Week 298 - Barron’s 500 “Financial Services” Companies That Are Dividend Achievers

Situation: Even a Retirement Portfolio needs some exposure to Financial Services companies. Yes, I know. During the 4.5 year Housing Crisis (from April 2007 to October 2011), stocks in the Financial Services index fund (XLF) lost 20%/yr vs. 3%/yr for the S&P 500 Index (see Column D in the Table). So, let’s confine our attention to companies that kept increasing their dividend throughout that crisis, i.e., companies S&P calls Dividend Achievers.

Mission: Apply our standard spreadsheet analysis to financial services Dividend Achievers on the 2016 Barron’s 500 List, specifically those that have traded their stock long enough for it to appear on the 16-Yr BMW Method List, and have an investment-grade bond rating from Standard & Poor's. Only 5 companies meet our requirements, but all of those have clean balance sheets (see Columns P-R).

Execution: see Table.

Administration: During the 4.5 year Housing Crisis, 3 of the 5 companies outperformed the lowest-cost S&P 500 Index Fund, VFINX at Column D in the Table. But read the fine print:

Caveat emptor: You’ll want to know exactly why it’s a good idea to add Financial Services companies to your retirement portfolio. Relatively safe stocks, i.e., dividend-growing stocks issued by companies in one of the 4 “defensive” S&P Industries (Utilities, HealthCare, Consumer Staples, Communication Services), are what you buy to reduce Risk. Unfortunately, there are so many “savers” who seek to reduce risk that those stocks are almost always overvalued. You can’t get them at a fair price, so you have to break a key Warren Buffett rule to build a sizable position over time. You can only make real money if you sell those stocks when savers are desperate to buy them. But there’s another side to that coin: growth stocks. Those are issued by companies in the Financial Services, Information Technology, Industrial, and Consumer Discretionary industries. Buy them when they have a bad smell due to the powerful aversion training (think Pavlov’s dog) that we all experience from untoward events like the Housing Crisis. That calamity had such a negative effect on the value of Financial Services companies that their Return on Invested Capital (ROIC) didn’t rise above their Weighted Average Cost of Capital (WACC) until last year. You had a 7-yr opportunity to buy stock in fundamentally sound companies at absurdly low prices. Now, it’s too late to make real money on that trade. Almost any flavor of Financial Services stock is speculative: you need to know when to buy and when to sell. You sell when ROICs  are twice as high as WACCs, and stock brokers start recommending Financial Services stocks to financially naive people. I’m afraid we’ve already reached that point, with respect to Money Center banks (see Columns AB and AC at Line 16).

Bottom Line: These companies represent high-risk/high-reward investments (see Columns D, I, and M in the Table). Four of the 5 sell insurance products. The exception is Franklin Resources (BEN), which sells mutual funds to institutions and wealthy individuals. Standard & Poor’s has A-ratings for stocks and bonds issued by Travelers (TRV) and Aflac (AFL), so consider buying one of those through an online dollar-averaging program. The Net Present Value calculation is higher for TRV (see Column Y in the Table).

Risk Rating: 8 (where 10-Yr Treasury Notes = 1, S&P 500 Index = 5, gold bullion = 10)

Full Disclosure: I own shares in TRV.

NOTE: Metrics are current for the Sunday of publication. Red highlights denote underperformance vs. VBINX at Line 13 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 (no dividends accrue in 10th year), Initial Cost = average 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 K (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% approximates Total Returns/Yr from a stock index of similar risk to owning a small number of large-cap stocks, where risk is mainly due to “selection bias.” That stock index is the S&P MidCap 400 Index at Line 21 in the Table. The ETF for that index is MDY at Line 12.

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