Philip Morris International: A Dividend Stock Best Avoided

Nothing is more detrimental to the long-term viability of an investment theme than its own success.  In the often circular logic that defines the market, profitable trades can only remain so as long as they are unpopular.  Once they are embraced by the investing public, prices have generally risen to a point that would make the trade unattractive to its original value-focused adherents.

It is thus with great sadness that I must recommend readers sell their shares of Philip Morris International (NYSE: $PM).  At current prices, this is a dividend stock best avoided.

When Altria (NYSE:$MO) spun off its international tobacco businesses and formed Philip Morris International in 2008, it was about as close as you could get to the perfect stock.  You had all of the standard bullish arguments for tobacco—recession-resistant demand, an addicted customer base, low marketing costs, high cash flows, etc.—but without the threat of crippling lawsuits from the U.S. tort system.

Philip Morris International was also uniquely positioned to take advantage of rising incomes in the developed world.  As consumers in key emerging markets such as China traded up from lower-quality domestic brands, the maker of Marlboro was uniquely positioned to benefit, and still is.

And finally—and perhaps most importantly—Philip Morris International was a dividend-producing powerhouse at a time when decent yields were hard to come by. 

It was the convergence of all of my favorite investment themes in one stock: a high-dividend sin stock with emerging market growth and brand cachet!

But no matter how great an investment looks, your long-term success is ultimately dependent on the price you pay.  And the reason that tobacco stocks have been such great wealth-creation vehicles in recent decades is because they have been perpetually priced as high-dividend value stocks (see “The Price of Sin”).

Let’s face it.  Tobacco is not a growth industry, not even in most emerging markets.  While smoking remains popular in many, market penetration hit the high-water mark a long time ago.  And as health awareness rises with incomes, the best the industry can hope for is gentle decline.

Knowing this, long-term investors tend to by tobacco stocks for one and only reason—the high dividends they offer.

Yet consider how Philip Morris International’s dividend stacks up with other consumer-oriented companies with large footprints in emerging markets.



Dividend Yield

Forward P/E

Johnson & Johnson




Philip Morris International




Procter & Gamble








 At current prices, investors can get a higher dividend yield in Johnson & Johnson (NYSE:$JNJ), Procter & Gamble (NYSE:$PG) and Unilever (NYSE:$UL), and Philip Morris International trades at a higher P/E ratio than all but Procter & Gamble.  And while each of these three examples has had its share of problems in recent years, the longer-term prospects for all are vastly superior to those for Philip Morris International.

Let me put it to you like this: 50 years from now, I suspect that Philip Morris International will still be selling plenty of cigarettes.  But I’m betting that Johnson & Johnson, Procter & Gamble, and Unilever are selling a lot more Band-Aids, razor blades, and shower gel, respectively.  I’m grossly oversimplifying the businesses of all three of these companies, but my point stands: Philip Morris International is only attractive if it is priced at a significant discount to mainstream consumer products companies like the ones mentioned in this article.

This condition does not hold today, which is why I must regrettably make Philip Morris International a “sell.” 

Investors looking for income these days still have plenty of decent options, even if reliable choices from years past are no longer as attractive as they might been.  Many oil and gas master limited partnerships offer attractive yields, as do select specialty REITs.  Telecom and utilities stocks are also attractive.  But at current prices, investors might find Philip Morris International’s stock as dangerous as its products.

Disclosures: Sizemore Capital is long MO, PG, JNJ and UL

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European Dividend Stocks: What You Need to Know

For all the talk of dividend investing in recent years, it’s easy to lose sight of the fact that the average U.S. stock, as measured by the S&P 500, still yields a paltry 1.9%.

Even the Vanguard Dividend Appreciation ETF (NYSE: $VIG), a core long-term holding in my ETF portfolios—barely yields 2%, and this is a dividend-focused product.   

In a world where the 10-year Treasury note yields an almost laughable 1.5%, the dividends onU.S.stocks might seem downright rich in comparison.  But for an investor looking to fund their retirement through portfolio income, they still don’t pay the bills. 
Not surprisingly, many investors have gravitated to higher-yielding European stocks.  The dividend yield on large-cap European stocks is more than double that of their U.S. counterparts; as a case in point, the Vanguard MSCI Europe ETF (NYSE:$VGK) yields 4.3%, compared to the 1.9% offered by the SPDR S&P 500 ETF (NYSE:$SPY).

The PowerShares International Dividend Achievers ETF (NYSE: $PID), which like VIG, focuses on dividend growth rather than high current yield, also pays out significantly more than its U.S. counterpart, at 3.1% vs. 2.0%.

Still, those higher yields have offered little protection to investors who have seen their “safe” dividend paying stocks lose 20% of their value in a matter of weeks.   I see a lot of value inEuropeat current prices, and I believe the ongoing sovereign debt crisis has created opportunities for those of us willing to take the risk of a little short-term volatility.  But given that the months ahead promise to be a rocky road, it’s important that investors understand a few things about European dividend stocks.

Here are a handful of points to keep in mind.

  1. When looking at the dividend history, remember to take into account the effects of currency moves.  As a case in point, consider the Anglo-Dutch consumer products giant Unilever (NYSE: $UL).  Unilever has raised its dividend for over 25 consecutive years.  But if you look at the company’s dividend history on, say, Yahoo Finance, you’ll see that the dividend paid by the U.S.-traded ADR appears to shrink in some years.  This is due to changes in currency exchange rates.  So, when doing your research, look for the dividend history in the reporting currency and take the posted dividend history of ADRs with a grain of salt. 
  2. European firms tend to make two payments per year.  For U.S. investors accustomed to regular quarterly payouts, the European tradition can be confusing and send conflicting signals.  There is generally a larger “final” dividend declared and paid after the fiscal year has finished and a smaller “interim” dividend roughly six months later.  Again, using Unilever as an example, you can see that this was the company’s policy prior to 2010. (Starting in 2010, Unilever adopted a policy more in line with American norms of paying a regular quarterly dividend; see the company’s statement for more info.)
  3. Rather than keep the dollar amount of the dividend stable, European firms have historically sought to maintain a stable payout ratio.  This means that the cash payout to investors can vary wildly based on the company’s performance in any given year.  While this makes sense from the company’s perspective and allows for more financial flexibility, it can be frustrating for investors who depend on the dividend to meet their current income needs.  As capital markets become more global and investors more vocal, European companies are slowly adopting the  practice of paying more regular dividends. 

One final point to consider when investing inEuropeis the maturity of the markets. Europeis a developed continent with an aging population.  With little need to invest for  growth in their home markets, European companies are, by and large, mature cash cows that throw off a lot of cash. 

In The Future for Investors, Jeremy Siegel pointed out that slow-growth companies (or even negative growth) companies can make fantastic investments, and he used tobacco giant Altria (NYSE:$MO) as an example.  By Professor Siegel’s calculations, Altria was the most profitable investment of the past century, despite the fact that tobacco has been a dying business since at least the 1970s.    With no need to invest in a non-existent future and being restricted from advertising, Altria had little else to do with its cash than to pay dividends. 

Though I would stop short of comparing the entire European stock market to Big Tobacco, the lessons are much the same.  A slow-growth, high-dividend portfolio can produce spectacular returns over time.

I’ve recommended PID as a “fishing pond” for solid European dividend stocks, and I would reiterate that recommendation today.  Consider buying the ETF or, if you’re up for the challenge of researching individual stocks, use the ETF’s underlying holdings as a screened list of high-quality dividend payers from which to choose. 

Disclosures: Sizemore Capital is long MO, PID, UL, and VIG



Which Dividend Payer Would You Choose?

In looking at two companies in the same sector, would you prefer to have a stock that pays a 2.7% dividend or one that pays a 3.1% dividend?

The answer might seem obvious at first; all else equal, who wouldn’t take the higher cash payout? But before you answer, take a look at Figure 1.

Figure 1

This chart shows the quarterly dividend of the two companies I mentioned above, both major U.S. retailers.  You will immediately notice that one company, “Company A,” has done a much better job than the other of raising its dividend over the past decade and particularly in the last few years.

Company A is the lower yielding of the two, with a current dividend yield of 2.7%.  But should it continue to raise its dividend in the years ahead, investors would realize a much higher cash payout over time despite the slightly lower yield today.

So, let me ask again, dear reader: Would you prefer to have a stock that pays a 2.7% dividend or one that pays a 3.1% dividend?

I’m sure you know what my answer is, and you probably agree.  You will probably agree even more when you find out what the two companies in question are: Company A is megaretailer Wal-Mart (NYSE:$WMT) and Company B is beleaguered electronics chain Best Buy (NYSE:$BBY).

In my last article, I warned investors not to “chase” high dividend yields.

You have chosen wisely.

And while I would hardly call buying a stock that yields 3.2% “chasing” a high yield, the core lesson is the same.  When building a solid, long-term income portfolio, you cannot make your investment decisions based on current yield alone.  Doing so puts you at multiple risks, all of which can be devastating to you long-term investment goals.

I’ll start with the obvious: business risk.  An exceptionally high current yield often means that investors have sold off the stock or bond due to real, fundamental problems with the business. It also often means that the market is discounting a cut to the dividend.

Does this mean that you should always avoid exceptionally high yielders?

Of course not.  Often times the market overreacts and gives us contrarian value investors fantastic opportunities to be greedy when others are fearful.  You have to look at each case individually and make a judgment call.  To give a recent example, I believe that the potential returns far outweigh the risks in Spanish telecom giant Telefonica (NYSE:$TEF), despite the risks implied by its 11% current yield.  There may be short-term turbulence in Europe, but the company’s long-term future is very bright.

I would be far less enthusiastic about, say, Teekay Tankers (NYSE:$TNK), which yields 9.8%.  The oil tanker business is extremely cyclical and subject to booms and busts.  And given the cut-throat competitiveness of the business, longer-term dividend growth (or even dividend maintenance) is by no means certain.

The second reason to focus on dividend growth is protection from the ravages of inflation.  I have no doubt in my mind that Wal-Mart will continue to prosper. Most of what it sells is merchandise that consumers are unlikely to buy online due to convenience and timing issues.  (On a personal note, most of my Wal-Mart purchases are spontaneous and based on immediate needs.  Where else do you buy a Rubbermaid trashcan, a can of paint, or a case of Dr. Pepper at 3:00 am?)

Wal-Mart’s dividend should easily beat inflation in the years ahead, which is critical for retirees that depend on dividends to meet their current living expenses.

I can’t say the same for Best Buy.  While the company is the last man standing among major big-box electronics chains, it is getting hit from two sides.  Shoppers tend to use the stores as a showroom to try out new electronics before whipping out their smartphones to order them online for far cheaper.  And for larger items no usually purchased online—such as home appliances—Best Buy will continue to see tepid growth for as long as the housing market remains depressed.

Best Buy would not appear to be at risk of failure in the immediate future, but investors searching for steady dividend growth should look elsewhere.

Disclosures: WMT and TEF are holdings in the Sizemore Capital Dividend Growth Portfolio.

Beware of Chasing High Dividend Yields

What’s the easiest way to find a stock with a 10% dividend yield?

Find a stock yielding 5% and watch its price get cut in half.

I say this mostly in jest, but

What’s the easiest way to find a stock with a 10% dividend yield?

Find a stock yielding 5% and watch its price get cut in half.

I say this mostly in jest, but this is precisely what happened to investors in RadioShack (NYSE:$RSH), the iconic electronics and gadgets chain still found in most American shopping malls.  At time of writing, RadioShack yields 9.8%, and this is after the company already slashed its dividend.

Given that it is paying out substantially more than it earns, RadioShack will almost certainly further reduce or eliminate its dividend in the coming quarters.  The company barely earns a profit, and it faces a war of attrition it can’t win against larger “big box” rivals like Best Buy (NYSE:$BBY) and Wal-Mart (NYSE:$WMT) and from internet retailers like Amazon (Nasdaq:$AMZN).

In a race with no winners, it will be interesting to watch what falls faster, RadioShack’s price or its dividend.

I’ll quit beating up on RadioShack.  In fact, I wouldn’t be surprised to see the company enjoy a nice rally in the months ahead.  No one can argue that RadioShack is not cheap; the stock trades for 0.67 time book value and a shocking 0.11 times sales.  Almost incredibly the stock currently sells for less than the value of its cash in the bank, $4.97 vs. $5.70.  (Before you value investors start licking your chops, keep in mind that RadioShack has substantial debts against that cash; as of year end, the company had $1.4 billion in debts vs. a little under a billion in cash and receivables.)

The stock could also benefit from a dead-cat bounce.  With the short interest in the stock currently more than seven times the average daily trading volume, it could benefit from a short-covering rally if nothing else.

But that is exactly how investors should view RadioShack—as a potential short-term trade and nothing more.  It should certainly not be considered a long-term income play, as that 9.8% yield can disappear overnight.

This brings me to the point of this article: an investor should never chase a high dividend yield.

Exceptionally high dividend yields generally mean one of two things:

  1. The dividend is expected to be the only source of return, and investors should not anticipate much in the way of capital gains.
  2. The dividend is at serious risk of getting cut and the market has already priced the stock accordingly.

The first category is not all bad, so long as investors understand this going into the trade.  Many popular investments such as mortgage REITS would fall under this category.  Annaly Capital (NYSE:$NLY) and Chimera Investment Corp (NY6SE:$CIM) both currently yield in excess of 13%.  The dividends are by no means stable, however, and the payout will almost certainly fall when the Fed eventually raises rates.

Tobacco companies have enjoyed phenomenal returns of late and have been the Sizemore Investment Letter’s best-performing investment theme over the past year (see “Tobacco Stocks Still Smokin’”), but they too should be considered zero-capital-gains investments over the longer term. Investors can profit quite handsomely from the reinvestment of dividends and from share buybacks, but this is a sector in long-term terminal decline.

It is the second category where investors tend to get themselves in trouble, both in the stock investing and bond investing.  Alas, your humble correspondent was one of the hapless souls who bought shares of Thornburg Mortgage in 2008 because it had a yield of over 10% and a “solid” portfolio of super-prime jumbo mortgages.  That 10% yield didn’t get me very far when the company filed for bankruptcy. How many other investors were seduced by the 20-30% yields offered on General Motors bonds around that same time?  Again, we know how that worked out.

Investors can avoid these traps by setting reasonable expectations.  If a yield seems too high to be true, it probably is.  Roll up your sleeves, take a look at the company’s financials, and make that judgment call with a sober mind.

Income seekers currently have their pick of the litter of safe, moderately high-yielding stocks with room for dividend growth and price appreciation.  As an asset class, master limited partnerships are attractively priced, and several—including Williams Partners (NYSE:$WPZ) and Kinder Morgan Energy Partners (NYSE:$KMP)—yield over 5%.

REITS are more expensive as an asset class, buy here too there are bargains to be found.  National Retail Properties (NYSE:$NNN) and Realty Income Corp (NYSE:$O) yield 5.7% and 4.5%, respectively, and consider both to be safe.

Investors willing to accept modest risk of a temporary dividend cut should consider Spain’s Telefonica (NYSE:$TEF).  Telefonica currently yields over 10%, and its share price has taken a beating along with the rest of the Spanish stock market.  I consider a dividend cut to be unlikely, though the Board may opt to conserve cash if the European capital markets seize up again.  Still, any cut in this case would be temporary, and I expect the dividend to be substantially higher 3-5 years from now.  Unlike, say, RadioShack, Telefonica has a healthy business with excellent long-term prospects, particularly in Latin America.  Use any weakness as a buying opportunity.

Disclosures: KMP, NNN, O and TEF are all holdings of Sizemore Capital’s Dividend Growth Portfolio.

How to Choose the Right Dividend ETF

The stock market hasn’t returned a single red cent in over twelve years, as measured by the S&P 500. Twelve years is a long time to go without earning a return on your investment, particularly if you are close to retirement.

With the boom years of the 1980s and 1990s now a distant memory, it is not shocking to see investors losing faith in the cult of capital gains and gravitating instead to dividend-paying stocks and ETFs. In a world in which paper gains can be ephemeral, it’s good to be paid in cold, hard cash.

In many ways, this is simply a return to the basics of investing. Historically, before federal capital gains taxes and Modern Portfolio Theory shifted the industry to a focus on growth, dividends were the primary source of investor returns (see Figure 1), and over the past twelve years dividends have been the only source of investor returns.
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