Yield temptation
DIVIDEND INVESTING DOESN’T HAVE TO MEAN CHASING THE BIGGEST PAYOUT.
Just because you’re a dividend investor, it doesn’t mean you have to chase yield. Income can be found in every sector, but many dividend strategies are lopsided in terms of where the yield is found, often favouring interest rate- sensitive areas like utilities and telecom.
Sri Iyer, portfolio manager at Guardian Capital, which acts as a sub- adviser to the BMO Global Dividend Fund, believes a much better strategy is to go outside this traditional comfort zone.
“You don’t want to play that tactical timing game when U. S. rates start to go up,” he said, highlighting the roughly 90- name portfolio’s recent shift away from the banking sector.
Particularly in Europe, very low interest rate policies from the ECB have made it difficult for banks to generate high levels of free cash flow. Insurance companies, particularly those in the reinsurance, and property and casualty space, are much more attractive to Iyer.
“They have strong balance sheets and are able to price their products very com- petitively on a global scale,” he said, noting that most European insurers pay yields between four and seven per cent.
“So rather than look for capital market exposure in Europe, where you want to hide out and capture income is in the global insurance space.”
The fund has positions in names like Swiss RE, Scor S.E. and Munich Re. The latter, a German- based global reinsurance franchise, has replenished most of its balance sheet since the 2008 sub-prime crisis.
Iyer doesn’t think the market has recognized this yet, and as a result, is not paying a premium for companies like Munich Re.
“That’s because investors view Europe with a broad lens, but this company has good revenue generation, strong pricing power, and its global footprint is growing, so the sustainability of the dividend is high,” he said.
Validus Holdings Ltd. is a U. S.- based P& C insurer that doesn’t pay a lot of yield, but was targeted as a way to protect the portfolio during market downtrends.
“That’s where the focus needs to be as we see a lot of turbulence in global mar- kets,” the portfolio manager said. “It’s part of a shift away from higher- beta momentum names, into more defensive names that pay a sustainable dividend.”
This approach doesn’t mean Iyer is avoiding growth- oriented companies, particularly those in the technology sector.
Whereas investor focus had been with high-yielding names such as Seagate Technology PLC and other semiconductor stocks with big dividend payouts, he sees a much better opportunity in companies such as chipmaker Avago Technologies Ltd.
“We want to be where the puck is going, not where it is or was,” Iyer said, noting that Avago is a good way to play the shift from high density drives in desktop computers, toward solid-state drives that power devices like tablets.
Avago only pays a dividend yield of about two per cent, but Iyer is confident that its payout is both sustainable and able to grow in the future.
He has a similar approach to the energy sector, where the fund is slightly underweight compared to the MSCI World Index’s roughly seven-per-cent exposure.
“We are being extremely choosy in getting back into energy,” Iyer said. “But not being in energy right now and speculating that oil will go down to US$20, becomes even more risky.”
As oil prices start to see some signs of stabilization, Iyer has begun to cherry pick names that he thinks will do extremely well down the road. That includes Statoil ASA, which recent kept its dividend unchanged and has among the highest leverage to oil prices in the global energy space.
“We want to make sure we don’t time ourselves out of the ability to create sustainable income from the energy sector,” Iyer said.
He also been adding to the fund’s telecom exposure, but avoiding high- yielding names in the U. S., highlighting European- based Swisscom AG, Israel’s Bezeq, and Spark New Zealand.
These stocks pay yields of roughly five per cent and Iyer believes they also offer good downside protection.
“These are high yielding stocks, but they are in countries that are not raising interest rates,” he said. “If anything, they are cutting rates and printing money.”