Watch Out For "Dividend Traps"

  The week begins with the S&P 500 only six points away from its all-time high, set three weeks ago today.

But beneath the surface, interesting things — even disturbing things — are starting to happen.
“An important transition is underway that could damage a certain class of dividend stocks,” says our income specialist Zach Scheidt, joining us today with a public service announcement.
  “Over the past seven years, there’s has been a prominent trend in the stock market,” Zach explains.
“So-called ‘boring’ stocks that pay good dividends have been trading steadily higher. In particular, utility companies and consumer staples have recorded large advances.”
Indeed, they have. Utility stocks, up 121% in a little over five years. Consumer staples? Up 160% in six years. And not just because they’re rising in sympathy with the broad market…
  “In investor lingo, it’s known as a ‘reach for yield,'” says Zach.
With Treasuries paying little in the way of yield since the Panic of 2008… and CDs paying next to nothing… investors turned to boring stocks with good dividends. Especially utilities and consumer staples.
“Utilities typically generate profits regardless of what’s going on in the economy,” Zach points out. People typically pay their power and water bills, even when times get tough. You need basic utilities to survive. And companies need utilities working if they want to stay in business.
“The same is true for consumer staples stocks. During a recession, consumers will cut down on luxuries such as dining out. But they’re always going to need toothpaste and soap. That’s why consumer stocks have performed well in recent years.
  “But just as trees cannot grow to the sky, ‘safe’ dividend stocks can’t move higher forever,” Zach asserts. “Eventually, they become too expensive… and a return to their historical average becomes more likely.
“Dividend traps,” Zach calls them. Many stocks in these sectors are looking — well, pricey. Zach directs our attention to this chart showing the price-earnings ratio of the utility giant Duke Energy…

“Investors are currently paying $28.90 for every $1 that Duke Energy earns,” says Zach. “In 2006, investors paid only about $5 for every $1 of DUK earnings.”
How about a consumer staples name? Check out the P/E ratio on that bluest of blue chips, Procter & Gamble…

“Procter & Gamble’s P/E ratio is 26.33. In 2012, that figure was closer to the 17-20 range. And in 2009, its P/E ratio dropped below 12.50.
“Relative to its historical valuation, PG is expensive right now. Why? Its shares have been in high demand as investors reached for its attractive dividend yield.”
  Stresses are already showing in utilities.

XLU — the big utilities ETF — topped in late January. That was right around the time Treasury rates started turning up.
“As interest rates move higher,” Zach explains, “conservative investors start moving their cash out of dividend stocks like utilities and into safer investments such as CDs and savings accounts. If yields move higher, they can earn similar income with less risk.”
Since then, rates have come back down… but XLU hasn’t come back up.
Canary in the coal mine?
“I believe there is a lot of downside risk in utilities and consumer staples stocks at the moment,” Zach concludes. He’s keeping his Lifetime Income Report readers out of names like Duke, Exelon, P&G and Coca-Cola. “By avoiding these stocks, you can take an active step in minimizing your risk and protecting the capital that is critical to generating your income.”
[Ed. note: So far in March, Zach has shown his premium subscribers how to collect $1,137 in income. That’s on top of $4,184 in February.
You can collect hundreds of dollars at a time, with as little as two minutes of effort.
That’s a big claim. But we have proof — video of people just like you pulling down a handsome payday. Check it out at this link.]
  A quiet day so far for U.S. stocks: As noted earlier, the S&P is within shooting distance of its all-time high — up three points as we write, at 2,111.
The Dow is also in the green, barely. The Nasdaq is in the red, barely.
“Even though the standard old advice of ‘Don’t fight the Fed’ is pretty overused, it’s also very true,” says Jonas Elmerraji of our trading desk — who points out the Fed juiced the S&P 2.7% last week. “U.S. markets had been correcting for three straight weeks. There were a lot of bored buyers ready to step in and push stocks up.
“No matter how you may feel about what’s happening in the markets — or what might happen down the road — trying to bet against the Fed’s next move typically ends in tears.
“Anyone who doubted the stock market’s buoyancy in 2009 found that out the hard way — the Fed wanted stocks to move higher, and they have. I still have my doubts about the Fed’s ability to hike rates in the first half of this year, but there’s no way I’d put money on that at this point.
“Doubt the Fed? Yeah, sure.
“Fight the Fed? Never!”
  Gold keeps inching its way back toward $1,200. At last check, the bid was $1,186. Crude is also holding onto last week’s gains — now only 9 cents away from $47.

  Another day, another supporter of the Asian Infrastructure Investment Bank.
As we’ve chronicled for more than a week now, China’s potential competitor to the U.S.-dominated World Bank has been lining up big member nations, eager for access to growing Asian markets. Germany, France, Italy and Great Britain all want in. A “fiasco” for the United States, declared The Economist.
Now International Monetary Fund chief Christine Lagarde says the IMF would be “delighted” to do business with the AIIB… and there’s “massive” room for cooperation.
Mme. Lagarde delivered this message in Beijing… at the China Development Forum. Heh…
As we mentioned last Monday, the IMF decides next fall whether to change the makeup of special drawing rights (SDRs) — the super-currency the IMF issues periodically during financial crises. China is lobbying hard to have the yuan added to the mix along with dollars, euros, pounds and yen.
“This will likely happen in September,” says our Jim Rickards, “and may cause a weakening of the dollar in the years ahead. A weaker dollar means more inflation is the U.S. This is an important development for investors to watch.”
[Ed. note: September is only six months away. For now, everyone is laser-focused on dollar strength and deflation. Will you be ready when the tides shift?
Now’s the time to grab your copy of Jim’s new book The Big Drop: How to Grow Your Wealth During the Coming Collapse. It’s an Agora Financial exclusive — still free, if you can cover shipping and handling charges. Details here.]
  And now we bid farewell to the man who made feral hogs a thing in The 5 for a few memorable days in 2013.
We don’t have much truck for central bankers around here… but at least Richard Fisher had a knack for plain-spokenness and pithy metaphor.
Fisher ran the Federal Reserve Bank of Dallas from 2005 until his retirement last Thursday. We gave him props three years ago for a report pointing out the too-big-to-fail banks had gotten bigger since the Panic of 2008.
The New York Times did a piece over the weekend that read like an obituary. It increased our grudging respect for the guy. For one thing, he’s not an economist. For another, he had both CEOs and small-business owners on speed dial — aiming to get a better pulse on the economy than could be had from government data and Fed statistical models.
“My local dry cleaner, I would say that if you took him and put him against the whole Fed staff in terms of forecasting, he’s been far more accurate.”
  But it was in June 2013 that he gave us two months of running feral hog gags…

“I do believe,” Fisher told the Financial Times, “that big money does organize itself somewhat like feral hogs. If they detect a weakness or a bad scent, they’ll go after it.”
Feral hogs are a big nuisance in Texas. Fisher was using the metaphor to warn markets the Fed would not keep propping up the economy indefinitely. Essentially, he was playing bad cop in the Fed’s good-cop-bad-cop routine of managing market expectations.


How Richard Fisher viewed Mr. Market in 2013…

Readers wrote in for days, enlightening your urbanite editor. “Feral hogs are quite as tasty as the domestic kind,” wrote one, “and free food if you’re up to the challenge of hunting them. They’re also quite ferocious and have been known to reverse the process, i.e., hunt and eat the hunter. Rather like politicians.”
  “One of your readers said, ‘Don’t you know we always outsmart ’em [the Chinese], every time, all the time?'” reads the first entry in our mailbag — following up on our shifting-world-power thread of recent days.
“Yep, we outsmarted them alright — we got our hand on the flush lever. Doesn’t matter, they’re also making mistakes. They are ascending, and we are descending on the world stage. Two hundred and fifty years to line up those dominos.”
  “In the past, Jim Rickards has recommended buying silver and gold coins,” writes one of Jim’s Strategic Intelligence readers.
“In particular, he mentioned a ‘Monster Box’ of silver coins that the U.S. Mint sells. When I check the U.S. Mint website, it says that they do not make sales to individuals.
“What is your recommendation for how an individual should purchase gold and silver coins? Thanks for your help.”
The 5: Indeed, the Mint sells only to a dealer network it calls “authorized purchasers.”
Our favorite source for a Monster Box — and other precious metals — is the Hard Assets Alliance. Agora Financial became a charter member in 2012. The premiums are reasonable. And for sheer ease of use, you can’t beat the Hard Assets Alliance website. If you’ve ever been frustrated buying precious metals online, you’ll find Hard Assets Alliance refreshingly different.
You can take delivery of your metal or have them store it for you in one of six vaults — four of them overseas. You can learn much more right here.
Full disclosure: We might be compensated once you fund your account. But we wouldn’t recommend Hard Assets Alliance if we weren’t impressed by the work they do.
  “C’mon, man,” writes a reader, channeling the Monday Night Football crew. “Do all the animated inserts you want. They are even sometimes clever and funny.”
We had a reader complain on Friday about our first foray into a GIF of the sort favored by colleague Chris Campbell at Laissez Faire Today. Now comes the pushback…
“I love Chris’ animated GIFs!” writes another. “And I am a stuffy 45-year-old banker. Nothing better to lighten up a morning than some silliness. Kudos to that youngster Chris for bringing laughter back to the finance biz.”
The 5: We’ll pass it along. But we’re content to let it be his signature and make use of it sparingly ourselves.
Really, you don’t want to see a feral hog charging at you on your screen, right?
Best regards,
Dave Gonigam
The 5 Min. Forecast
P.S. Congratulations to readers of The Rude Awakening PRO. Greg Guenthner urged them to take profits on three recent recommendations — the big biotech ETF for 15% gains… a health care ETF for another double-digit gainer… and 7% on the Russell 2000 ETF.
Not bad at all. For access to Greg’s daily trading guidance, look here.

Dave Gonigam

Dave Gonigam

Dave Gonigam has been managing editor of The 5 Min. Forecast since September 2010. Before joining the research and writing team at Agora Financial in 2007, he worked for 20 years as an Emmy award-winning television news producer.

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