DIVIDENDS: BEATING BONDS

DIVIDENDS: BEATING BONDS One guy on TV today said that corporate dividend yields on some companies were better than bond yields. Therein lies one of my problems with bonds. Let me say up front that I have owned Bonds. I’ve purchased Municipal Bonds, Zero Coupon U.S. Bonds, and some Corporate Bonds. This Bond arena takes its own level of expertise and I am not that guy. When I need info, I call a specialists.

However, today, these comments got my attention. I’m going to use Intel and JP Morgan as our two studies to learn, not only the bona fides of what he said, but a way to learn a few things on gathering information.

Okay, here’s the scenario, not only I, but millions of Americans see and feel the need for income. Many turn to bonds, some of those listed above, buying this debt, and then live off of, or use someway the income that comes in from the interest payments—quarterly, annually, and with MIPS, even monthly. Some investors invest for the internal growth on the principal, but this is a substitute for current income (See Zero-Coupon Treasuries).

Oftentimes these same people shun stocks to fulfil this income need, because a. stocks are too risky; and b. the yields are not as high as a typical bonds. Today we have a confluence of two factors: First is the low interest rates on all forms of debts, including CDs and Savings Deposits; and Second: Many companies are paying out relatively high interests on the equity ownership of stocks.

Yes, stocks still have a level of risks some bond traders eschew, but risk is everywhere, and if anyone really studies stock growth, the trend is in the increase—slowly somewhat, but with large issues (Blue Chips?), there is a history of growth in the stock market. Today, with the market selling off (over the past month) there are opportunities to buy some of these dividend paying stocks at a discount.

A CASE IN POINT:

Let’s turn to Intel. The stock is going for $29.38. The current EPS, or Earnings per Share, is $2.36. The P/E ratio is 12.42. I won’t delve deeply into that ratio, but a cabdriver’s conclusion on P/E ratios is this: one would pay $12.42 to get at $1 of earnings. The Dividend and Yield are another thing.

The dividend is 96¢. That 96¢ is per share, in this case for the quarter. The yield is 3.37%. If one owned 1,000 shares that would be a dividend payout of $960. The recipient would have to claim that amount and pay taxes on it. The Corporation may not deduct that $960 as an expense, and they would also pay taxes—usually in the 35% tax bracket. This is repulsive to me—double taxation—but that is for a political discussion another time.

I believe investors should get to know everything they can about P/Es. For example, above I gave a cabdriver’s definition of P/E ratios. A stock could be at $5, $50 or $500, and if the P/E is 13—that is 13 times earnings—you would pay $13 for each dollar of earnings. Remember Earnings are stated as EPS, or Earnings per Share.

One other informative and fun point is to do the numbers backwards. For example, look at the $2.36 per share. Take that number times the P/E ratio of 12.42 and you’ll get $29.31, and that is about where the stock is. Final point on this topic of P/Es, this stock has a low P/E. It would not be uncommon to see P/Es on Internet/High Tech stocks to be in the 20 Times Earnings Range.

The point of this article is that this dividend is as large as and even larger than many bond yields. And hopefully Intel (INTC) will increase in value. This dividend usually means the company is sharing its profits with its shareholders.

One other viewpoint—one that is important to me, because I am all-in-all a Covered Call Writer at heart. Now, I must warn you, if you’re a traditional investor, and a died-in-the-wool, embedded stock broker, be prepared to be shocked.

The stock is $29.38 and the next month out options (about 5 weeks to the regular 3rd Friday options) are going for 88¢ X 89¢. As a covered call, one could buy this stock (again, we’ll use 1,000 shares to keep the investment the same), and now sell a covered call against this position. The $30 calls can be sold for $880. And if called out (sell—which once you understand the buy-back you won’t have to be)—you would take in another $620.

We’ll pause while you think of this. This is income of $880 for one month. That’s almost as much as the Dividend of $960. And that was for one quarter. What if you could make $880 per month, each and every month? Sorry to be redundant there, but I want this to sink In.

AND GET THIS: IF YOU OWN THE STOCK ON THE DIVIDEND RECORD DATE, YOU’LL ALSO GET THE DIVIDEND. HOLY MACKERAL.

ANOTHER LOOK

I don’t think you can handle too much excitement. These numbers above should make you angry that your financial professionals haven’t shown you how to do this “covered call thing.” And ashamed if you’re a financial professional.

We’ll now take a look at JP Morgan. Today the stock was $62.47. The EPS are $5.54. The P/E is $11.28. The current dividend is $1.76, which has a yield of 2.86%. Just sit back and think about a 2.86% yield in today’s marketplace. Oh, we’ll get to the covered call in a moment.

JP Morgan is a banking concern. These numbers come from Yahoo.Finance.com. Put is the ticker symbol, then in the box noted as the Corporate Summary, you’ll find all of these numbers. You can find them other places as well.

This is a nice yield. Now, however, let’s look at the covered call possibilities. The stock at $62.47 puts the next month out $62.50 calls at $2.17 X $2.20. There is huge open interest in the options on this stock and on Intel above. This position would let you sell one contract for each 100 shares of stock you own. If you own 1,000 shares—used now for this example only to compare the dividend on the same 1,000 shares. That would be $62,470. And with margin, you may only have to put up about $32,200. Both with selling options or in receiving dividends you still own 1,000 shares of stock.

With Covered Calls, you would take in $2.170. The dividend income for the quarter would be $1,760. Covered Calls provides monthly income, sometimes 2 or 3 times a month.

SUMMARY

This is a good overview of this process. I haven’t written on Dividend Capturing, a strategy I used to employ, but seldom use anymore. This strategy was to buy and own the stock just for a few days (the owner of record date) and capture the dividend. It worked okay, but with Writing Covered Calls, this extra income replaced the income from being actively involved in getting into and out of the stock.

However, the point is clear, this is an income strategy no matter how you structure it.

 

Stock MarketWade Cook