by Charles Sizemore | December 27, 2013 2:07 pm
It’s safe to say 2013 was the year of dividend destruction.
Sure, that may sound odd considering 2013 was a record year in terms of dollars paid out. The number of dividend stocks raising their payouts hit the highest levels in over 20 years, and dividend cuts were almost unheard of. Plus, considering American dividend stocks still sport a historically low payout ratio of 32%, 2014 will almost certainly see income investors rewarded with more cash than ever.
But looking at the price returns of several solid dividend stocks, it’s clear that Mr. Market is not rewarding this generosity. Non-dividend-paying stocks have outperformed their dividend-paying peers by a wide margin in 2013, and — fearing the effects of Fed tapering — investors have wholesale dumped some of the safest, most dependable, most bond-like stocks.
Dividend stocks should enjoy a rally in 2014 as the market makes sense of the Fed’s tapering plans. As I wrote recently, I expect that, counterintuitively, tapering will actually cause bond yields to fall. After six months of uncertainty as to Fed’s intentions, the bond market priced in the worst. Plus, foreign investors — led by Japanese institutional investors — are aggressively buying U.S. Treasuries, and overall bond demand remains high even while the growth in new supply continues to shrink.
With all this in mind, let’s take a look at some of my favorite dividend stocks that are trading at beaten-down prices. These are prices that I do not expect us to see again for a very long time, if ever … and these dividend stocks are some of the best stocks you could snatch up now.
KMI Dividend Yield: 4.7%
I’ll start with one of my very favorite energy infrastructure companies, Kinder Morgan Inc. (KMI), which is down about 13% from its May highs.
If you are an income investor, you are no doubt familiar with Kinder Morgan Energy Partners (KMP). It’s one of the most popular and widely-held pipeline MLPs, and with good reason. Since going public in 1992, KMP stock has delivered returns of more than 1,200% … and that does not include distributions.
Kinder Morgan Inc. is the general partner of KMP and can be thought of as a leveraged play on the MLP due to what is called “incentive distribution rights.” KMI gets half of any distribution increase by Kinder Morgan Energy Partners. (Kinder Morgan Inc. is also the general partner of El Paso Pipeline Partners [EPB)].
KMI stock has had a poor 2013 for a couple reasons. In addition to the same Fed tapering fears that have sapped virtually all dividend stocks, KMI took a beating after El Paso Pipeline Partners posted unimpressive earnings and gave guidance on the distribution that was shy of what Wall Street expected. A high-profile short campaign by research firm Hedgeye didn’t particularly help KMI stock either.
Yet if Kinder Morgan’s prospects were so dire, then why are its insiders buying the stock hand over fist? In the month of December alone, founder and CEO Richard Kinder purchased 828,000 shares of KMI stock on the open market worth over $27 million. This followed the 500,000 shares he purchased in June and again in September. Since June, Richard Kinder has amassed a staggering 1.8 million shares of KMI worth over $60 million.
And he’s not the only insider buying. Director Sarofim Fayez chipped in $15 million of his own money, and Vice President James Street added $130,000. I recommend we invest with the insiders. At time of writing, KMI stock yields an attractive 4.7%, and management expects to raise the dividend by about 8% in 2014.
ARCP Dividend Yield: 7.5%
Next on the beaten-and-battered dividend stocks list is triple-net retail REIT American Capital Realty Properties (ARCP), which is down nearly 30% from its May highs. ARCP is unique among dividend stock in that it pays its dividend monthly rather than quarterly (see 5 Monthly Dividend Stocks to Snag in 2014).
In the low-yield environment of the past view years, triple-net REITs such as ARCP have come to be viewed as bond substitutes. But even in a more normal yield environment, I consider triple-net REITs to be preferable to bonds. Unlike bonds, triple-net REITs generally have a degree of built-in inflation protection as the rents that support the dividend rise over time.
And in the case of ARCP, you’re getting a high 7.5% yield from a conservative property portfolio that would normally only be possible with a highly-risky junk bond.
ARCP has a shorter trading history than some of its peers, such as Realty Income (O) and National Retail Properties (NNN), which largely explains why its yield is higher. As a relatively new REIT, ARCP stock is largely unfollowed by investors. But once its merger with Cole Properties (COLE) is completed, ARCP will be the largest trip-net REIT by market cap and total square footage, and it will no longer be flying under Wall Street’s radar.
As was the case with KMI, ARCP insiders have been using the recent weakness as a buying opportunity. In the month of November, four company officers bought a combined 72,500 shares of ARCP stock worth over $950,000, and this followed a steady stream of insider buying throughout the summer.
TEF Dividend Yield: 6%
Next on the list of dividend stocks to buy now is Spanish telecom giant Telefonica (TEF), which is down about 10% from its October highs. And while 10% might not quality Telefonica for our list of “battered” dividend stocks, consider that the stock is down 40% or so from its old 2010 high.
It’s been a rough couple of years for Telefonica stock holders. The company spent much of the 2000s building a telecom empire in Latin America, which was an excellent investment that will continue to benefit the company for decades to come. But the buying spree left TEF highly indebted and at risk to the whims of the capital markets. When the Eurozone debt crisis reached a fevered pitch in 2012, the company considered it prudent to temporarily eliminate its dividend and focus instead on paying down its debts.
Telefonica had the misfortune of being domiciled in Spain, at the heart of the Eurozone crisis. But with the worst of the crisis now passed, management has reinstated the dividend and the stock now yields 6%.
As Spain recovers from its worst crisis in decades, TEF stock should enjoy a nice rally. I expect total returns of over 100% in the next 12-24 months.
NLY Dividend Yield: 11.9%
And finally, we come to the battered and bruised mortgage REIT Annaly Capital Management (NLY), which is down by about 40% from its May highs.
Mortgage REITs have taken an absolute beating since the Fed first started hinting about tapering in May. The reason? Mortgage REITs are highly leveraged, and the market feared that rising yields would take a bite out of net asset values, which could in turn force the REITs to liquidate their holdings at unfavorable prices.
Well, yes, this is true. But most of the sector now trades at deep discounts to NAV; Annaly stock trades for just 80% of book value. Sure, NAV is a moving target, and it may well be slightly overstated based on last quarter’s values. But with NLY stock trading at a 20% discount to book, there is a pretty wide margin of safety.
Furthermore, higher yields are actually good for the REIT’s continuing operations. Remember, mortgage REITs make money by borrowing short-term and investing the proceeds in mortgages and mortgage securities. The Fed has indicated that it intends to hold short-term rates at close to zero for the foreseeable future even as it backs away from quantitative easing. This means that Annaly’s spread will be a lot wider going forward than it has been in recent years.
And it would appear that I am not the only person who sees value in NLY stock at current prices. Company insiders have been buying aggressively since May, and insiders bought 238,000 shares of Annaly Capital Management worth $2.5 million in November alone.
NLY stock currently yields about 11.9%, and total returns of 50%-100% over the next 12-18 months are highly likely.
Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management and the editor of Macro Trend Investor. As of this writing, he was long O, NNN, ARCP, KMI and TEF.
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