Is it income, growth or both that investors should be chasing in 2010?
With the market continuing to track sideways – despite better earnings by many stocks this reporting season 2010 could be shaping up to be the year of the income investor, according to Elio D’Amato, CEO of Lincoln Indicators.
Given price-per-share eventually follows when earning-per-share (EPS) goes up, he says the market’s current confusion between value and price creates opportunities for investors to pick up bargains. “There’s currently plenty of opportunity for investors to look for stocks paying more than bank interest, and for self managed super funds (SMSF) in pension phase,” advises D’Amato.
With banks currently offering a risk-free rate of 6 percent, D’Amato says income investors can receive up to 15 percent in grossed-up dividends. And with earnings-per-share expected to rise between 8 to 10 percent this year, he says capital growth is a more likely proposition than in 2009 when earnings nose-dived 22 percent.
He says the improving environment for income is due to companies choosing to reward shareholders by lifting dividend payouts and consequently delivering higher yields. It’s a time when improved profits don’t necessarily equate to a higher share price.
Given that capital preservation is expected to deliver an across-the-board 4.2 percent fall in dividend-per-share payments for the full year – and by 32 and 9 percent in property and resources sectors respectively – D’Amato says the decision by some stocks to increase payout ratios should encourage investors to take a position. Classic examples so far this reporting season include pin-up stock JB Hi-Fi (JBH), which despite delivering a 29 percent increase in interim net profit was punished firstly for failing to exceed analysts’ expectations, and secondly due to the sudden departure of founding CEO Richard Uechtritz.
At 18 cents, versus a 15 cent dividend in March, the retailer effectively increased its rate-of-return per share by 120 percent. Macquarie Bank received similar treatment with the market selling it down 6.5 percent, despite confirmation that second half profit could be 10 percent higher. Similarly, Shares in GUD Holdings (GUD) dropped six cents, despite increasing its first-half profit by 46.4 percent, and grossed-up dividend to 9.6 percent.
While investors typically have a four day window to get onto the register, GUD has provided an ex-dividend date as far out as 10 March. But the trap for many would-be shareholders, says Colin Campbell, investment advisor with Wilson HTM Investment Group is either not knowing when a stock is going ex-dividend or paying beyond fair price for its income component. He suspects only one in five investors realise that buying any stock expressly to receive franking credits means having to hold that stock for a minimum of 45 days.
Assuming investors subscribe to the view that the market will continue trending sideways, D’Amato suggests investors look out for stocks where the share price has been punished for delivering on, but not exceeding, market expectations. Then there are those that could also surprise the market with larger or one-off payments following better than expected earnings or surplus cash.
While Westfield Holdings (WSF), Stockland (SGP), GPT Group (GPT) and Goodman Group (GMG) are among property stocks likely to lower their dividends, some majors have already hinted at increased interim dividends on the back of earnings upgrades. These include Commonwealth Bank of Australia (CBA), BHP Billiton (BHP), Rio Tonto (RIO), and Wesfarmers (WES).
According to Campbell, CBA’s decision to lift its interim dividend six percent on the prior corresponding period – following the razor it took to its full year dividend last year – could be a proxy for what the other three big banks will do when they report. Some analysts are already forecasting an 8 percent rise in dividends-per-share by banking sector stocks with 30 June balance dates. There’s also growing speculation that the surplus capital acquired by some stocks, like QBE, Suncorp (SUN), Insurance Group Australia (IAG), Woolworths (WOW) and Premier Investments (PMV) could be returned to shareholders via special dividends later this year.
Other stocks still trading well off their highs, yet continuing to pay higher dividends include: Telstra (TLS) on 12 percent – with Tabcorp Holdings (TAH) and Tatts Group (TTS) paying grossed-up dividend yields of 9.1 percent and 12.5 respectively. Regarded by D’Amato as the market’s best income stock, Telstra’s fully franked dividends are forecast to total 29.10 cents-per-share (cps) in the year to June 2010 and 31 cps in 2011.
Despite regulatory risk, D’Amato believes that the market value of the sum of Telstra’s parts may be greater than the price of the whole (at current prices) and given the flexibility promised by the government in a structural separation. “But if you bought a stock for income and the dividend is no longer attractive, you’ve got to decide whether it’s still worth holding,” says D’Amato.
Telstra aside, Campbell says the underlying danger for investors is that the fortunes for income plays can unexpectedly fall along with a sector, and cites gaming stocks as a classic example. “Dividends in Tabcorp and Tatts could drop significantly after 2012 when these stocks lose their Victorian licenses – unless these cash flows can be replaced.”
But with balance sheets back to reasonable levels, Campbell also favours defensive utility stocks such as Spark Infrastructure Group (SKI) and SP Ausnet (SBN) – offering grossed-up yields of 10.6 percent and 11.3 percent respectively. With dividends per share expected to grow between 15 to 25 percent in 2011, Campbell also warns investors not to be fixated on the short-term when it comes to growth and income.
Stocks that he expects to offer a good mix of income and capital growth upside over a one to two year horizon include Asciano (AIO), Toll Holdings (TOL), One Steel (OST), Coca Cola Amatil (CCL), Goodman Fielder (GFF), Fosters (FGL) plus two of last year’s outperformers: JB Hi-Fi and David Jones (DJS). When factoring in dividends for these latter two of 2.31 and 6.07 percent, they delivered total returns of 91.80 percent and 111.68 percent respectively.
Interestingly, some of D’Amato’s preferred growth picks for 2010 have also paid attractive grossed-up dividends: Monadelphous Group (MDN) 8.2 percent, Woolworths 6.2 percent, Reckon Ltd (RKN) 4.7 percent, Wotif.com Holdings (WTF) 3.5 percent, and microcap North Queensland Metals which having delivered 150 percent EPS growth in 2009 paid maiden interim and final dividends totalling 1.8 cps.
Top 10 performing stocks that also paid dividends
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