Safe Dividend Payers
Since no one can predict when the market
will recover, pundits are advising buying dividend-paying stocks on the
premise that you will be getting “paid to wait.” That’s good advice as
long as you pick stocks that continue paying dividends at current
levels. And that’s the rub.
Because the corporate and commercial real
estate credit markets are still locked up, many firms with debt coming
due this year are slashing their dividend payouts to conserve cash.
Here’s a strategy for finding stocks that
won’t have that problem because they don’t owe anybody anything. Last
week, I used Google’s new user-friendly stock screener to find five such
no-debt, dividend-paying stocks. You can run your own screen (search)
today. Here’s how.
From Google Finance (finance.google.com),
click on the “stock
screener” link. Google displays a default screening program using
four of the 60 or so available criteria (selection choices). You’ll need
the Market-Cap and Dividend Yield criteria. Delete the other two by
clicking the “X” on the right of each criterion description. Click the
“add criteria” link to see the menu of available search terms.
We’ll start with the most important,
No Debt – No Problem
The debt/equity ratio, which compares debt to shareholders equity
(assets minus liabilities), is the most widely used financial strength
measure. A zero ratio indicates no debt, and the higher the ratio, the
higher the debt. Because accounting rules require long-term lease
obligations to be counted as debt, many nominally no-debt firms will
have D/E ratios as high as 0.1 reflecting lease obligations.
Use the “total debt to equity ratio,” which
compares the total of short- and long-term debt to shareholders equity
and specify the most recent figure (recent quarter). We want to set the
maximum allowable total D/E ratio at 0.1. However, Google throws us a
curve here. Unlike all other sites, Google expresses as D/E as a
percentage. So, to limit the D/E ratio to 0.1, on Google, you must
specify a maximum 10 percent total debt/equity ratio
Next, we’ll pinpoint no-debt firms paying
Dividend yield is the return you’d receive on your initial investment
from dividends over the next 12 months assuming that the dividend
It’s calculated by dividing the next
12-months’ expected payouts by the price you pay for the shares. For
example, the yield would be 10 percent if you paid $10 per share for a
stock expected to pay dividends totaling $1 over the next year. We’re
going to specify both minimum and maximum acceptable yields.
I set my minimum dividend yield at 3.5
percent, more than you can get from a bank these days. Since I
arbitrarily picked that figure, try raising or lowering it to suit your
Because yields go up when share prices
drop, many stocks appear to be paying double-digit yields.
Unfortunately, those high expected yields signal concerns that a
dividend cut is on the way. Whether or not those fears turn out to be
valid, double-digit expected yields signal high risk, the last thing we
need is this market. Consequently, I set my maximum allowable dividend
yield at 9.9 percent.
On the topic of risk, we’ll add four more
selection criteria to reduce risk.
Company size is an important risk factor. The bigger the company, the
more likely that the firm has the product diversity, experience, and
financial wherewithal to survive a tough economy.
Most experts use market capitalization,
which is how much you’d have to shell out to buy all of the outstanding
shares, to measure company size. Market-caps below $1 billion define
small-caps, firms with market-caps above $10 billion are large caps, and
those in-between are mid-caps.
To minimize risk, I rule out small-cap
stocks by requiring a minimum $1 billion market-cap (specify minimum
market-cap as 1B).
Follow Smart Money
Because they generate huge trading commissions, mutual funds and other
institutional buyers have better access to stock moving information than
individual investors. Thus, if they don’t own a stock, you shouldn’t
either. Institutional ownership, the percentage
of a firm’s shares held by these big players, ranges from 40 percent to
95 percent for in-favor stocks. I specified a minimum 40 percent
Not Too Cheap
Low trading prices signal stocks that are out-of-favor with most
investors. Thus, although the market could get it wrong, low trading
prices reflect high risk. For that reason, institutional investors
typically avoid stocks trading below $15. However, given current
conditions, I set my minimum allowable trading price (last price) at
Profitability ratios measure how efficiently a firm uses its assets to
generate earnings. The more profitable the company, the more cash it
generates to grow its business. Return on equity (net income divided by
shareholders equity) is the most widely followed profitability ratio.
Many professional money managers avoid stocks with ROEs below 15
percent. Since this year has been a dud, I took a longer view and
specified a minimum 15 percent five-year average return on equity.
My screen turned up five stocks. Two, Analog Devices and Intel, are
semiconductor chipmakers, however, they address different markets.
Patterson-UTI Energy provides oil and natural gas drilling services, a
beaten-down sector that isn’t going away. Paychex provides payroll
services to small and mid-sized businesses and Zenith National Insurance
offers workman’s compensation insurance.
As always, a simple screen
can’t encompass everything that you need to know about a stock. So
consider the results a list of research candidates, not a buy list.