After last week’s earnings miss by the chip giant Intel Corporation (NASDAQ:INTC) revived concerns about a slowdown in the personal computer market, stocks in the PC supply chain have taken it on the chin.
INTC and Microsoft Corporation (NASDAQ:MSFT), which were already well off of their January highs prior to the announcement, slipped further on the news. Intel and MSFT are down 15.9% and 11.1%, respectively, year-to-date.
While it’s easy to make a case against both stocks right now due to the questions about growth, there’s a simple reason why investors should be prepared to establish positions on further weakness: their dividends.
INTC currently offers a yield of 3.1%, while MSFT’s payout is 3%. Those yields may not appear eye-popping at first, but both are superior to the 1.9% yield of the S&P 500. More important, they’re not just the highest in the large-cap technology space, but they’re also among the highest in the tech sector as a whole.
Above-average yields may not be enough to offset the prospect of slowing PC sales in the short term. However, they also provide a steady source of longer-term demand from dividend investors.
Here’s why: dividend-focused managers are relatively limited in their options, with the majority of their universe constrained to utilities and consumer staples shares. The passively managed iShares Select Dividend ETF (NYSEARCA:DVY), for example, holds nearly half of its portfolio in these two sectors, with 34.7% in utilities and 11.4% in consumer staples. The trouble with this type of concentration is that both groups have become overvalued, as outlined in detail here and here.
Further, utilities tend to be highly interest-rate sensitive, as are real estate investment trusts. Investing in either group therefore makes a dividend manager’s portfolio vulnerable to fluctuations in the bond market.
Energy, another high-dividend sector that makes up 6.3% of the DVY portfolio, also is unattractive right now due to continued oil-price volatility and the potential for dividend cuts among many of the industry’s weaker players.
As a result, Microsoft and INTC may demonstrate a surprising ability to withstand last week’s adverse headlines. The two stocks offer dividend investors a rare chance to diversify out of the usual dividend-paying sectors and establish a foothold technology.
Tech stocks are relatively unrepresented in the dividend universe, as gauged by their minsicule 1.7% weighting in DVY. Intel and MSFT, in particular, are an attractive destination since they not only out-yield their mega-cap peers, but they also offer compelling valuations. Microsoft stock is valued at 14.2 times forward earnings and INTC at 12.8. In comparison, the S&P is trading at 16.6 times forward earnings and the tech sector as a whole is trading at 15.6.
The upshot — dividend managers can use INTC and MSFT to diversify without hurting the overall value metrics of their portfolios.
Taking these factors together, Microsoft and Intel offer above-average yields, below-average valuations and a way to earn a decent yield without gaining exposure to either the bond or energy markets.
The resulting demand for the two stocks should provide a steady, longer-term underpinning that can cushion the impact of growth concerns.
Even if they’re no longer attractive to growth investors, there is still a significant market for mature, high-yielding, cash-cow plays.
Not least, both offer a call option on the PC market. Today, UBS released a report saying that weaker comps should enable the market ‘s growth numbers to stabilize in the coming quarter. With sentiment on both tech stalwarts so depressed here, even a stabilization in PC sales could provide fuel for a rally.
Having said all of this, it’s probably not time to jump in just yet. Earnings estimates are likely to remain under pressure in the near term, and there’s plenty of latitude for investors to exit these stocks profitably after their strong run of the past two years.
Also, the technicals are not particularly favorable. The stocks are trading below their 200-day moving averages, and both are near support: $40 for MSFT, and about $29.60 for INTC. Investors will want to watch closely to see how the stocks trade around these levels before making too large of a commitment.
The Bottom Line
Microsoft and Intel are down, but not out. While the current headwinds may lead to additional choppiness in the two tech giants, both feature attributes that should fuel investor demand and mitigate the downside risk.
Look for an opportunity to buy these stocks on weakness if market volatility affords the opportunity in the weeks ahead.
As of this writing, Daniel Putnam did not hold a position in any of the aforementioned securities.
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