obtain a credit of the amount of foreign tax withheld using form 1116. This is why it is important to avoid holding the shares in a tax-deferred account like a Roth IRA for example. The ADR’s I purchased represent two Gazprom shares traded on the Moscow Bourse. As a result, for all per share figures used above, simply multiply by two if you are an ADR holder.
Right now Gazprom is severely undervalued at 4.80 times earnings, and yields 5.30%. The company is priced for no growth, and as if earnings per share would be decreasing going forward. In general, it is very doubtful that this would happen, given the solid relationships the company has, solid infrastructure network to transport carbons, vast reserves. In addition the company is investing in projects to find new reserves and build infrastructure to supply new markets. Last, even if the stock price continues to languish, the high dividend amount is essentially serving as a tool to unlock the value of the conglomerate.
Full Disclosure: Long OGZPY
Relevant Articles:
- Check Out the complete Archive of Articles
- My Dividend Portfolio Holdings
- Best International Dividend Stocks
- International Dividend Achievers for diversification
OAO Gazprom, together with its subsidiaries, engages in the exploration and production of oil and gas. It produces crude oil and gas condensate. The company also engages in the storage, transportation, and sale of gas; and processing of oil, gas condensate, and other hydrocarbons, as well as sale of refined products. In addition, it is involved in the generation and sale of electric and heat energy. The company serves customers in Baltic, Commonwealth of Independent States, the United States, the Asia-Pacific, and Europe, as well as exports to approximately 30 countries.
Currently, the company is selling at 4.80 times earnings. This shows you that either Mr market does not believe earnings are sustainable, or that Mr Market is simply being irrational today. I purchased the stock in June 2013.
I believe that Mr Market is being irrational about the company. First of all, Russia went from being touted as the next big thing during the BRIC boom which ended in 2008, to being one of the most undervalued markets in the world, as measured by P/E ratio. Currently, shares are trading at the same levels they did at the depths of the financial crisis.
Some of the fears behind Russia are corruption and a perceived lack of transparency. Corruption is an issue, although it has been going on for the past 23 years. Investors who bid up Russian stocks in 2008 knew about it, but did their speculation anyway. It speaks greatly that a company like Gazprom, which is surrounded by tales of corruption, is still able to earn a very good profit every year.
Based on the latest 2012 figures, the company seems to have been able to replace production with new reserves. However, the warning sign is that production of carbons has been declining since reaching a high point in 2006.
If you look at the earnings per share side of the equation, it looks like profits are mostly staying above 14 RUR/share. The profit of 7.31/share in 2008 was an aberration due to the financial crisis. Even if profits were to further drop to 15 RUR/share and stay there indefinitely, the stock is still undervalued at 7.50 times earnings.
A potential opportunity for Gazprom could be selling the commodity to rapidly growing Asian economies like China. Natural gas consumption is expected to increase by 4% per year through 2030, versus 1% for Europe.
Gazprom also sells not only natural gas, but generates revenues from oil, electricity generation, refining and has a vast network of transportation assets to move the commodity into the end markets.
The company’s bylaws mention the requirement to distribute between 17.50% - 35% of its profit in the form of dividends to shareholders. The Russian Federation owns 50% of the entity, while 28.35% are held by ADR holders. The Russian state has an incentive to generate revenues from Gazprom, which is why it has the incentive to earn dividends from the entity. Since Gazprom is so crucial for Russian political interests, it is highly doubtful that this stake would ever be privatized. Government mismanagement could be a red flag, although total mismanagement that would result in the company’s demise would not be very helpful to the Russian government.
In addition, as non-resident of Russia, there is a 15% withholding tax on distributions. A US taxpayer can obtain a credit of the amount of foreign tax withheld using form 1116. This is why it is important to avoid holding the shares in a tax-deferred account like a Roth IRA for example. The ADR’s I purchased represent two Gazprom shares traded on the Moscow Bourse. As a result, for all per share figures used above, simply multiply by two if you are an ADR holder.
Right now Gazprom is severely undervalued at 4.80 times earnings, and yields 5.30%. The company is priced for no growth, and as if earnings per share would be decreasing going forward. In general, it is very doubtful that this would happen, given the solid relationships the company has, solid infrastructure network to transport carbons, vast reserves. In addition the company is investing in projects to find new reserves and build infrastructure to supply new markets. Last, even if the stock price continues to languish, the high dividend amount is essentially serving as a tool to unlock the value of the conglomerate.
Full Disclosure: Long OGZPY
Relevant Articles:
- Check Out the complete Archive of Articles
- My Dividend Portfolio Holdings
- Best International Dividend Stocks
- International Dividend Achievers for diversification
Wednesday, July 24, 2013
Frequently Asked Questions (FAQ) About Dividend Investing
I have highlighted below several frequently asked questions about dividend investing. This is not an all inclusive list, but more of a running total of questions I am usually asked about dividend investing, dividend growth stocks and my strategy. The answers pertain to my investing, strategy and experience, and I have tried to respond to the best of my knowledge and intentions. As I get new recurring questions asked, I would add them to this list.
Why should you focus on dividends?
Why should you focus on dividends?
A company that pays dividends is less risky than a company that has never paid a dividend. A company that pays dividends pays with actual cash, which cannot be easily manipulated like earnings. Dividends are a more stable part of total returns, and are always positive, which is what makes them ideal for retirees who want to live off their nest egg. Paying a dividend imposes discipline on management, that makes them evaluate the cash flow impacts of new projects and make them only focus on the best ideas. This dividend payment makes management less likely to engage in empire building, and less likely to simply hoard cash or mindlessly expand/acquire companies which are not accretive to returns. Few US managements are willing to cut a dividend – doing so sends signals that the company is weak financially.
What are you looking for in a dividend stock?
In my entry criteria, I focus on companies which manage to increase dividends over time because they have growing earnings, trade at a P/E below 20, yield above 2.50% and have a dividend payout ratio below 60%. I have violated some of those rules before, but I have also focused on only buying companies that can increase earnings and not paying more than 20 times earnings. I also do qualitative analysis in order to understand the business of the company, whether it has any moat, competitive advantages, strong brands, pricing power and the ability to increase earnings over time.
How to you handle dividend payments?
As an investor in the accumulation phase, I re-invest dividends selectively. This means that I accumulate cash dividends all the way up to $1,000 or $2,000, and then purchase shares in a company I believe to be attractively valued. I am not a fan of automatic dividend reinvestment, unless of course your portfolio is so tiny that the transaction costs would negate any benefit of investing in the cheapest stocks. I target 6%– 7% in annual dividend growth, coupled with a 3% - 4% yield on my portfolio, for a total of 10% in dividend income increase every year. Once I retire and live off my portfolio, I would spend all of the income, and would rely on organic dividend growth to keep up with inflation.
When would you sell a dividend stock?
I usually sell after a dividend cut, after a company I own is acquired, or if it becomes too overvalued for the growth I expect out of it. For example in 2012, Con Edison (ED) traded at a yield of 4% despite the fact that it was growing distributions at less than 1%/year for the past 16 years. In addition, shares of Universal Health Realty Income (UHT) were similarly overvalued relative to their dividend growth. I try to buy great stocks that would do great things in increasing earnings, dividends and stock prices, but sometimes life happens and either growth slows down, the stock gets massively overvalued or the financial conditions deteriorate. My expectation is to never sell when I buy (otherwise, why would I buy in the first place), although I monitor frequently my portfolio. I expect that my best ideas would go up over 1000% in my lifetime, and I would keep holding on to them until I pass them over to my heirs. These would be the stocks that would generate large portions of my returns. Selling a stock that will go up by 1000% in 20 – 30 years for a small gain without letting it ride out to full potential will likely cost a lot, and could mean you lose money in dividend investing rather than make any.
Don't only companies that do not grow pay dividends? Companies that cannot find anything better to invest money in tend to pay dividends.
It is true that companies like Google (GOOG) have never paid a dividend; nor did Apple (AAPL) pay a dividend between 1997 – 2011, when its stock rose a lot. However, most companies that do not pay dividends do so because they cannot afford to because they have deteriorating financials or need all of the money to be reinvested in the business, as they are not generating excess cash flows. If you focus on companies that do not pay a dividend, chances are that few will be the Googles or Berkshire Hathaway’s (BRK.B) of the world, but most might be the Worldcom’s, General Motors, Eastman Kodak’s etc.
Actually, some of the best performing stocks have managed not only to grow business but also pay a rising dividend over time. Such companies include Wal-Mart (WMT), McDonald’s (MCD) and Coca-Cola (KO). My goal is identifying these companies that not only increase earnings and dividends, but also trade at a reasonable valuation. That being said, not all companies that pay dividends are good investments. Please check above on the factors I look for in a stock.
But Warren Buffett doesn’t believe in paying dividends – Berkshire has not paid a dividend since 1967
Berkshire Hathaway has not paid dividends since 1960’s. However, Buffett does invest in businesses and companies that pay dividends, and he uses these cash flows to invest in other cash generating stocks and businesses. This is similar to what dividend investors do – buy stocks and then reinvest them in other attractively valued stocks if in the accumulation stage. If you are retired, then chances are you still reinvest your excess cash in more dividend stocks. While Buffett is an excellent capital allocator, few other companies can match his expertise. Most companies that invest excess earnings into other relevant businesses or unrelated industries have a poor track record. The sole fact that there is just one Berkshire Hathaway but over 100 dividend champions speaks volumes.
But what about total returns?
As I mentioned above, I focus on companies that I believe will increase earnings per share over time. This is the driver behind dividend growth over time. A company with rising earnings per share would likely increase in price over time. As a result, I do hope that the companies I buy will be more valuable over time, and would generate total returns. However, I focus on dividends because they are a more reliable portion of total return than capital gains for living off your nest egg.
What about taxes?
Qualified dividends derived from US corporations are taxed at a maximum tax rate of 23.80% to US residents. This is much lower than tax rates on interest income, which is taxed much higher at the ordinary income tax rates (except muni-bonds). Unfortunately, if your income is less than $400,000 for single or $450,000 for joint returns, you would pay anywhere from 0% to 15%.
Taxation varies for REITs and MLPs, and is unique to the entity paying them and the personal situation of the individual receiving distributions from these entities. Not investing in dividend stocks and equities in general because they could result in tax liabilities is not a smart strategy to follow. It is possible for US investors to defer/avoid paying taxes on investment income if it is placed in tax-advantaged accounts such as 401(k), IRA, ROTH IRA, SEP IRA etc. If you are a US resident investing in foreign corporations, you might end up paying withholding taxes on dividends received, even if you held them in a tax-advantaged account however.
But is a 2% yield sufficient to protect you against inflation?
I focus on companies which have yields that look low today, but which I believe would increase dividends above the rate of inflation. If this dividend growth is fueled by earnings growth, chances are that stock price will increase as well. For example, let’s examine a situation where you bought a dividend growth stock that trades at $100/share, earns $5/share and pays a $2 annual dividend. If this company is able to grow earnings and distributions by 7%/year over the next decade, and inflation grows at 3%/year, you will be ahead of inflation. That means that in year two, the company would earn $5.35/share, pay $2.14/share and likely trade around $107/share. In order to maintain purchasing power in year two as year one, the stock would have had to trade at $103/share and would have had to pay $2.06/share. If you add in that excess over inflation, it can lead to more wealth over time. Since 1920, dividends on the Dow Jones Industrials have increased by 5%/year, which was 2% higher than inflation. As a result, I find dividend growth stocks to be the perfect source of inflation proof source of income.
But I would need $500,000/$1,000,000 invested in dividend paying stocks to make a meaningful amount of dividends to live off?
In order to live off your nest egg, you need to build a nest egg first. I focus on building income, rather than a set amount to invest in. However, if you are just getting started and need $40,000 in annual income, you would likely need to invest about $1 million in dividend paying stocks. However, if you asked a traditional portfolio planner/financial adviser, they would have advised you to have $1 million in your portfolio and follow the traditional 4% rule. As a result, the requirement to have a nest egg to live off of with dividend stocks is no different than what you would need in a traditional index funds/bond fund allocations. The goal is to start as early as possible, in order to get time and compounding on your side. Dividend investing is not a get rich quick scheme.
But doesn’t dividend investing take too much time?
Dividend growth investing does require a time commitment. The time is spent scanning the market for opportunities, analyzing companies through reading annual reports, analyst reports, and filings. The time is also spent reviewing your portfolio regularly as well. However, once you have a certain level of understanding behind the companies you own, updating that knowledge should not take as much time. In general, you can spend about 10 hours/week easily on average, with a lot of it spent in the February – April period when most annual reports are sent out. If you are unable to dedicate time to managing your individual portfolio, you can outsource it by focusing on stock or bond funds. However, depending on your choices, you might end up paying a steep price every year for this privilege.
What about bonds/real estate/gold?
I believe that a portfolio should be well-rounded with different asset classes that do well under various conditions. I would like to have a 20% - 25% allocation to US treasuries when I retire, which would protect my nest egg for a Depression like scenario like the US experienced in 1929 – 1933 or Japan between 1989 – 2013.
I am not capable of managing real estate myself, but instead focus on Real Estate Investment Trusts.
I do not own gold/silver except for a few coins for numismatic purposes ( I also used to collect stamps at one point). I do not see much value in it in a typical investment portfolio. I like to own assets that have a productive capacity such as stocks or real estate for example. However, gold has been the asset to own if you were part of a minority that is being persecuted and you need to leave (Jewish community in Poland in 1939).
What are your favorite resources to research dividend investing?
I read annual reports, where I obtain most of my data. I use the Securities and Exchange commission website for this at SEC.gov. I also use Yahoo! Finance to keep tabs on my many holdings, in a personalized watch list. I also have a few favorite authors on dividend investing:
Why spend all that time on dividend investing, when no one can outperform index funds?
As a dividend investor my goal is not to outperform the S&P 500, although I do compare increases in my dividend income to increases in S&P 500 dividends. The S&P 500 is a list of stocks which is arbitrarily selected by a committee in Standard & Poor’s according to who knows what criteria – it is not even a list of the 500 largest companies in the US. The 40 largest companies in the index account for almost half of its weighting. The committee in charge of maintaining S&P 500 included Berkshire Hathaway only a few years ago. During height of the dot-come bubble in 1999 – 2000 they added a lot of so called "new economy stocks", right before they crashed and burned. My goal is to generate a growing stream of dividend income every year, and to achieve that I focus on companies which I believe are undervalued today, have solid competitive advantages that I understand, and will likely increase earnings and dividends over time. I have a friend who owns an auto repair shop. I never ask him how his business is doing relative to the S&P 500, or else he would think that some of the screws in my head might be failing.
Incidentally however, dividend growth stocks since 1972, dividend champions since 2007 and dividend achievers since 1996 have outperformed the S&P 500 or very closely followed it.
Readers of Dividend Growth Investor website, I would appreciate your feedback on Frequently Asked Questions. If you have input on the existing answers to these questions, or if you could think of any additional ones, I would be more than happy to hear from you here or in my email address. My e-mail is dividendgrowthinvestor at gmail dot com.
Tuesday, July 23, 2013
The Importance of Corporate Governance for Successful Income Investing
Everyone’s actions are typically driven by self-interest. That is what has generated strong growth in the world economy over the past two centuries. Sometimes however, different individuals might have actions which might not be in the best self-interest of the people they work for. I am referring to the issue of corporate governance in many of today’s corporations.
The issue is that the goals of managers and shareholders might differ. Managers for example might be compensated based on total profits or total sales. As a result, they might end up pushing for acquisitions of businesses that might deliver short term boosts in these key metrics, but might end up being disastrous for shareholders wealth. Other managers might prefer to allocate excess cash to repurchase stock rather than pay a dividend, in order to increase share prices that would make their incentive stock options more valuable. A third group of managers might even attempt to manipulate accounting records in order to inflate profits and collect their fat performance bonuses.
One thing that could reduce the incentive by managers to do the above mentioned actions is to closely align their performance compensation structure with the actual performance of the business. This is an extremely difficult task to do, and there are countless studies by researchers and highly paid consultants that have spent hours upon hours studying the issue. The answer however could sometimes be very simple.
In my studies of successful businesses, I have noticed one very interesting phenomenon when it comes to corporate governance. This corporate governance situation closely aligns the compensation of managers with the well-being of the enterprise. The situation occurs when a majority shareholder in a company is also in charge of steering the business in the right direction because they are the CEO. Some great examples include Warren Buffett, who took over management of then struggling Berkshire Hathaway (BRK.A) in the 1960s, and then transforming it into a highly successful diversified conglomerate fifty years later. His initial investment of several million dollars has been compounded by the Oracle of Omaha’s investment genius into roughly a fortune worth $40 billion dollars today.
Another example of successful corporate governance by the founder/CEO is Microsoft (MSFT). He had been able to grow the company from a small software start-up in the 1970s, to one of the largest companies in the world by the time Bill Gates retired in 2000. He is a prominent philanthropist these days, but I am not overly bullish on Microsoft's stock.
My favorite CEO currently includes Richard Kinder, who is in charge of managing Kinder Morgan Inc (KMI). All of his wealth is invested and derived from his ownership of Kinder Morgan shares, which own the general partner and some limited partner units in the Kinder Morgan (KMP) and El Paso (EPB) pipelines. Richard Kinder founded Kinder Morgan with assets from Enron in the 1990s, after having a falling out with then managers of the high-flying energy trading company that later went bust. His salary is $1/year. He does however collect millions in dollars in dividends from his investment in Kinder Morgan however.
My other favorite CEO was John D Rockefeller, one of the original robber barons, who founded Standard Oil in 1870. His company was split into several companies in 1911. Many of today’s largest oil companies in the world such as Exxon Mobil (XOM), Chevron (CVX) are descended from these companies. John Rockefeller was famous for saying: “Do you know the only thing thay gives me pleasure? It’s to see my dividends coming in”
My third favorite CEO was the founder of Wal-Mart Stores (WMT), Sam Walton. Starting the company in 1962, he revolutionized retail in America. His company managed to beat out larger rivals at their own game, through constant focus on cost containment and trying to become the lowest cost provider in the industry. By keeping costs low, the company is appealing to customers to the tune of 100 million visits every single week. This repeat business translates into dividend growth for more than 35 years, The company focuses on turnover, and usually sells most of the merchandise it ordered by the time it has to pay suppliers. Sam Walton thought like an owner however, as he not only expanded at a furious pace, but he also paid an ever increasing dividend only a few years after taking the company public. Check my analysis of Wal-Mart Stores.
To summarize, I have learned that there is often a strong link between having a strong visionary leader at a company, who is also a majority shareholder. This leader usually sees this business as their legacy, and they are very passionate about growing and preserving that legacy. This aligns their goals with the goals of ordinary shareholders to a certain extent. In the cases of the visionary founders listed in this article, shareholders benefited handsomely by the arrangement. By identifying someone who is passionate about their work, and has a majority ownership interest in that enterprise, investors would be wise to buy that stock.
Full Disclosure: Long KMI, CVX, WMT
Relevant Articles:
- Check Out the complete Archive of Articles
- Dividends versus Share Buybacks/Stock repurchases
- How Warren Buffett made his fortune
- Kinder Morgan Partners – One Company three ways to invest in it
- Microsoft (MSFT) Dividend Stock Analysis
The issue is that the goals of managers and shareholders might differ. Managers for example might be compensated based on total profits or total sales. As a result, they might end up pushing for acquisitions of businesses that might deliver short term boosts in these key metrics, but might end up being disastrous for shareholders wealth. Other managers might prefer to allocate excess cash to repurchase stock rather than pay a dividend, in order to increase share prices that would make their incentive stock options more valuable. A third group of managers might even attempt to manipulate accounting records in order to inflate profits and collect their fat performance bonuses.
One thing that could reduce the incentive by managers to do the above mentioned actions is to closely align their performance compensation structure with the actual performance of the business. This is an extremely difficult task to do, and there are countless studies by researchers and highly paid consultants that have spent hours upon hours studying the issue. The answer however could sometimes be very simple.
In my studies of successful businesses, I have noticed one very interesting phenomenon when it comes to corporate governance. This corporate governance situation closely aligns the compensation of managers with the well-being of the enterprise. The situation occurs when a majority shareholder in a company is also in charge of steering the business in the right direction because they are the CEO. Some great examples include Warren Buffett, who took over management of then struggling Berkshire Hathaway (BRK.A) in the 1960s, and then transforming it into a highly successful diversified conglomerate fifty years later. His initial investment of several million dollars has been compounded by the Oracle of Omaha’s investment genius into roughly a fortune worth $40 billion dollars today.
Another example of successful corporate governance by the founder/CEO is Microsoft (MSFT). He had been able to grow the company from a small software start-up in the 1970s, to one of the largest companies in the world by the time Bill Gates retired in 2000. He is a prominent philanthropist these days, but I am not overly bullish on Microsoft's stock.
My favorite CEO currently includes Richard Kinder, who is in charge of managing Kinder Morgan Inc (KMI). All of his wealth is invested and derived from his ownership of Kinder Morgan shares, which own the general partner and some limited partner units in the Kinder Morgan (KMP) and El Paso (EPB) pipelines. Richard Kinder founded Kinder Morgan with assets from Enron in the 1990s, after having a falling out with then managers of the high-flying energy trading company that later went bust. His salary is $1/year. He does however collect millions in dollars in dividends from his investment in Kinder Morgan however.
My other favorite CEO was John D Rockefeller, one of the original robber barons, who founded Standard Oil in 1870. His company was split into several companies in 1911. Many of today’s largest oil companies in the world such as Exxon Mobil (XOM), Chevron (CVX) are descended from these companies. John Rockefeller was famous for saying: “Do you know the only thing thay gives me pleasure? It’s to see my dividends coming in”
My third favorite CEO was the founder of Wal-Mart Stores (WMT), Sam Walton. Starting the company in 1962, he revolutionized retail in America. His company managed to beat out larger rivals at their own game, through constant focus on cost containment and trying to become the lowest cost provider in the industry. By keeping costs low, the company is appealing to customers to the tune of 100 million visits every single week. This repeat business translates into dividend growth for more than 35 years, The company focuses on turnover, and usually sells most of the merchandise it ordered by the time it has to pay suppliers. Sam Walton thought like an owner however, as he not only expanded at a furious pace, but he also paid an ever increasing dividend only a few years after taking the company public. Check my analysis of Wal-Mart Stores.
To summarize, I have learned that there is often a strong link between having a strong visionary leader at a company, who is also a majority shareholder. This leader usually sees this business as their legacy, and they are very passionate about growing and preserving that legacy. This aligns their goals with the goals of ordinary shareholders to a certain extent. In the cases of the visionary founders listed in this article, shareholders benefited handsomely by the arrangement. By identifying someone who is passionate about their work, and has a majority ownership interest in that enterprise, investors would be wise to buy that stock.
Full Disclosure: Long KMI, CVX, WMT
Relevant Articles:
- Check Out the complete Archive of Articles
- Dividends versus Share Buybacks/Stock repurchases
- How Warren Buffett made his fortune
- Kinder Morgan Partners – One Company three ways to invest in it
- Microsoft (MSFT) Dividend Stock Analysis
Monday, July 22, 2013
Why did I sell Enterprise Product Partners (EPD)
I recently sold two-thirds of my position in Enterprise Product Partners (EPD). I laid out all the facts behind the sale in the original article. However, several readers missed the facts, and instead utilized their opinions and their own experiences in order to negate the article.
Now I never pay attention to other people’s mere opinions, because I firmly believe that comments on my investing strategy do not really add much to my investment performance results. This is a crude paraphrase of Warren Buffett’s famous quote that "You Pay a High Price for Cheery Consensus“ ( I am no Buffett though) .However, when I am presented with facts, rather than opinions, I always listen.
I typically try to hold securities" forever", although I tend to avoid holding too tight if I can find a better play(s) that is of similar quality, yet can provide me with more bang for my buck. Kinder Morgan Inc (KMI), Kinder Morgan Management LLC (KMR) and Oneok Partners (OKS) fit the profile. If other comparable MLPs were trading similarly to Enterprise Product Partners (EPD), I would have been more than happy to hold. I am also trying to maintain flexibility as well, just in case. Dividend investing is not a black or white activity, which is why rigid rules based systems never really hold up in real life.
Many of the arguments against my selling related to the “onerous tax” picture of selling. I often have mentioned that I never care about taxation when I sell. More investment sins are probably committed by otherwise quite intelligent people, because of "tax considerations" than from any other cause. Anyone that puts taxes before investment quality is just asking for trouble. I have known of many investors who never sold their employer stock at a gain, in order to avoid paying taxes. Well, lucky for most of them, the gains had turned into losses by the time they needed the money to put a downpayment on a house, send a kid to college or retire from the workforce. So much for putting taxes before your investment thesis.
However, as investing is more of a gray area than black or white, I am also open to a more softer approach to tax management. For example, this year I began maxing out my 401 (k). I also maxed out SEP IRA for 2012 right around April 15, 2013. Because I am still in the accumulation phase of building my nest egg, I have come to realize that taxable MLP’s with their K-1 forms might not be the most optimal investment from a tax standpoint for me right now. This is because I don’t really plan on using this money to live off for several years from now. As a result, I might be better off in an entity like Kinder Morgan Management LLC (KMR), than a Kinder Morgan Energy Partners (KMP). It doesn’t make sense to be collecting distribution income today from an MLP, when this reduces taxable base and my retirement is years from now.
Several individuals reaching out to me about the post, had mentioned that they had purchased Enterprise Product Partners (EPD) at prices such as $20 - $30/unit. Because they had held the partnership for so long, their basis was probably approaching zero. As a result, they viewed my selling of Enterprise Product Partners (EPD) as a bad idea. However, they thought of it as a bad idea, because they didn't read the facts of the article, that was pertaining to my situation. Instead they chose to be viewing it from their own position. Ignoring facts is typical in most aspects of life, as humans are emotional creatures that respond better to emotion that factual evidence. Ignoring the facts is what separates winning investors from losing one.
Basis in master limited partnerships can keep dropping over time, because depreciation typically is higher than income, and therefore the net result is a distribution that is classified as return of capital by the tax authorities. As a result, this distribution decreases your tax basis. This means that as long as your basis is above zero, any distributions you receive from an MLP would not be taxed.
If you decide to sell however, your tax situation is very interesting. If you bought at $40/unit in 2011, and sold at 63.73/unit in 2013 your gain is more than the $23.73 difference. This is because you likely earned about $6.27/unit in distributions during that period ( approximations are made in this example in order to end up with nice rounded numbers that are easier to digest). As a result, you owe about $30/unit to tax authorities. $6.27 of this would be taxed as ordinary income, while $23.73 would be taxed as a long-term capital gain.
If your head is spinning from these numbers, you are not alone. You see, the biggest reason investors have against selling Enterprise Product Partners (EPD) is because of taxes. With a basis of about $40 something/unit, and gain of about $20 capital and $6 - $7 return of capital, I am doing the smart thing of cutting my “stake” early, and moving into other entities that can provide me with slightly better growth, yield and total returns, minus the tax nightmares. It is just intriguing to me that some investors are preaching against selling because the taxes were onerous, yet they did not register the flaw in their thinking.
It therefore seems smarter to sell Enterprise Product Partners (EPD) when I have a $6-$7 ordinary gain and buy a security with slightly better characteristics (KMI and KMR) and pay the least amount of taxes, than do this in 10 – 15 years, when my basis will be zero. After your basis is exhausted, and you don’t add any more funds, you will have to pay ordinary income taxes on the amount you receive as distributions.
I am still holding onto approximately 33-34% of original position in Enterprise Product Partners (EPD). The partnership could easily end up yielding less than 4%, which could be a sell signal. If the partnership yields less than 4% however, I might consider dropping my stake altogether. I also am going to keep my options open, and could decide to sell by end of 2013 and replace it with Kinder Morgan Management LLC (KMR) for example.
Astute readers would notice that for my original position of Enterprise Product Partners (EPD), I am left with about 50-55% in MLP entities for this position( EPD and OKS). They are subject to these onerous MLP K-1 filings that so many other investors are losing sleepless nights over. Of course, as I mentioned before, the decision to sell was based on valuation, although taxes did come out second in the decision.
I found the Enterprise Product Partners (EPD) partnership to be richly valued, and I liked the fact that there are alternatives that can provide me with better values. In addition, because of adding to Kinder Morgan Inc (KMI) and Kinder Morgan Management LLC (KMR), I am going to have less of a hassle with MLP filings. Kinder Morgan Inc is going to deliver higher dividend growth, and possibly high total returns - at 4% yield growing 10% is much better than a 4.30% yield growing 6%. Kinder Morgan Inc is a corporation, and therefore I am dealing with 1099 at tax time, versus K-1s.
Kinder Morgan Management LLC (KMR) is a better choice than Enterprise Product Partners (EPD) because it pays distributions in extra stock, which is not a taxable event. It also yields moreand would likely have slightly higher distributions growth. In addition KMR trades at a discount to Kinder Morgan Energy Partners (KMP), which is closely tracks ( although not as high as a few years ago). So no K-1 forms here either.
ONEOK Partners (OKS) is more of a value play here, as it is not loved by investors at present times. However, if the partnership growth plans materialize, you could be very positively surprised in 4-5 years. Sure, there are K-1s there, but I believe it will do much better than EPD over time.
Relevant Articles:
- Check Out the complete Archive of Articles
- How to Increase Current Yields with Master Limited Partnerships
- ONEOK Partners (OKS) Dividend Stock Analysis
- Kinder Morgan Partners – One Company three ways to invest in it
- Kinder Morgan Partners (KMP) for High Yield and Solid Distributions Growth
Now I never pay attention to other people’s mere opinions, because I firmly believe that comments on my investing strategy do not really add much to my investment performance results. This is a crude paraphrase of Warren Buffett’s famous quote that "You Pay a High Price for Cheery Consensus“ ( I am no Buffett though) .However, when I am presented with facts, rather than opinions, I always listen.
I typically try to hold securities" forever", although I tend to avoid holding too tight if I can find a better play(s) that is of similar quality, yet can provide me with more bang for my buck. Kinder Morgan Inc (KMI), Kinder Morgan Management LLC (KMR) and Oneok Partners (OKS) fit the profile. If other comparable MLPs were trading similarly to Enterprise Product Partners (EPD), I would have been more than happy to hold. I am also trying to maintain flexibility as well, just in case. Dividend investing is not a black or white activity, which is why rigid rules based systems never really hold up in real life.
Many of the arguments against my selling related to the “onerous tax” picture of selling. I often have mentioned that I never care about taxation when I sell. More investment sins are probably committed by otherwise quite intelligent people, because of "tax considerations" than from any other cause. Anyone that puts taxes before investment quality is just asking for trouble. I have known of many investors who never sold their employer stock at a gain, in order to avoid paying taxes. Well, lucky for most of them, the gains had turned into losses by the time they needed the money to put a downpayment on a house, send a kid to college or retire from the workforce. So much for putting taxes before your investment thesis.
However, as investing is more of a gray area than black or white, I am also open to a more softer approach to tax management. For example, this year I began maxing out my 401 (k). I also maxed out SEP IRA for 2012 right around April 15, 2013. Because I am still in the accumulation phase of building my nest egg, I have come to realize that taxable MLP’s with their K-1 forms might not be the most optimal investment from a tax standpoint for me right now. This is because I don’t really plan on using this money to live off for several years from now. As a result, I might be better off in an entity like Kinder Morgan Management LLC (KMR), than a Kinder Morgan Energy Partners (KMP). It doesn’t make sense to be collecting distribution income today from an MLP, when this reduces taxable base and my retirement is years from now.
Several individuals reaching out to me about the post, had mentioned that they had purchased Enterprise Product Partners (EPD) at prices such as $20 - $30/unit. Because they had held the partnership for so long, their basis was probably approaching zero. As a result, they viewed my selling of Enterprise Product Partners (EPD) as a bad idea. However, they thought of it as a bad idea, because they didn't read the facts of the article, that was pertaining to my situation. Instead they chose to be viewing it from their own position. Ignoring facts is typical in most aspects of life, as humans are emotional creatures that respond better to emotion that factual evidence. Ignoring the facts is what separates winning investors from losing one.
Basis in master limited partnerships can keep dropping over time, because depreciation typically is higher than income, and therefore the net result is a distribution that is classified as return of capital by the tax authorities. As a result, this distribution decreases your tax basis. This means that as long as your basis is above zero, any distributions you receive from an MLP would not be taxed.
If you decide to sell however, your tax situation is very interesting. If you bought at $40/unit in 2011, and sold at 63.73/unit in 2013 your gain is more than the $23.73 difference. This is because you likely earned about $6.27/unit in distributions during that period ( approximations are made in this example in order to end up with nice rounded numbers that are easier to digest). As a result, you owe about $30/unit to tax authorities. $6.27 of this would be taxed as ordinary income, while $23.73 would be taxed as a long-term capital gain.
If your head is spinning from these numbers, you are not alone. You see, the biggest reason investors have against selling Enterprise Product Partners (EPD) is because of taxes. With a basis of about $40 something/unit, and gain of about $20 capital and $6 - $7 return of capital, I am doing the smart thing of cutting my “stake” early, and moving into other entities that can provide me with slightly better growth, yield and total returns, minus the tax nightmares. It is just intriguing to me that some investors are preaching against selling because the taxes were onerous, yet they did not register the flaw in their thinking.
It therefore seems smarter to sell Enterprise Product Partners (EPD) when I have a $6-$7 ordinary gain and buy a security with slightly better characteristics (KMI and KMR) and pay the least amount of taxes, than do this in 10 – 15 years, when my basis will be zero. After your basis is exhausted, and you don’t add any more funds, you will have to pay ordinary income taxes on the amount you receive as distributions.
I am still holding onto approximately 33-34% of original position in Enterprise Product Partners (EPD). The partnership could easily end up yielding less than 4%, which could be a sell signal. If the partnership yields less than 4% however, I might consider dropping my stake altogether. I also am going to keep my options open, and could decide to sell by end of 2013 and replace it with Kinder Morgan Management LLC (KMR) for example.
Astute readers would notice that for my original position of Enterprise Product Partners (EPD), I am left with about 50-55% in MLP entities for this position( EPD and OKS). They are subject to these onerous MLP K-1 filings that so many other investors are losing sleepless nights over. Of course, as I mentioned before, the decision to sell was based on valuation, although taxes did come out second in the decision.
I found the Enterprise Product Partners (EPD) partnership to be richly valued, and I liked the fact that there are alternatives that can provide me with better values. In addition, because of adding to Kinder Morgan Inc (KMI) and Kinder Morgan Management LLC (KMR), I am going to have less of a hassle with MLP filings. Kinder Morgan Inc is going to deliver higher dividend growth, and possibly high total returns - at 4% yield growing 10% is much better than a 4.30% yield growing 6%. Kinder Morgan Inc is a corporation, and therefore I am dealing with 1099 at tax time, versus K-1s.
Kinder Morgan Management LLC (KMR) is a better choice than Enterprise Product Partners (EPD) because it pays distributions in extra stock, which is not a taxable event. It also yields moreand would likely have slightly higher distributions growth. In addition KMR trades at a discount to Kinder Morgan Energy Partners (KMP), which is closely tracks ( although not as high as a few years ago). So no K-1 forms here either.
ONEOK Partners (OKS) is more of a value play here, as it is not loved by investors at present times. However, if the partnership growth plans materialize, you could be very positively surprised in 4-5 years. Sure, there are K-1s there, but I believe it will do much better than EPD over time.
Relevant Articles:
- Check Out the complete Archive of Articles
- How to Increase Current Yields with Master Limited Partnerships
- ONEOK Partners (OKS) Dividend Stock Analysis
- Kinder Morgan Partners – One Company three ways to invest in it
- Kinder Morgan Partners (KMP) for High Yield and Solid Distributions Growth
Saturday, July 20, 2013
Best Dividend Articles for Week of 7/20/2013
For your weekend reading enjoyment, I have highlighted a few interesting articles from the archives, which I find to be relevant today. The first five articles have been written and posted on this site, while the last five have been selected from other authors. I tend to post anywhere between three to four articles to my site every week. I usually try to write at least one or two articles that contain timeless information concerning dividend investing. This could include information about my strategy, or other pieces of information, which could be useful to dividend investors.
Below, I have highlighted a few articles posted on this site, which many readers have found interesting:
I read a lot about companies, and also read a lot of interesting articles from all over the web. A few that I really enjoyed over the past several months include:
I read a lot about companies, and also read a lot of interesting articles from all over the web. A few that I really enjoyed over the past several months include:
- The importance of moats for dividends
- Which Is Riskier - 1 Paycheck Or 50 Paychecks?
- Wells Fargo & Co. (WFC) Stock Analysis
- Change Your Investor Perception – It’s Not All Black or White
Friday, July 19, 2013
Chevron Corporation (CVX): An Undervalued Dividend Growth Star
Chevron Corporation (CVX), through its subsidiaries, engages in petroleum, chemicals, mining, power generation, and energy operations worldwide. It operates in two segments, Upstream and Downstream. This dividend champion has paid dividends since 1912 and increased distributions on its common stock for 26 years in a row.
The company’s last dividend increase was in April 2013 when the Board of Directors approved an 11.10% increase to $1/share. The strong dividend growth is an indication of management’s strong confidence of future cash flow generation. The company’s largest competitors include Exxon Mobil (XOM), British Petroleum (BP) and Royal Dutch (RDS.B).
Over the past decade this dividend growth stock has delivered an annualized total return of 16.30% to its shareholders.
The company has managed to an impressive increase in annual EPS growth since 2002. Earnings per share have risen from 3.57/share in 2003 to $13.32 in 2012. Analysts estimates are for Chevron Corporation to earn $12.38 per share in 2013 and $12.46 per share in 2014.
The goal of Chevron is to fund its massive capital program, grow the dividend, return excess cash flows to shareholders, while preserving its financial strength.
New field developments are expected to generate 1% annual production growth through 2014 and then 4%- 5% for the next four years. Most of the capital spending on exploration and production would go into the Australia LNG, Gulf of Mexico and deepwater projects. Higher oil prices would also result in high earnings per share. Natural gas prices overseas have been more competitive overseas, in comparison to the US, which is a positive. While oil is easier to transport, natural gas is not. The company is working on acquiring and developing assets which would provide strong results in the future and also add to its reserves. Chevron is better positioned than peers, since it has a larger exposure to more lucrative oil fields, versus natural gas fields. The company has also managed to consistently replenish its production with new finds, and is on a massive capital spending quest to increase production significantly by 2017. Chevron’s recent acquisition of Atlas Energy is just one example of this strategy. The acquisition has provided Chevron with access to the Marcelus Shale. The company is also disposing of low margin assets like Refineries.
On the negative side, there is a court ruling in Ecuador against Chevron for a potential $19 billion. The likelihood of CVX having to pay this entire amount however is pretty slim to none however, as the company has no significant assets in Ecuador. Another potential dispute could occur in Brazil, related to a 2012 Frade Field leak there.
The return on equity has closely followed the rise and fall in oil and natural gas prices. It rose between 2002 and 2007, then dipped in 2009, before rebounding strongly. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.
The annual dividend payment has increased by 9.60% per year over the past decade, which is lower than to the growth in EPS.
A 9% growth in distributions translates into the dividend payment doubling every eight years. If we look at historical data, going as far back as 1984 we see that Chevron Corporation has actually managed to double its dividend every ten years on average.
The dividend payout ratio has remained below 50% for the majority of the past decade. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.
Currently, Chevron Corporation is attractively valued at 9.40 times earnings, yields 3.20% and has an adequately covered dividend.
Full Disclosure: Long CVX and RDS.B
Relevant Articles:
- Check Out the complete Archive of Articles
- My Entry Criteria for Dividend Stocks
- ConocoPhillips (COP) Dividend Stock Analysis
- Spring Cleaning My Dividend Portfolio
- Royal Dutch Shell – An Undiscovered Dividend Gem
The company’s last dividend increase was in April 2013 when the Board of Directors approved an 11.10% increase to $1/share. The strong dividend growth is an indication of management’s strong confidence of future cash flow generation. The company’s largest competitors include Exxon Mobil (XOM), British Petroleum (BP) and Royal Dutch (RDS.B).
Over the past decade this dividend growth stock has delivered an annualized total return of 16.30% to its shareholders.
The company has managed to an impressive increase in annual EPS growth since 2002. Earnings per share have risen from 3.57/share in 2003 to $13.32 in 2012. Analysts estimates are for Chevron Corporation to earn $12.38 per share in 2013 and $12.46 per share in 2014.
The goal of Chevron is to fund its massive capital program, grow the dividend, return excess cash flows to shareholders, while preserving its financial strength.
New field developments are expected to generate 1% annual production growth through 2014 and then 4%- 5% for the next four years. Most of the capital spending on exploration and production would go into the Australia LNG, Gulf of Mexico and deepwater projects. Higher oil prices would also result in high earnings per share. Natural gas prices overseas have been more competitive overseas, in comparison to the US, which is a positive. While oil is easier to transport, natural gas is not. The company is working on acquiring and developing assets which would provide strong results in the future and also add to its reserves. Chevron is better positioned than peers, since it has a larger exposure to more lucrative oil fields, versus natural gas fields. The company has also managed to consistently replenish its production with new finds, and is on a massive capital spending quest to increase production significantly by 2017. Chevron’s recent acquisition of Atlas Energy is just one example of this strategy. The acquisition has provided Chevron with access to the Marcelus Shale. The company is also disposing of low margin assets like Refineries.
On the negative side, there is a court ruling in Ecuador against Chevron for a potential $19 billion. The likelihood of CVX having to pay this entire amount however is pretty slim to none however, as the company has no significant assets in Ecuador. Another potential dispute could occur in Brazil, related to a 2012 Frade Field leak there.
The return on equity has closely followed the rise and fall in oil and natural gas prices. It rose between 2002 and 2007, then dipped in 2009, before rebounding strongly. Rather than focus on absolute values for this indicator, I generally want to see at least a stable return on equity over time.
The annual dividend payment has increased by 9.60% per year over the past decade, which is lower than to the growth in EPS.
A 9% growth in distributions translates into the dividend payment doubling every eight years. If we look at historical data, going as far back as 1984 we see that Chevron Corporation has actually managed to double its dividend every ten years on average.
The dividend payout ratio has remained below 50% for the majority of the past decade. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.
Currently, Chevron Corporation is attractively valued at 9.40 times earnings, yields 3.20% and has an adequately covered dividend.
Full Disclosure: Long CVX and RDS.B
Relevant Articles:
- Check Out the complete Archive of Articles
- My Entry Criteria for Dividend Stocks
- ConocoPhillips (COP) Dividend Stock Analysis
- Spring Cleaning My Dividend Portfolio
- Royal Dutch Shell – An Undiscovered Dividend Gem
Wednesday, July 17, 2013
Dividend Investors Should Ignore Price Fluctuations
In this day and age we are bombarded with stock market information anywhere we go. You can find stock prices on many TV channels, newspapers, the internet and mobile phones or tablets. This excess of information creates information overload which creates the urge to buy and sell stocks in nanoseconds. This could prove hazardous to your wealth however. Research has shown that investors who actively trade the markets generate lower returns that index funds. In fact, investors would be better suited to just ignore price fluctuations and simply focus on fundamentals.
Investors should focus on company fundamentals in order to profit in the long run. Focusing on long term business performance would be helpful if the investor takes the time to understand the business, and determine whether the company has a chance of growing earnings over time. If earnings are increasing, chances are that the market will reward the company’s stock with a higher price, and that the company will be able to reward its shareholders with higher dividends. At times stock prices get detached from fundamentals however, which is when the patience of dividend investors is tested. During stock market euphoria, investors who own dependable dividend stalwarts tend to feel out of sync with the rest of the market, as high growth stocks tend to deliver double digit returns easily. During market corrections however, these same growth stocks tend to give up almost all of their returns, and then some. It is during market corrections that investors in sound companies continue generating a return on their investment. This return is in the form of cash that is directly deposited in investors brokerage accounts every quarter. Investors following the four percent rule of dividend investing in retirement do not worry about whether market is up or down, because their dividend checks pay for their expenses. They are essentially getting paid to hold their dividend stocks.
As dividend investors however, we should be ready to embrace periods of time where stock prices decline. I view these as opportunities to add to my existing positions and to buy stock in companies which have always been overvalued before. After that, I just sit patiently while the companies execute their strategies and prosper, even if the stock market does not recognize that for years. As long as the fundamentals are sound, and as long as the dividend is not cut or eliminated, I will hold on to my dividend stocks.
For example, between 1972 and 1985 shares of Procter & Gamble (PG) were flat. The only return that investors realized came from dividends. The reason behind this underperformance was due to P&G stock being overvalued in 1972, yielding only 1.30%. By 1985, the dividend had increased by 233%, and the stock was yielding 4.30%. For original investors who held P&G stock at lower entry prices however, their yield on cost continued to increase despite the overall stagnation in stock prices. Despite the fact that the stock price was flat for 13 years, earnings were increasing, and therefore the business was becoming more valuable.
Unfortunately investors never learn, and by late 1999, Procter & Gamble (PG) was trading at $55, and yielded only 1.20%. The stock fell on negative news all the way to $27/share, and it took four years before the stock reached its year 2000 highs. The dividend had increased by over 50% during that time period. For investors who purchased Procter & Gamble stock in the 1980s however, they were already generating high yields on cost. This meant that the volatility in stock prices should not have scared them away, as their dividend incomes continued to increase. New funds should not have been added to their P&G positions at the time however.
Other notable dividend stock declines included the decrease in McDonald’s stock price between its 1999 high of $49/share and its 2003 lows at $13/share. This was caused by overvaluation in the stock, although investors kept receiving distributions during that period. Albeit, dividend yield was less than 1% at the time, so it probably didn’t deliver much in terms of returns to shareholders.
On the other hand, some attractively priced companies became even cheaper to buy during the financial crisis of 2007 – 2009. Shares of Johnson & Johnson (JNJ), Abbott (ABT) and McDonald’s (MCD), which provided shareholders with a rising stream of dividend income, were trading at even more attractive valuations. Investors were essentially paid to hold during this tumultuous period, and could have reinvested distributions at the low prices that existed. At the same time fundamentals were improving, and investors could sleep at night with these investments, despite the fact that it seemed as if the whole world was breaking apart.
To summarize, long term dividend investors should expect to see price volatility, even if the fundamentals of their income stocks are doing fantastically. As a result, it is important to have entry criteria which would deliver some sort of return even if fundamentals do not pan out as expected. In the case of Procter & Gamble in 1972, 1999 and 2007, despite the fact that fundamentals were solid, the company’s stock price was overpriced, which led to high volatility while new investors did not see much in terms of dividend yield. Same was the result for investors in Coca Cola (KO), Wal-Mart Stores (WMT) and McDonald’s (MCD) in 1999.
The subsequent improvements in stock valuations over time should have prompted investors to add or initiate positions in these stocks. For example, right after the crash in 1987, Warren Buffett began accumulating Coca Cola stock, and by the time he was done, he had an average cost of $3.2475/share. For long term investors such as Warren Buffett, the stream of dividend income kept increasing, his yield on cost kept going up, and he kept reinvesting it in more cash flow generating assets for his company Berkshire Hathaway.
Full Disclosure: Long KO, WMT, MCD, JNJ, ABT, PG
Relevant Articles:
- Check Out the complete Archive of Articles
- Buy and hold dividend investing is not dead
- Dividend income is more stable than capital gains
- Lower Entry Prices Mean Locking Higher Yields Today
Investors should focus on company fundamentals in order to profit in the long run. Focusing on long term business performance would be helpful if the investor takes the time to understand the business, and determine whether the company has a chance of growing earnings over time. If earnings are increasing, chances are that the market will reward the company’s stock with a higher price, and that the company will be able to reward its shareholders with higher dividends. At times stock prices get detached from fundamentals however, which is when the patience of dividend investors is tested. During stock market euphoria, investors who own dependable dividend stalwarts tend to feel out of sync with the rest of the market, as high growth stocks tend to deliver double digit returns easily. During market corrections however, these same growth stocks tend to give up almost all of their returns, and then some. It is during market corrections that investors in sound companies continue generating a return on their investment. This return is in the form of cash that is directly deposited in investors brokerage accounts every quarter. Investors following the four percent rule of dividend investing in retirement do not worry about whether market is up or down, because their dividend checks pay for their expenses. They are essentially getting paid to hold their dividend stocks.
As dividend investors however, we should be ready to embrace periods of time where stock prices decline. I view these as opportunities to add to my existing positions and to buy stock in companies which have always been overvalued before. After that, I just sit patiently while the companies execute their strategies and prosper, even if the stock market does not recognize that for years. As long as the fundamentals are sound, and as long as the dividend is not cut or eliminated, I will hold on to my dividend stocks.
For example, between 1972 and 1985 shares of Procter & Gamble (PG) were flat. The only return that investors realized came from dividends. The reason behind this underperformance was due to P&G stock being overvalued in 1972, yielding only 1.30%. By 1985, the dividend had increased by 233%, and the stock was yielding 4.30%. For original investors who held P&G stock at lower entry prices however, their yield on cost continued to increase despite the overall stagnation in stock prices. Despite the fact that the stock price was flat for 13 years, earnings were increasing, and therefore the business was becoming more valuable.
Unfortunately investors never learn, and by late 1999, Procter & Gamble (PG) was trading at $55, and yielded only 1.20%. The stock fell on negative news all the way to $27/share, and it took four years before the stock reached its year 2000 highs. The dividend had increased by over 50% during that time period. For investors who purchased Procter & Gamble stock in the 1980s however, they were already generating high yields on cost. This meant that the volatility in stock prices should not have scared them away, as their dividend incomes continued to increase. New funds should not have been added to their P&G positions at the time however.
Other notable dividend stock declines included the decrease in McDonald’s stock price between its 1999 high of $49/share and its 2003 lows at $13/share. This was caused by overvaluation in the stock, although investors kept receiving distributions during that period. Albeit, dividend yield was less than 1% at the time, so it probably didn’t deliver much in terms of returns to shareholders.
On the other hand, some attractively priced companies became even cheaper to buy during the financial crisis of 2007 – 2009. Shares of Johnson & Johnson (JNJ), Abbott (ABT) and McDonald’s (MCD), which provided shareholders with a rising stream of dividend income, were trading at even more attractive valuations. Investors were essentially paid to hold during this tumultuous period, and could have reinvested distributions at the low prices that existed. At the same time fundamentals were improving, and investors could sleep at night with these investments, despite the fact that it seemed as if the whole world was breaking apart.
To summarize, long term dividend investors should expect to see price volatility, even if the fundamentals of their income stocks are doing fantastically. As a result, it is important to have entry criteria which would deliver some sort of return even if fundamentals do not pan out as expected. In the case of Procter & Gamble in 1972, 1999 and 2007, despite the fact that fundamentals were solid, the company’s stock price was overpriced, which led to high volatility while new investors did not see much in terms of dividend yield. Same was the result for investors in Coca Cola (KO), Wal-Mart Stores (WMT) and McDonald’s (MCD) in 1999.
The subsequent improvements in stock valuations over time should have prompted investors to add or initiate positions in these stocks. For example, right after the crash in 1987, Warren Buffett began accumulating Coca Cola stock, and by the time he was done, he had an average cost of $3.2475/share. For long term investors such as Warren Buffett, the stream of dividend income kept increasing, his yield on cost kept going up, and he kept reinvesting it in more cash flow generating assets for his company Berkshire Hathaway.
Full Disclosure: Long KO, WMT, MCD, JNJ, ABT, PG
Relevant Articles:
- Check Out the complete Archive of Articles
- Buy and hold dividend investing is not dead
- Dividend income is more stable than capital gains
- Lower Entry Prices Mean Locking Higher Yields Today
Tuesday, July 16, 2013
How to Increase Current Yields with Master Limited Partnerships
As a buy and hold investor, I usually refrain from selling, unless there is something drastic like a dividend cut. Over the past year however, I have tried to sell some legacy positions, which either didn’t perform well or were overvalued with similar companies available at cheaper prices. The transaction I did last week was an example of this, as I replaced a position with other similar equities, without sacrificing quality.
Last week, I sold two-thirds of my position in Enterprise Product Partners (EPD). The units had reached a current yield of 4.30%, which was a little low for an MLP, even in the current low interest environment. Over the past five years, this partnership has managed to boost distributions by 5.70%/year. I believe EPD is a high quality partnership, which will likely produce very good distribution hikes over the next decade. However, I believe that there are better values out there in the MLP space. In general, despite low interest rates today, I do not find pass-through entities yielding 4% to be a good value, although they could be decent holds if no other opportunities along the quality curve are available.
The good thing about this transaction was that I was able to find values in the same sector, without sacrificing quality. I split the proceeds in three equal portions, and purchased the following securities:
The first lot was allocated to shares of Kinder Morgan Inc (KMI), which owns the general partnership interests in Kinder Morgan Partners (KMP) and El Paso Pipeline Partners (EPB). The company also owns limited partnership interests in KMP and EPB. As a general partner, Kinder Morgan Inc receives 50% of the distributions growth above a certain threshold. Therefore, because the underlying partnership has been growing over the past several years, Kinder Morgan Inc is expecting to be able to boost dividends in the low double digits for several years to come. Currently, the stock yields 3.90%.
One third was invested in Kinder Morgan Management LLC (KMR). Kinder Morgan Energy Partners has managed to boost distributions by 7.40%/year, over the past five years. In addition, the partnership is expecting very decent distributions growth over the next several years. However, instead of purchasing the partnership units (KMP), I invested in the LLC, which is treated like a corporation (KMR). Kinder Morgan Management LLC (KMR) owns units of Kinder Morgan Energy Partners (KMP). The LLC pays distributions in stock, which eliminates the taxable event in the eyes of the Internal Revenue Service. As a result, for investors in the accumulation stage, investing in Kinder Morgan Management LLC (KMR) is a better alternative to investing in Kinder Morgan Energy Partners (KMP). KMR has always traded at a discount to KMP, which should magnify total returns going forward. For every share of KMR, there is a partnership unit of KMP. The yield on Kinder Morgan Energy Partners is 5.90%.
The last portion was allocated to ONEOK Partners (OKS), which operates Natural Gas Gathering and Processing, Natural Gas Pipelines, and Natural Gas Liquids. The partnership has managed to boost distributions by 5.40% over the past five years. ONEOK Partners is undergoing a massive capital investment phase, which should result in much higher distribution growth over the next several years. Currently, the partnership yields 5.60%. Check my analysis of ONEOK Partners.
In essence, I view this swap as maintaining quality of ownership stakes by staying in the same sector, while achieving better yields and similar if not slightly better growth prospects.
My position in Enterprise Product Partners was initiated in the low 40s in 2011, and therefore by selling in the low to mid 60s, I am probably going to face decent sized capital gains hit. MLP distributions are usually tax-deferred, and they reduce your current basis. As a result, while you do not pay taxes on the majority of distributions during your holding period, you get to pay them when you sell. For example, if you bought EPD at $40/unit in 2011, and received $6.27 in distributions over the next 2 years, your cost basis would have been reduced to approximately $33.73/unit. Therefore, if you sold at $63.73/unit, you would owe taxes on $30/unit, not $23.73/unit.
The goal of successful investment is to identify great companies, which can provide promising returns through distributions and capital gains. Tax considerations should come secondary for investors. If you do not like something about a position, and the only reason you are not selling is because of the potential tax hit you would take, then you are asking for trouble. If you are correct about the negative investment outcome and do not do anything about it, you would be able to deduct your losses later on, before you move on.
Overall, I replaced an equity stake that grows at 5.7% and yields 4.30%, with three ownership stakes that deliver a better current yield in total. In addition, the new stakes will be able to generate a higher growth in distributions over the next few years.
Full Disclosure: Long EPD, KMI, KMR, OKS
Relevant Articles:
- Check Out the complete Archive of Articles
- Enterprise Products Partners (EPD): A Pipeline Cash Machine
- ONEOK Partners (OKS) Dividend Stock Analysis
- Kinder Morgan Partners (KMP) for High Yield and Solid Distributions Growth
- Kinder Morgan Partners – One Company three ways to invest in it
Last week, I sold two-thirds of my position in Enterprise Product Partners (EPD). The units had reached a current yield of 4.30%, which was a little low for an MLP, even in the current low interest environment. Over the past five years, this partnership has managed to boost distributions by 5.70%/year. I believe EPD is a high quality partnership, which will likely produce very good distribution hikes over the next decade. However, I believe that there are better values out there in the MLP space. In general, despite low interest rates today, I do not find pass-through entities yielding 4% to be a good value, although they could be decent holds if no other opportunities along the quality curve are available.
The good thing about this transaction was that I was able to find values in the same sector, without sacrificing quality. I split the proceeds in three equal portions, and purchased the following securities:
The first lot was allocated to shares of Kinder Morgan Inc (KMI), which owns the general partnership interests in Kinder Morgan Partners (KMP) and El Paso Pipeline Partners (EPB). The company also owns limited partnership interests in KMP and EPB. As a general partner, Kinder Morgan Inc receives 50% of the distributions growth above a certain threshold. Therefore, because the underlying partnership has been growing over the past several years, Kinder Morgan Inc is expecting to be able to boost dividends in the low double digits for several years to come. Currently, the stock yields 3.90%.
One third was invested in Kinder Morgan Management LLC (KMR). Kinder Morgan Energy Partners has managed to boost distributions by 7.40%/year, over the past five years. In addition, the partnership is expecting very decent distributions growth over the next several years. However, instead of purchasing the partnership units (KMP), I invested in the LLC, which is treated like a corporation (KMR). Kinder Morgan Management LLC (KMR) owns units of Kinder Morgan Energy Partners (KMP). The LLC pays distributions in stock, which eliminates the taxable event in the eyes of the Internal Revenue Service. As a result, for investors in the accumulation stage, investing in Kinder Morgan Management LLC (KMR) is a better alternative to investing in Kinder Morgan Energy Partners (KMP). KMR has always traded at a discount to KMP, which should magnify total returns going forward. For every share of KMR, there is a partnership unit of KMP. The yield on Kinder Morgan Energy Partners is 5.90%.
The last portion was allocated to ONEOK Partners (OKS), which operates Natural Gas Gathering and Processing, Natural Gas Pipelines, and Natural Gas Liquids. The partnership has managed to boost distributions by 5.40% over the past five years. ONEOK Partners is undergoing a massive capital investment phase, which should result in much higher distribution growth over the next several years. Currently, the partnership yields 5.60%. Check my analysis of ONEOK Partners.
In essence, I view this swap as maintaining quality of ownership stakes by staying in the same sector, while achieving better yields and similar if not slightly better growth prospects.
My position in Enterprise Product Partners was initiated in the low 40s in 2011, and therefore by selling in the low to mid 60s, I am probably going to face decent sized capital gains hit. MLP distributions are usually tax-deferred, and they reduce your current basis. As a result, while you do not pay taxes on the majority of distributions during your holding period, you get to pay them when you sell. For example, if you bought EPD at $40/unit in 2011, and received $6.27 in distributions over the next 2 years, your cost basis would have been reduced to approximately $33.73/unit. Therefore, if you sold at $63.73/unit, you would owe taxes on $30/unit, not $23.73/unit.
The goal of successful investment is to identify great companies, which can provide promising returns through distributions and capital gains. Tax considerations should come secondary for investors. If you do not like something about a position, and the only reason you are not selling is because of the potential tax hit you would take, then you are asking for trouble. If you are correct about the negative investment outcome and do not do anything about it, you would be able to deduct your losses later on, before you move on.
Overall, I replaced an equity stake that grows at 5.7% and yields 4.30%, with three ownership stakes that deliver a better current yield in total. In addition, the new stakes will be able to generate a higher growth in distributions over the next few years.
Full Disclosure: Long EPD, KMI, KMR, OKS
Relevant Articles:
- Check Out the complete Archive of Articles
- Enterprise Products Partners (EPD): A Pipeline Cash Machine
- ONEOK Partners (OKS) Dividend Stock Analysis
- Kinder Morgan Partners (KMP) for High Yield and Solid Distributions Growth
- Kinder Morgan Partners – One Company three ways to invest in it
Monday, July 15, 2013
Six Slow & Steady Dividend Achievers Boosting Distributions
Dividend growth stocks are the gift the keeps on giving. If you have had the fortitude to identify, analyze and purchase a portfolio of at least 30 individual income stocks, you should be able to enjoy a rising stream of dividend income over time. Whether you reinvest your distributions or decide to spend them, you will be able to generate dividends for many years, from a simple idea that occurred to you several decades prior. In order to achieve maximum results however, you need to purchase shares at attractive entry price, then diversify and reinvest dividends in the best values, rather than automatically.
Over the past week, several dividend growth companies announced their intention to boost distributions to their shareholders:
Walgreen Co. (WAG), together with its subsidiaries, operates a network of drugstores in the United States. The company increased its quarterly dividend by 14.50% to 31.50 cents/share. This marked the 38th consecutive annual dividend increase for this dividend champion. Over the past decade, Walgreen has managed to boost distributions by 21.20%/year. Currently, the stock is trading at 21.33 times earnings and yields 2.60%. I would consider adding to my position on dips below 20 times earnings. Check my analysis of Walgreen.
Enterprise Products Partners L.P. (EPD) provides midstream energy services to producers and consumers of natural gas, natural gas liquids (NGLs), crude oil, refined products, and petrochemicals in the United States and internationally. The partnership increased its quarterly distribution to 68 cents/unit. This marked the 16th consecutive annual dividend increase for this dividend achiever. Over the past decade, Enterprise Products Partners has managed to boost distributions by 6.70%/year. Currently, the partnership yields 4.20%. I recently sold 2/3 of my position in the partnership, because I found it to be overvalued. Check my analysis of Enterprise Products Partners.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. The company increased its quarterly dividend by 4.50% to 69 cents/share. This marked the 12th consecutive annual dividend increase for this dividend achiever. Over the past decade, ConocoPhillips has managed to boost distributions by 15.10%/year. Currently, the stock is trading at 10.50 times earnings and yields 4.20%. This is one of the few types of stocks that are undervalued in today’s market. Check my analysis of ConocoPhillips.
Genesis Energy, L.P. (GEL) operates in the midstream segment of the oil and gas industry in the Gulf Coast region of the United States. This master limited partnership increased its quarterly dividend to 51 cents/unit. This marked the 10th consecutive annual dividend increase for this dividend achiever. Over the past decade, Genesis Energy has managed to boost distributions by 8.60%/year. Currently, the partnership yields 3.80%. I largely believe that investors who get a current yield of less than 4% today from pass-through entities such as Genesis Energy or Plains All American Pipeline are generally way too optimistic, despite low current interest rates. Their funds might be better invested elsewhere.
Plains All American Pipeline, L.P. (PAA), through its subsidiaries, engages in the transportation, storage, terminalling, and marketing of crude oil and refined products in the United States and Canada. The partnership increased its quarterly distributions to 58.75 cents/unit. This marked the 13th consecutive annual dividend increase for this dividend achiever. Over the past decade, Plains All American Pipeline has managed to boost distributions by 7.20%/year. Currently, the partnership yields 4.30%.
Cummins Inc. (CMI) designs, manufactures, distributes, and services diesel and natural gas engines, and engine-related component products. The company increased its quarterly dividend by 25% to 62.50 cents/share. This marked the 8 consecutive annual dividend increase for the company. Over the past decade, Cummins has managed to boost distributions by 19.60%/year. Currently, the stock is trading at 14.80 times earnings and yields 2.20%. The company looks interesting, and I would put it on my list for future analyses.
Full Disclosure: Long WAG, EPD, COP
Relevant Articles:
- Check Out the complete Archive of Articles
- Dividend Champions - The Best List for Dividend Investors
- Enterprise Products Partners (EPD): A Pipeline Cash Machine
- Master Limited Partnerships (MLPs) – an island of opportunity for dividend investors
- Walgreen (WAG) Dividend Stock Analysis 2012
Over the past week, several dividend growth companies announced their intention to boost distributions to their shareholders:
Walgreen Co. (WAG), together with its subsidiaries, operates a network of drugstores in the United States. The company increased its quarterly dividend by 14.50% to 31.50 cents/share. This marked the 38th consecutive annual dividend increase for this dividend champion. Over the past decade, Walgreen has managed to boost distributions by 21.20%/year. Currently, the stock is trading at 21.33 times earnings and yields 2.60%. I would consider adding to my position on dips below 20 times earnings. Check my analysis of Walgreen.
Enterprise Products Partners L.P. (EPD) provides midstream energy services to producers and consumers of natural gas, natural gas liquids (NGLs), crude oil, refined products, and petrochemicals in the United States and internationally. The partnership increased its quarterly distribution to 68 cents/unit. This marked the 16th consecutive annual dividend increase for this dividend achiever. Over the past decade, Enterprise Products Partners has managed to boost distributions by 6.70%/year. Currently, the partnership yields 4.20%. I recently sold 2/3 of my position in the partnership, because I found it to be overvalued. Check my analysis of Enterprise Products Partners.
ConocoPhillips (COP) explores for, produces, transports, and markets crude oil, bitumen, natural gas, liquefied natural gas, and natural gas liquids on a worldwide basis. The company increased its quarterly dividend by 4.50% to 69 cents/share. This marked the 12th consecutive annual dividend increase for this dividend achiever. Over the past decade, ConocoPhillips has managed to boost distributions by 15.10%/year. Currently, the stock is trading at 10.50 times earnings and yields 4.20%. This is one of the few types of stocks that are undervalued in today’s market. Check my analysis of ConocoPhillips.
Genesis Energy, L.P. (GEL) operates in the midstream segment of the oil and gas industry in the Gulf Coast region of the United States. This master limited partnership increased its quarterly dividend to 51 cents/unit. This marked the 10th consecutive annual dividend increase for this dividend achiever. Over the past decade, Genesis Energy has managed to boost distributions by 8.60%/year. Currently, the partnership yields 3.80%. I largely believe that investors who get a current yield of less than 4% today from pass-through entities such as Genesis Energy or Plains All American Pipeline are generally way too optimistic, despite low current interest rates. Their funds might be better invested elsewhere.
Plains All American Pipeline, L.P. (PAA), through its subsidiaries, engages in the transportation, storage, terminalling, and marketing of crude oil and refined products in the United States and Canada. The partnership increased its quarterly distributions to 58.75 cents/unit. This marked the 13th consecutive annual dividend increase for this dividend achiever. Over the past decade, Plains All American Pipeline has managed to boost distributions by 7.20%/year. Currently, the partnership yields 4.30%.
Cummins Inc. (CMI) designs, manufactures, distributes, and services diesel and natural gas engines, and engine-related component products. The company increased its quarterly dividend by 25% to 62.50 cents/share. This marked the 8 consecutive annual dividend increase for the company. Over the past decade, Cummins has managed to boost distributions by 19.60%/year. Currently, the stock is trading at 14.80 times earnings and yields 2.20%. The company looks interesting, and I would put it on my list for future analyses.
Full Disclosure: Long WAG, EPD, COP
Relevant Articles:
- Check Out the complete Archive of Articles
- Dividend Champions - The Best List for Dividend Investors
- Enterprise Products Partners (EPD): A Pipeline Cash Machine
- Master Limited Partnerships (MLPs) – an island of opportunity for dividend investors
- Walgreen (WAG) Dividend Stock Analysis 2012