Comparing Two Dividend Strategies: Redux

Two years ago, we created a dividend watch list and compared that list to the one created by Scott’s Investments at around the same period of time.  Both stock lists were generated after the close of market on Friday October 8, 2010 and before the stock market opened on Monday October 11, 2010.  A month and a half after the lists were created, we submitted an article titled “Comparing Two Dividend Strategies” in which we compared the relative performance of both lists.  The stock list created by Scott’s Investments was focused on companies that had dividend yields of 4% or greater.  The stock list that we created had a focus on companies that have had a dividend increasing policy of ten years or more and were within 20% of their respective 52-week low.

Understandably, some argued that it was disingenuous to compare two stocks lists after such a short period of time.  For this reason, we are presenting the performance of the same two lists to see if there are any nuances or changes that we need to make in our initial assessment about the performance of the stock lists created on the weekend of October 8, 2010.

As was done in our November 17, 2010 article comparing both stock lists, we will compare the top eleven companies on the New Low Observer list (found here) to the eleven companies that were provided by Scott’s Investments in the article titled “11 High Yield stocks Worth Considering Now.” The comparison of the two lists will cover the period from October 8, 2010 to October 5, 2012 based on capital appreciation for the purpose of comparing to the S&P 500, Nasdaq 100 and Dow Jones Industrial Average.  Additionally, we will provide to the total return of both lists to determine which approach yielded the most favorable returns.

The first list that we’ll review is Scott’s Investments with the following 11 companies:

Symbol Name 10/8/2010 10/5/2012 Cap. Appr. total return
(Q) Qwest Inc. (acquired) 6.34 6.02 -5.05% -5.05%
(MO) Altria Group Inc. 22.77 34 49.32% 55.18%
(FTR) Frontier Communications 7.4 4.77 -35.54% -30.67%
(PGN) Progress Energy Inc. (acquired) 42.28 47.48 12.30% 12.30%
(POM) Pepco Holdings, Inc. 17.8 19.37 8.82% 13.47%
(WIN) Windstream Corporation 11.01 10.17 -7.63% -0.97%
(CTL) CenturyLink, Inc. 36.32 39.82 9.64% 15.72%
(SO) Southern Company 35.54 45.97 29.35% 33.48%
(TEG) Integrys Energy Group, Inc. 49.55 55.2 11.40% 15.65%
(CNP) CenterPoint Energy, Inc. 15.23 21.41 40.58% 44.96%
(HCP) HCP, Inc. 34.02 45.51 33.77% 38.50%
average return 13.36% 17.51%

The standout performers from the Scott’s Investments list were Altria Group (MO) with a total return of +55.18% and CenterPoint Energy (CNP) with a gain of +44.96%.  Both stocks exceeded the returns of the Nasdaq 100 in the same period of time indicating that even dividend stocks can generate the high returns necessary beat even the majority of the top high growth stocks.  The stocks that underperformed were Frontier Communications (FTR) which lost –30.67%, Qwest Inc. (Q) with a loss of –5.05% and Windstream Corp. (WIN) with a loss of –0.97%.  The recurrent theme of rural and non-traditional telecommunication companies suggests the hard times that these companies may have had since October 2010.

The average return of Scott’s Investments list based on capital appreciation was +13.36% and +17.51% on a total return basis.  This compares to the Dow Jones Industrial Average rising +23.66% and the S&P 500 index returning  +25.39%, on a capital appreciation basis.

The next list is the New Low Observer with the following companies:

Symbol Name 10/8/2010 10/5/2012 Cap. Appr. total return
(CL) Colgate-Palmolive Co. 71.95 108.45 50.73% 52.57%
(CAG) ConAgra Foods, Inc. 20.85 27.79 33.29% 37.17%
(NTRS) Northern Trust Corp.  46.84 47.35 1.09% 3.14%
(WST) West Pharmaceutical 34.22 53.73 57.01% 58.31%
(BBT) BB&T Corp. 22.71 33.64 48.13% 50.92%
(MDT) Medtronic 32.39 44.67 37.91% 40.52%
(BEC) Beckman Coulter (acquired) 47.78 83.5 74.76% 74.76%
(SBSI) Southside Bancshares  17.86 21.91 22.68% 33.52%
(USB) U.S. BanCorp. 21.84 34.92 59.89% 62.87%
(WAFD) Washington Federal  14.95 16.72 11.84% 12.90%
(FUL) HB Fuller Company 19.96 30.77 54.16% 55.40%
average return 41.04% 43.82%

The top performing stocks on a total return basis were Beckman Coulter (BEC) with +74.76%, U.S. Bancorp. (USB) with +62.87% and West Pharmaceutical (WST) with 58.31%.  The worst performing stocks were Northern Trust (NTRS) at +3.14%  and Washington Federal (WAFD) at +12.90%.

The average return of the New Low Observer list of stocks based on capital appreciation was +41.04% and +43.82% on a total return basis.  The average return of the New Low Observer list of stocks exceeded the return of the Nasdaq 100 (QQQ), Dow Industrials (DIA) and S&P 500 (SPY) by +2.32%, +17,38% and +15.65%, respectively.

A very important distinction is that Scott’s Investments was indicated to be for the purposes of trading and not necessarily to be held for the long-term.  Conceivably, the list by Scott’s Investments could have been bought and sold at substantial gains already.  However, as the title of the article highlighted high yield stocks, we believe that there was an implied need to hold the stocks for an extended period of time in order to achieve the maximum benefit.  With the aforementioned thoughts in mind, special attention should be directed to the total returns of the stocks with high yields as compared to the low yield dividend stocks on the New Low Observer list.

The high yield stocks, although sporting an average yield of 6.25% at the time the article was published, generated at total return that was less than half that of the New Low Observer list with an average yield of 2.31%. It wasn’t as if the companies on Scott’s Investments list were considerably better or worse than those on the New Low Observer list.  However, from our work on the topic, high yielding stocks typically result in lower average returns especially when examined over longer periods of time.

This concept of high yielding stocks generating lower returns presents a challenge because some investors have no choice but to seek out high yield investments to meet their immediate financial needs.  However, without a strict criteria for choosing high yield investments, some stocks offer the siren song of mediocre total returns.  In addition, the longevity of the high yield can be compromised due to excessive payout ratios and detrimental borrowing simply for the purpose of sustaining a high dividend yield.  Alternatively, low yield stocks can generate high quality total returns that warrant a second look, as long as the immediate need for substantial income is not the goal.

The primary purpose of examining any stock list is to isolate outstanding strategies that can be easily replicated and applied.  Because successful investing hinges on time and total return, it becomes essential for new and seasoned investors to understand the strategies that work consistently as early as possible, in order to increase total return.  We believe that the success of great investors like Warren Buffett, Peter Lynch, John Templeton and Shelby Collum Davis lies not only in the strategy that they employed but how early they were able to recognize the strength of such an investment approach.

As this examination attempts to demonstrate, choosing stocks that have a history of dividend increases and near a new 52-week low provides a superior starting point for investors who are not in need of immediate income. Additionally, those who seek stocks that have high yields need to accept the potential trade-off of lower total returns.

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