Picking Dividend Stocks – Dividend Safety and the Bank of America Story
It’s axiomatic in dividend investing that the most effective dividend stocks score highly on dividend yield, consistency, and growth. When you’re concentrating on dividends (rather than exclusively on price), you obviously want to own companies that have a significant initial yield (more when compared to a bank deposit),
pay their dividends without fail, and increase their dividends regularly.
Just like every form of stock investing, all you’ve got to go on in selecting individual stocks is history and conjecture. Conjecture includes drawing reasonable inferences from the history and current conditions.
As to history, you intend to find stocks that have a demonstrated record of paying dividends consistently (never missing a payment) and raising them often. Within my e-book, “The Top 40 Dividend Stocks for 2008,” I present a scoring system for rating stocks along those two scales (plus several others) that I call the Easy-Rate(TM) system.
A company’s history of dividend payments tells you two things as possible reasonably project into the future. For example, if your company has paid a dividend every quarter for ten straight years, and raised the dividend in seven of those years, that shows that the organization is run in this way that dividend-paying could be the norm. Management expects to keep to pay for the dividend every quarter, and they manage the company’s money accordingly dividendos. They know they’ve a constituency of shareholders who expect that dividend and periodic increases, and they “play to” that constituency. Skipping a payment or cutting the dividend could possibly cause many shareholders to abandon the stock, bringing a disastrous fall in the stock’s price.
But any projection into the long run is conjecture, isn’t it? There is risk in just about any prediction, from weather forecasting, to picking your fantasy football team, to selecting the most effective stocks. Even if the “chances are with you,” or “all signs point for the reason that direction,” there’s risk that any prediction will be wrong.
And so it’s with dividend stocks. Even when we take the most precautions to choose only stocks with a good yield, great dividend history, and the strongest signs of continuing that history, we are able to be wrong.
The financial sector previously 12 months provides some vivid samples of such risk. Many retail banks, commercial banks, investment banks, and mortgage lenders have been pummeled by the sub-prime mortgage crisis, which morphed in to a full-blown credit crisis. The iconic Bear Stearns failed (it was bailed out by the government). The iconic Citigroup slashed its dividend along with more than 10,000 jobs. Countrywide Financial, the country’s largest mortgage issuer, nearly sought out of business, “saved” only by being purchased at a fire-sale price by Bank of America.
Within my e-book, I selected Bank of America (BAC) as among the Top 40 dividend stocks. It had a 6.6% yield, good valuation, and had raised its dividend for significantly more than 25 straight years — a select club with only 59 members. But BAC has been hit hard by the credit crisis, and it is hard to tell whether the acquisition of Countrywide, even for a tune, is good or bad in the short term. (It might be great in the long term.)
BAC, like lots of banks today, needs money. One way to get money, needless to say, is to cut its dividend. So BAC’s dividend is “at risk.” Up to now, BAC has resisted that temptation. It paid its first-quarter dividend, even though the payout exceeded its profits. It paid its second-quarter dividend on June 4. Its next dividend (not yet declared) is scheduled for September 28 — and this is normally the quarterly payment where BAC increases its dividend each year. In its second quarter report a couple of days ago, CEO Ken Lewis stated that management has recommended to the board that the third-quarter payout proceed as scheduled. That is in keeping with earlier statements from Lewis, who’d said he “views the dividend as safe” (as reported by MarketWatch) shortly following the second-quarter payout in June.
Due to a significant price drop, BAC in June was yielding a sky-high 11.4%, and several analysts and pundits stated flatly that BAC would need to cut its dividend, as it needed the money. Ends up they were wrong, at the least because of this quarter.
I kept BAC on my Top 40 list, and it is still there. I own shares. It turns out that when the marketplace heard the recent news about BAC’s second-quarter results, it absolutely was so relieved that the stock jumped significantly more than 70% in just a couple days.
Other compared to the peril of the dividend being cut, BAC satisfies all my requirements for a top dividend stock. Even at its recovering price (back about to where it absolutely was in mid-May), you can argue that this is a once-in-a-lifetime opportunity to acquire a world-class company — that’ll now become the nation’s largest mortgage lender — at a yield that still exceeds 7%. Chances like that do not come along often. Notice when the dividend is not cut, that 7% yield to a new purchaser won’t ever decrease with regards to the first investment. In reality, it will go up if and when BAC increases its dividend.
Should BAC still be on my Top 40 list? Maybe. Do you imagine Lewis when he says the dividend is “safe”? What might you anticipate him to say? You think BAC will raise its dividend this year? I don’t, but that alone does not disqualify the company. Do you imagine that sooner or later in the foreseeable future, the financial sector will recover, and stocks like BAC will return to former prices? I do, although it will probably take a few years. Remember the savings and loan crisis of the 1980’s and 1990’s? Banks recovered from that, albeit with lots of government help and numerous bank failures. The same scenario is playing out today: Lots of government help, alongside some failures.
As an investor, you may make up your own mind about Bank of America. For my money, it looks like a good long-term investment. The chance of it failing is near zero. Its dividend is remarkably high for this type of strong business. And I think it’s planning to weather this storm and continue re-appreciating in price.
I’m dedicated to the dividend, so I am never as focused on the length of time that takes as I will be with a “growth” stock. For the time being, I will happily collect my checks each quarter.