I recently had an interesting discussion on SeekingAlpha on the wiseness of investing on low-growth, high-yield investments, specifically in the telecom sector. An author I highly respect, “Regarded Solutions”, recently posted an article about his decision to add to his position in AT&T. Apparently, T missed earnings estimates by a single penny, and the stock price dropped by a dollar as a result. The author decided that provided a rare sale price and chose to buy. I commented that I wasn’t sure that was a good idea due to the anemic share price and dividend growth. Another commenter, Doug Meeks, posted something that I found very interesting:
Yes, T is a slow grower, but your [sic] dang near at the top of the ladder already and many people are transitioning to DGI from retirement plans (401K) and looking for current income. T is a critical part of that formula for me and all my clients needing current income.
It made me wonder, am I wrong for thinking the way I do? Should I be willing to sacrifice some growth for high income, especially because I want to retire sooner rather than later? Let’s take a look at two popular telecoms, T and VZ, just to see what happens. I’ll skip the hardcore analysis, and just look at the basic numbers. As always, data is from FAST Graphs and David Fish’s US Dividend Champions List. My screening criteria is here.
AT&T Inc (T)
- Pays a dividend: Yes
- Has 5+ years of dividend increases: Yes (30 years)
- Has not frozen dividend for over 8 quarters: Yes
- Has a Chowder number of 12 or more: No (7.8)
- Has am EPS payout ratio of less than 70%: Yes (54.12%)
- Pays a dividend monthly or quarterly: Yes (Quarterly; January, April, July, October)
- Has an S&P Quality Ranking of ‘A-‘ or better: No (B+)
- Has generally increasing earnings over the past 10 years: Yes
- Is fairly valued/undervalued according to the Normal P/E ratio (blue line): Yes
- Is fairly valued/undervalued according to the Intrinsic P/E ratio (orange line): Yes
Verizon Communications Inc (VZ)
- Pays a dividend: Yes
- Has 5+ years of dividend increases: Yes (10 years)
- Has not frozen dividend for over 8 quarters: Yes
- Has a Chowder number of 12 or more: No (8.0)
- Has am EPS payout ratio of less than 70%: Yes (46.71%)
- Pays a dividend monthly or quarterly: Yes (Quarterly; January, April, July, October)
- Has an S&P Quality Ranking of ‘A-‘ or better: No (B)
- Has generally increasing earnings over the past 10 years: No
- Is fairly valued/undervalued according to the Normal P/E ratio (blue line): Yes
- Is fairly valued/undervalued according to the Intrinsic P/E ratio (orange line): Yes
Looking Deeper:
We could call it a day right here. T fails two criteria, and VZ fails three. I’m generally not willing to waive more than one criterion for each stock. As a result, I’m not interesting in buying. But that doesn’t really answer my question. T, VZ, and other telecoms aren’t really “dividend growth stocks” in any real sense. The price won’t double easily, and the dividend payout isn’t going to increase drastically. They’re slow and steady growers. Really, they’re bond substitutes, if anything. They’re certainly safe investments. Value Line has a safety rating of ‘1’ for both stocks, the highest rating possible. So it’s not like you’re going to lose a lot of money by buying them. Is it possible that my criteria is inadequate for telecoms? Should I revise my criteria to account for what we see above?
But let’s take a quick step back first. What I’m really concerned with is keeping up with inflation. As most of you are aware, if the growth of our dividend income doesn’t increase with inflation, Bad Things happen. If we’re lucky, we have to adjust to the reduced purchasing power of our dollars, sacrificing our quality of life. Worst case, our income doesn’t keep up even then, and we have to go back to the workforce. A fate worse than death, right? Well, let’s see if investing in companies like T and VZ increase or reduce that risk.
According to FAST Graphs, VZ’s annualized rate of return is 2.8% without dividend reinvestment, and 4.5% with. T’s is 0.9% without, 2.4% with. Given that the average inflation rate over the past 100 years is 3.22%, we can see that an investment in T will not keep up with inflation. And if we stop DRIPing in order to use the dividend income, the situation looks even worse. VZ is better; at least it actually exceeds inflation when DRIPing. But without, we get the same result.
Honestly, I feel my criteria are fine. The Chowder rule ensures I’m getting the dividend growth and income I need. The quality metrics ensure that my dividend income isn’t threatened. And the valuation ensures that I’m not overpaying for my income source. All told, my criteria serve to protect me from the very thing I fear most in retirement: loss of purchasing power and being forced to work again. If my criteria say not to invest into the telecom industry, then I will listen.
But honestly, at the end of the day, I’m not really sure there is a clear “right” or “wrong” for this. It all depends when you need the income and what you’re willing to sacrifice to get it. In his comment, Doug said that “[i]nvestors with longer time frames should lean toward faster growth.” Well, that’s what I’m going to do. I’m young, I have time. I don’t feel the high current income is worth what I lose in dividend growth and potential capital appreciation. I feel that if I invest in the telecom sector, my early retirement will be in danger. Maybe not this year, maybe not the next. But over the decades, it’s a real concern.
As a result, I won’t be looking at investing in the telecom sector any time soon. Maybe that’ll change when I get very close to retirement, but for now, nope. The telecom industry isn’t for me.
What do you think? Would you choose high income at the expense of growth? Do you own telecom stocks or other higher-yield, lower-growth investments?
Disclosure: None.
All data is accurate as of market close, 10/25/2014. Image source is available here. Data source is FAST Graphs, unless otherwise indicated.
17 Comments
Interesting take, DD. I try not to put all my eggs in one basket…while I do try to lean to one side or other if I feel strongly about growth in one investment vs the other. My best argument will be to hedge with some of my portfolio in some of these stocks. I do like the high income that I can currently get as opposed to the promise of income later with dividend growth.
While telecom almost behaves a bit like utilities, they arent as closely regulated, and have the potential for commanding higher fees for usage from consumers. As we get more and more “plugged-in”, the connectivity providers will have a lot of weight to push around as time goes by. For that reason alone, I like owning them. Heres an article I wrote a few months ago making the case for data pipe providers.
http://seekingalpha.com/article/2213513-the-bright-future-of-data-pipes
I like visualizations..so, I put this up a few months ago. I would like to see a good distribution across the field….some high-income-and-low-growth, some medium-income-and-medium-growth and some low-income-and-high-growth.
http://roadmap2retire.com/2014/02/dividend-yield-vs-dividend-growth/#sthash.pXFwM0Jg.dpbs
My $0.02
R2R
Roadmap2Retire recently posted…Chatter Around the World – 67
Thanks for your input! Make sense that you want to balance your portfolio a bit between income and growth. Maybe it’s a mindset thing, but I don’t feel high income/low growth is worth it for me right now. But if it works for you, great!
DD,
I don’t think there is any “right” or “wrong” when it comes to investments, simply what makes sense for you and your goals. And due to a variety of factors – your youth being a rather large factor – these probably don’t make sense for you.
I’m personally so-so on telecoms. I like the substantial current income they provide, which allows plenty of dividend income hitting my pocket with which I can redeploy as I see fit. However, their growth opportunities are somewhat limited, which speaks to their lackluster dividend raises. I don’t anticipate either one to start growing their dividends any faster in the future than they have done in the past, especially with VZ and the debt load.
Telecoms have a small place in my portfolio, but I’m purposely limiting them quite a bit. I look at them like utilities. Great income now, decent valuations, but really not much growth to be had. For someone with a 20-40 year investment horizon, these might not make a lot of sense. However, I’m trying to achieve FI in less than 10 years, so I need a bit more income than most 32 year-olds.
The other thing to consider is that high-yielding stocks give you the cash today. Stocks with much lower yields but higher growth profiles offer better growth and total returns, but some things may not come to pass. I try to balance all of this out the best I can, but it’s different for everyone. Ultimately, you have to find what works for you.
Best regards.
Dividend Mantra recently posted…She Said Yes!
Definitely good points. You’re right that FIREseekers may be more willing to invest in them due to retirement not being far off. Like I said, I may revisit them again myself in a few years. Also very true on the income-now aspect of it. That also may appeal to those who selectively reinvest dividends, as they get more income from those kinds of stocks, but for people like me who just plow it right back in the same company, maybe it’s not as appealing. Guess it all depends on your personal situation. They’re just not for me.
Thanks for sharing your thoughts on telecoms. While I do own AT&T I realize that the growth isn’t that great. However that yield allows me to collect dividends which I can use to buy other stocks which grow much faster. One thing to keep in mind is that with low yield high growth stocks like Visa is that you can’t predict the future. The growth may not last forever, sure we can forecast the growth by looking at earnings and payout ratios but nothing is certain. I can certainly understand your perspective though, preserving our income is paramount for those relying on it for retirement.
Cheers,
CD
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That is a very good point. It may be better to have the guaranteed income now rather than hope that my low yielder produces the same income in 10 years or whatever. Depends on whether you want to take that risk or not. Thanks for stopping by!
Hi DD,
I’ve asked myself the same question recently about T and VZ and came to the same conclusion… not for me!
For current high yield I prefered REITs.
I might take a look at Bell Canada, Rogers and Telus pretty soon to see if things are different in Canada but I’m pretty sure they are not.
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Ah, good call. I didn’t look at international telecoms. I’ve actually heard decent things about them, so it’s possible they would make better investments than the American telecoms. Then again, they are still telecoms, so who knows?
Awesome read DD! thanks for sharing. Though I have not done too much research on American telecoms, I feel as though Canadian Telecoms are pretty solid.
Feel free to disagree but when I look at the big 3 telecoms in Canada (Rogers, telus, bell)
the first thing that comes to mind is that these are multi-billion dollar companies. Any other smaller wireless provider don’t really have nothing new and they don’t have the capital or the experience/knowledge to compete effectively with the other 3.
Maybe I am bias because I own all three of the big telecoms of Canada. But if you still have mixed feelings about telecoms in general by all means you can live vicariously through me and let me take the hit if things go sour with the telecom world in Canada haha.
Cheers bud
Ace
Dividend Digger recently posted…A Message to all the Young Investors just Starting
Hey mate, thanks for stopping by! Don’t get me wrong; T and VZ are solid enough too. Just not for me. I have heard good things about the Canadian telecoms, and your reasons for liking them are valid. Probably apply to the US ones too. Hope they do well for you, and you can laugh back if I’m wrong!
Its fine that you decide that they’re not for you, but doing so on the basis of the low price growth/total return rates starting from 2000-2001 is a poor reason… at that point in time the telecoms were crazy overvalued and basically being considered internet/tech stocks along with MSFT, CSCO and many others during that have barely recovered or have yet to recover the price levels they saw 15 years ago even while earnings and dividends increased along the way. Looking at that as a starting point is almost completely irrelevant vs today’s valuations with ~10 PE for T or VZ. The poor returns based on share price had far more to do with the irrational market at the starting point than business performance.
Not trying to talk you in to anything, just pointing out that the historic return based on that starting point is probably a less valid approximation of future total return, than something simple like current div yield + div growth based on a more or less fair valuation today.
You actually make an extremely valid point, and I thank you for bringing it up. I had forgotten about the tech bubble, and how they skewed valuations for a lot of companies. Expanding the data out to 21 years (the max allowed by FAST Graphs), we see more reasonable total return rates about 2x that of inflation. I have to admit, I may have been wrong here, in that aspect. However, I still don’t feel they fit into my portfolio due to the earnings and dividend growth rate, and some other reasons I glossed over. I really appreciate your insight; thank you.
Do you think companies like T, VZ, and Comcast will be around say 10 years from now? I don’t think they’ll be as profitable as they are. What happens when the internet gets distributed wireless rather than cables? The only competitive advantage these companies have is a wire running to your house. And that the government regulates who gets what area. What happens when the internet goes wireless? In Japan, you have wifi that’s almost as fast is Google Fiber. If things go wireless than barriers to entry will be non-existence. So I think… who knows.
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I don’t have high hopes for T and VZ. Like you say, I think their advantages will erode as tech progresses. CMCSA is a different story, as they’re more of a diversified media company. They own the Golf Channel, Universal (the film company and parks), NBC, Telemundo, quite a bit, actually. Actually owned them a while ago, and sold because I’m an idiot sometimes. I think T may be going along this path with the DTV purchase, but I don’t trust that they’ll succeed in the long run as much as CMCSA. I’m also not sure what you mean by distributed wireless. AFAIK, even if wireless becomes more ubiquitous, we’ll still need copper and fiber for the major backbones, and T and VZ will follow along grudgingly. They’ll survive, but they’re low-growth like utilities. Not really what I want in the accumulation phase.
Very good read DD! I have a small position of VZ that I’m actively adding too. I don’t plan on making it a large position, but feel its worthy as a small holding to diversify my account. However, it’s one of those that will need continuing monitoring. I don’t plan on adding T at the moment, as I would put that money elsewhere.
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Fair enough. Diversification is a good thing, so can’t fault you there. I’d probably choose VZ over T as well. Hope it treats you well!
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