Week 280 - A-rated Commodity-related Dividend Aristocrats

Situation: The S&P 500 Index is increasingly overvalued, and now has a P/E that is 25 times trailing earnings. Investors have withdrawn almost $100 Billion in the past 12 months but the S&P 500 Index keeps rising because companies have bought back even more of their own stock. Earnings of ~$150 Billion barely cover dividend payments. Unless demand picks up, companies will continue returning profits to investors instead of using those for expansion. If planet-wide demand does pick up, stocks will return to reasonable valuations. If it doesn’t, we’ll have a correction or Bear Market. 

One slice of the market already appears to have started an upswing, i.e., commodity-related companies. We have documented this from various points of view in several recent blogs. To be very cautious, you might consider investing small amounts of money regularly in one or two of the best companies. Look at the few Dividend Aristocrats in that sector having A-rated stocks and bonds. Dividend Aristocrats are rarely in the spotlight because so few companies have the earnings consistency to generate 25+ consecutive years of dividend increases. 

Mission: We’ve checked, and there are only 11 such commodity-related companies. So let’s drill down on those (see Table).

Execution: I know what you’re thinking, that 9 of those 11 companies have P/Es over 20. If the market does drop 10-20%, those 9 will drop at least that much. True enough (quality goods attract money). Either you buy the idea of putting a similar amount of money into the stock market each and every quarter, or you don’t. When the market is down, that money buys more shares of stock. If you have a 401(k) plan at work, dollar-cost averaging is already on automatic pilot. 

The main point is to be a disciplined buyer. Never put a big slug of dollars into the market at once, and avoid “one-off” purchases. Pick a theme and build on it over time. Eventually you’ll settle on a plan and fund it with automatic monthly withdrawals from your checking account. Then, sit back and do the math: See how your stock picks perform in comparison to your benchmark mutual fund, e.g. MDY, which is the S&P 400 MidCap Index ETF. If your stocks perform poorly or erratically, invest in the benchmark instead of trying to pick stocks.

Bottom Line: You want safe and effective investments. You have to be careful about investing in companies that draw their feedstocks from the ground. Stocks issued by those companies are vulnerable to boom-and-bust commodity cycles. But the A-rated ones can be safe and effective bets over a 10-year holding period, IF they’ve increased their dividend each year for at least the past 25 years. 

Risk Rating: 6

Full Disclosure: I dollar-average into XOM, and also own shares of HRL, MKC, KO, and WMT.

NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 21 in the Table. Purple highlights denote Balance Sheet issues and shortfalls. Net Present Value (NPV) inputs are described and justified in the Appendix to Week 256. Briefly, Discount Rate = 9%, Holding Period = 10 years, Initial Cost = moving average for stock price over the past 50 days (corrected for transaction costs of 2.5% when buying ~$5000 worth of shares). Dividend Growth Rate is the 10-Yr CAGR found at Column H. Price Growth Rate is the 16-Yr CAGR found at Column L (http://invest.kleinnet.com/bmw1/). Price Return (from selling all shares in the 10th year) is corrected for transaction costs of 2.5%. The Discount Rate of 9% is designed to approximate Total Returns/yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk due to “selection bias” is paramount. That stock index is the S&P MidCap 400 Index (at Line 26 in the Table). MDY (at Line 20 in the Table) is the ETF for that index.

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