The Weekly Summary
While it feels increasingly quixotic to stay focused on Washington as the November election recedes day by day into the past, it's worth taking one last moment to highlight how well our stocks have done since the first votes came in six weeks ago. The BMR universe is up 18% since November 3. Clearly investors are looking forward to the future or at least willing to let go of fear, recrimination and regret. The new year is coming and Wall Street will always find a way to make money in any political environment. When Washington pushes, Wall Street pushes harder to generate results. We've seen the process play out for decades.
In the meantime, we can probably look forward to a year without COVID now that FDA-approved vaccines are being distributed. The virus can mutate and we may need multiple shots before we can all start congregating again, but this is progress. Every shot takes us closer to recovery. That's good for all the companies that remain practically shut down or on dramatically reduced operations to reduce opportunities for the virus to spread.
We've already seen full airports and busy mall parking lots this season. Nonetheless, there is a lot of pent-up consumer demand waiting to be satisfied when the world reopens. Kids want to travel. They want to go out. Everyone is tired of hanging around the house. And people want to work. While stimulus may be needed to fill the gaps, the path back to full employment is opening day by day.
As depressed as the 2020 numbers were, year-over-year comparisons for many sectors are going to be amazing when 2021 picks up the torch. Nominally "sluggish" areas of the economy like the Banks are looking at 20% earnings expansion in the coming year. That's healthy growth anywhere you care to look. While it won't completely repair the long-term trends, it will go a long way. And it will probably feel good.
Please reach out with any questions or concerns. Write Todd Shaver directly at Info@BullMarket.com. His goal is to respond quickly and give you his thoughts on the markets in order to help you through wrestle through your concerns.
There's always a bull market here at The Bull Market Report! This week we're focused on our Top Stocks For 2021 in both the main newsletter and The High Yield Investor. The list is actually a little defensive. We want to be open to anything: upside, downside or a rollercoaster in between.
Gary Jefferson has the week off, so The Big Picture takes over his rhetorical high ground with a look at our "targets" for the market as a whole in the new year. Everyone else is doing it, so we thought you would find it helpful to get our sense of the overall market tone in 2021. But of course we prefer looking at our own recommendations . . . let "the market" do what it wants!
Key Market Indicators
BMR Companies and Commentary
The Big Picture: Realistically Bullish Expectations
As we approach the end of a rollercoaster year, the shock and relief have added up to something like "normal" performance for the market as a whole. If you were heavily weighted in Big Tech before the pandemic, you've experienced something like a boom. But if for some reason you thought Amazon and Apple in particular were overdone a year ago, you've absorbed a lot of shock without getting a lot back in return.
These two stocks explain the divergence between the Dow industrials, which don't even give Amazon membership, and the Nasdaq, where Apple and Amazon together account for a staggering 25% of the entire universe by market capitalization. Add Microsoft and the math gets even more top heavy. Alphabet and Facebook, neither of which plays a role in the elite Dow list, round out the Big Tech group. The Dow is barely up 6 percentage points this year. The Nasdaq has given investors 7 times that return.
But the S&P 500 is our preferred speed gauge on "the market" as a whole. It's up 15% YTD, reflecting healthy exposure to Big Tech as well as the pre-COVID economy that suffered so much in the early pandemic phases and remains on life support while the Fed works its healing magic. That 15% gain is probably a lot closer to the typical investor's 2020 experience: far from disastrous but not really creating overnight fortunes either. Investors aren't hurting. They're making steady money. If anything, we're detecting a lot more greed than fear as 15% in a recession no longer feels satisfying compared to the theoretical results available elsewhere.
If we were here for the maximum short-term win, we probably would have skipped 95% of the S&P 500, concentrated our bets on Apple and Amazon and scored 2020 with a 70% profit. That's just not our style. For one thing, it's boring. We like having dozens of companies on our list because each gives us something new to talk about. And we know that the market is all about rotation: today's stars become tomorrow's slumps as money pivots from theme to theme. Right now, Apple and Amazon are hot. Next year, we could be the ones holding dead money unless we broaden our horizons.
We love Amazon and Apple for the long haul, of course. They're both persistent members of our Stocks For Success portfolio, where they've given us substantial end-to-end performance. And while we aren't counting on Apple matching its 2020 trajectory next year, Amazon has earned a slot in our Top Stocks For 2021 rankings as well. However, we never count on any single stock (or even a handful of stocks) to do all the work. We want to make sure our money keeps working as hard as it can, year after year.
Besides, while it pains us to brag, if we'd built a BMR portfolio around only Amazon and Apple, we would have missed out on our real 2020 wins. "Boring" old PayPal is up almost 120% this year, eclipsing both of the trillion-dollar titans we're talking about today. Tiny Bill.com is up 140% since we added it to the Aggressive portfolio in February and DocuSign is up 230% since January. TPI Composites: 173% YTD. Roku, ServiceNow, Shopify, Spotify, Square, Twilio are all up at least 100%. In fact, the entire High Technology portfolio as a whole is up 111% YTD. We'd rather be in these stocks than Apple or Amazon.
But the market keeps twisting. If Technology remains triumphant in 2021, we're covered. If the mood gets even a little cooler, a Tech-only investor might not feel so cheerful, looking longingly instead at Real Estate, Healthcare or some other theme back in the "old" economy. Don't forget, we're still in a deep recession. A strong defense can be a lifesaver in choppy waters.
And that's why broad benchmarks like the S&P 500 exist. Themes come and go but a basket built out of the biggest companies around is probably a great proxy for "the market" and the economy as a whole. If you want full all-weather exposure to U.S. corporate dynamism, that's the index fund to own.
Where do we think the S&P 500 is going in 2021? We've done the math and index fund investors can probably look forward to a 10-15% return. That's what they've earned across the last four-year period and it's pretty close to average large-cap stock performance going back to the 1920s. While there's always a chance that the market will swing lower like it did in 2018, the Fed will probably step in to prevent serious bear market gloom. We know that now. Stimulus in one form or another will continue until stocks can stand on their own again.
Of course our target here reflects a rotation back into the side of the market that remains depressed until the vaccine starts working and the country opens up again. That's Real Estate. It means Banks and Specialty Finance, the kinds of companies our Private Equity recommendations own. We know that Special Opportunities will emerge. Maybe we'll add Retail stocks. Maybe we'll dabble in Hospitality or even go back to Energy under the right conditions. Aerospace, Defense, even Manufacturing can all become attractive in the coming year.
Does the Nasdaq have what it takes to match (or even exceed) its 2020 performance? We aren't hugely optimistic, but we like the stocks on our list now. If Big Tech keeps growing, we're in great shape. And if Little Tech keeps changing the Silicon Valley landscape, we're in even better shape. Our companies are where the growth is, regardless of which sector the index makers put them in. We're looking forward to it. Even if the Nasdaq as a whole has peaked, we'll find the hot spots.
Amazon (AMZN: $3,202, up 3% last week)
Normally big stocks move slowly, but Amazon has the scale and the speed to not only soar 72% YTD but lift the entire Consumer Discretionary sector along with it. That’s right. Never forget that while the company Jeff Bezos built was originally classified as a Technology stock, it’s officially the king of Retail portfolios now.
That pivot is a big reason we suspect Amazon is best positioned of all the trillion-dollar giants* to extend its gains in the new year. While locked-down households bought more online when the pandemic hit, the sales boost really only accelerated the company’s intrinsic growth path by a year or so. For all practical purposes, we’re looking at the Amazon of 2021 today and are now ready for the numbers we thought we’d need to wait until 2022 to enjoy.
*Apple, Amazon, Google, Microsoft
We expect revenue to climb 18% in the new year to a staggering $450 billion, closing in on brick-and-mortar behemoth Walmart. Earnings are on track to grow 30%, which provides some relief from what were once stratospheric (but deserved) multiples. Before the pandemic, this was a 75X stock. If all goes as anticipated, Amazon is available now for “only” 71X 2021 earnings.
BMR Take: We know what the market will pay for Big Tech growth. Amazon still has what it takes, and the math suggests $4,000 won’t be out of reach for long. If you own one Silicon Valley giant in the new year, this is our choice. (But of course there’s nothing preventing you from owning them all – see below.)
Zoom Video Communications (ZM: $406, up 2%)
Before the pandemic, Zoom was a $68 stock worth $19 billion. Now the company is a $115 billion fixture of the modern Technology universe and its name has become a household word (in fact, a verb – “please zoom me tomorrow”). That’s the kind of breakout success we appreciate.
Admittedly, we weren’t in Zoom before the pandemic because it was just another online collaboration stock with an uncertain future then. The growth we want to see just wasn’t there. At nearly 400X earnings, there was more hype there than anything else.
But in a post-COVID world, this is now the networking application thousands of businesses reach for by choice. Zoom has emerged as a winner in the streaming meeting wars and our revenue forecast for 2021 has tripled in the last 12 months, lifting our full-year EPS target from $0.30 to $2.50 in the process. We weren’t expecting these numbers before 2024 at the earliest.
BMR Take: We made Zoom a Special Opportunity because while it rallied a long way in the pandemic, it’s also come down a lot from its COVID peak. This was practically a $600 stock as recently as October. All it takes is a reversion to our $570 Target to make BMR subscribers happy, and with the fundamentals improving week by week there’s no reason to think that will be the ultimate ceiling.
Bill.com (BILL: $148, up 3%)
Most will admit that this company’s first year as a publicly traded entity was a trial by fire. A truly fragile enterprise would have buckled under the headlines, but Bill.com excelled. BMR subscribers are up 140% since we launched coverage in February, when the stock was only a few weeks old and the pandemic was virtually unknown.
In our view, 2021 is the time when we see what it can really do. After all, full-year revenue barely cleared $100 million when Bill.com went public. A year later, the run rate is 50% above that level and management is confident with raising the sales curve, although flattening a bit, a strong 30% in the coming year.
A lot of small Tech companies scored that kind of growth when the COVID shock forced the world to embrace new operating models on the fly. What separates the long-term winners from the rest is their ability to build on that one-time boost and show us continued year-over-year progress. Bill.com is on that track.
BMR Take: This business is sticky and essential. If companies can’t find a way to pay the bills and charge customers when the accountants can’t go into the office, they’re in trouble. Bill.com has proved that it can make that happen. Now that virtual operations are the new normal for many companies, relationships spawned in the pandemic aren’t going away. And with a 77% gross margin, it doesn’t take a lot of growth to translate into profitability.
Teladoc (TDOC: $196, down 2%)
We always recognized the long-term potential of Telehealth but it took a pandemic to raise awareness to the point where stocks like Teladoc became worthwhile. Year after year, this company remained volatile and misunderstood, taking months to make real progress between crises of confidence.
Wall Street just couldn’t figure out how virtual doctor visits could ever graduate from a niche medical solution to the mainstream. That was before the virus closed brick-and-mortar clinics to all but the most desperate patients and forced everyone with more routine complaints to schedule a video appointment.
Here we are now. Virtual consultations are now part of most doctors’ compensation framework. The insurance companies have figured out how to charge for Teladoc services and they’ve discovered in the process that the online appointment is far more profitable for just about everyone in the Healthcare chain of command. The doctors no longer need to maintain costly on-site operations. They can weigh in from anywhere. And they can bill for every minute of their time.
This is the future. All it took was a nudge to double revenue in 2020 and elevate Teladoc out of the theoretical start-up zone. This is now a company booking $1 billion a year in sales. We see no reason why it won’t double again in the next 12-18 months.
While we launched coverage on Teladoc close to the last peak, the stock has held up relatively well in the intervening months. A few years ago, these cyclical downswings would take 30-50% away from shareholders before the bulls felt safe to come back.
BMR Take: Here below $200 we see real value. After all, our $252 Target is actually a little conservative compared to Wall Street’s consensus . . . there are people who argue convincingly that this should be a $300 company at least. Give it a year or two and we’re confident we’ll see a 3 in front of the stock.
Twilio (TWLO: $365, up 7%)
In October, after hitting $339, Twilio plunged a harrowing pre-earnings 25% that tested the nerve of many shareholders acclimated to the messaging stock’s seemingly unstoppable trajectory. We got a lot of questions: would Twilio ever top $340 again?
Here we are at $365 and hunting new records day by day. The October earnings report revealed no cracks in the growth narrative. If anything, the numbers were much better than we expected. Twilio not only blew our year-over-year sales growth target away ($447 million for the quarter is 50% above last year) but defied our prediction that quarter-to-quarter revenue had stalled.
And once again, the company is profitable at this scale. Any growth momentum from here only expands existing efficiencies, increasing the impact of every sales win on the bottom line. People who think Twilio will go back to bleeding cash in 2021 are likely to be disappointed.
BMR Take: We’ve loved Twilio at $52 back in 2016. That was nearly 600% in profit ago (7X). And now we need to raise our Target once again. Let’s see how long it takes to crack $400. The new Sell Price is $310. (Of course, we believe this one can reach $1000 share some day. We can’t say when, but we’d take 2025 or 2026. That would be close to a 20X in 10 years. Now wouldn’t that be nice.)
Kraft Heinz (KHC: $35, up 2%)
We said this list of Top Stocks for 2021 would have a slight defensive bias and here’s where nervous investors should focus. Kraft Heinz is as conservative as it gets, which is why Warren Buffett owns 27% of the company. He refuses to sell, even though its accounting mistakes embarrassed him early on.
Those mistakes were resolved years ago, leaving us with a Consumer powerhouse that isn’t growing fast but isn’t losing appreciable ground either. Earnings in the pandemic year were flat through all the disruptions. Revenue edged up 4% to a healthy $26 billion.
From here, the future looks good, and the odds are that the market for comfort food is not going to deteriorate. Happy people in a good economic environment eat well. Depressed people in a recession eat value-oriented food like the household favorites Kraft Heinz made famous: packaged macaroni, hot dogs, condiments and do-it-yourself desserts.
BMR Take: This is a great place to park money and earn a 4.6% dividend. That’s good enough for Buffett and it’s good enough for us. And as management keeps rebuilding, never forget that Kraft Heinz was a $98 stock just four short years ago. We came here at $29 back in May. Our $50 Target remains in place.
Visa (V: $211, up 2%)
Another of our more “defensive” recommendations, Visa has nonetheless shown plenty of star power, tripling since we first added it to the Stocks For Success portfolio four years ago. The world is not going to let this company down. And there’s a good reason for that: the business of money itself is incredibly lucrative.
Visa runs transactions worth about $1 trillion a month across its credit and debit networks. While the company only rakes back a small percentage of that money in the form of merchant and customer fees, roughly half of that revenue turns into profit, which keeps the bottom line inching up with the global economy, year after year.
Volume in 2020 is up 6% despite COVID dislocations and we’re looking for bigger numbers in 2021 when normal comes marching back. That’s enough to maintain our interest.
BMR Take: Cash is Visa’s only real competitor in a landscape dominated by a handful of largely cooperative card networks. The pandemic was not good for dirty old cash. We’re looking for electronic payment to continue capturing a larger share of overall economic activity in the years to come. Our $230 Target stands and we would not sell Visa. Period.
Johnson & Johnson (JNJ: $155, up 1%)
Our realization that “Treasury is trash” as long as the Fed has its finger on interest rates (and its eyes on reviving inflation) has one obvious beneficiary: Johnson & Johnson, which has maintained a better credit rating than the U.S. government and pays a sustainable 2.6% yield. Nothing the Treasury prints can compare in terms of risk or returns.
We’ll talk more about this in the High Yield Investor, but the basic calculus is simple. The Fed has stated repeatedly that Treasury yields won’t go up until inflation trends above 2% a year. Adjusted for inflation, yields across the maturity curve are already well below that level, which means an investor is going to lose purchasing power by the time he gets his principal back.
And unlike fixed-income investments, companies like Johnson & Johnson can generate more cash to make bigger shareholder payments over time. We’re looking for 12% earnings growth here next year and at least 30% between now and 2024. Currently paying $4 in dividends a year, by that point, there’s going to be $10 a year to split between dividends, buybacks and corporate initiatives. Patience here is key. Buy and hold this one. Forever.
Talcum powder lawsuits have been settled. While it cost $100 million, the cloud and its associated legal costs are now receding into the past. When some were worrying that Johnson & Johnson would ultimately pay $10 billion in court, we were confident then and are thrilled to see the final price tag coming in at just 1% of that estimate.
BMR Take: As a stock, Johnson & Johnson offers reasonable value at 17X earnings . . . a bargain compared to the broad market. But as a bond replacement, the company’s dividend trail and world-class credit rating make it priceless. Ten years ago, shareholders got $0.54 per share quarterly. Those who bought in at $64 are now earning close to 90% more passive income as their effective yield swelled above 6%. All they have to do is hold on. That’s where we want to be. Our $168 Target is already in sight.
Square (SQ: $235, up 9%)
In March, we’ll celebrate the third anniversary of starting coverage of Square as an obscure $17 stock. At the time, all Wall Street really knew was that the company facilitated credit card transactions on mobile devices, replacing the fixed Point-Of-Sale swipe reader and giving vendors the ability to check customers out anywhere.
Since then, Square software has taken over the Retail world. Boutiques and restaurants threw out their cash registers and gave staff tablets to run transactions on the go. Outdoor festivals, carnivals and farmer’s markets finally found a way to accept plastic.
And when curbside shopping and at-home delivery took off, Square was there in the car, moving the money without forcing anyone to risk face-to-face contagion. Add it all up and the little company we noticed at $17 doing $2 billion a year in sales is now looking at a $9 billion run rate for 2020 and another 30% revenue expansion in 2021.
That’s huge. While it’s been an expensive journey after acquiring many companies in the past years, CEO Jack Dorsey insists on maintaining profitability under all but the most extreme operating conditions. Now, finally, efficiencies are emerging that will take revenue gains down to the bottom line. We believe earnings can quadruple in the next few years.
BMR Take: We’re a long way from $17 but even a 1,260% three-year gain isn’t quite enough for Square. Here at $230, yet another Target has been crushed. We’re raising to $262, which means our Sell Price needs to climb to $200 to protect your nerves and your profits.
Our Top Stock For 2021: New Residential (NRZ)
When last we looked at New Residential for you it was November 2. Here are a few of the things we mentioned:
- New Residential Investment authorized the repurchase of up to $100 million of the company's preferred stock, which includes the 7.5% Series A, the 7.125% Series B, and the 6.375% Series C Preferreds, through the end of 2021.
- In addition, the company has recently commenced purchases of its common stock in the open market under its existing common stock repurchase program, and is also prepared to begin purchases of its preferred stock.
This is very good news. But the best news of all was when the CEO of the company, Michael Nierenberg announced in the conference call discussing the third quarter results, that he believes the book value of the company is between $16 and $19 a share. We were shocked to hear him say that and went back and listened to it again and again. That’s what he said! The book value at September 30 was $10.86, with the stock trading at $7.60.
In the last seven weeks, the stock has moved to the $10 level. We can’t be more pleased. But what's NEW?
On November 2, we also said that “we fully expect the dividend to be raised to the $0.80 to $1.00 level on or around December 23.” Well, we were off by a week. The company raised the divided to the 80 cents level on December 16 a week early!
Our next prediction is that the dividend will be increased to $1.00 a share on March 16-23, 2021. Mark this down in your calendar!
As to 2021, we are hopeful that the company can raise the dividend to the $1.50 level by the end of the year. If this were to happen we would expect the stock to approach the $15 level again, a full 50% above where it is trading at now.
Here’s something else new: On November 26, New Residential submitted a draft registration with the SEC for an IPO of its mortgage lending and servicing arm New Rez LLC. This in and of itself could add as much as $4 a share in book value. It is a “confidential” filing, so no one knows the details yet, so stay tuned. But it tells us that management is ACTIVELY WORKING to increase book value – a very good thing.
New Rez has been a fast grower, with full-year 2020 pretax income seen at $840 million vs. $220 million a year ago, according to the Q3 investor presentation. The servicing portfolio is expected to rise to $300 billion from $210 billion and origination production volume from $22 billion to $60 billion. With mortgage rates at historic lows (a 2.35% interest rate on a 15 year loan!), we believe they can hit their targets.
Plus New Residential has formed at least four joint ventures in the past year to expand its mortgage operations in various parts of the U.S.
New Residential has changed their business plan in 2020 due to the virus disrupting the markets that the operate in. It has historically been an originator of mortgages that don’t fall within the government's qualified mortgage (QM) safe harbor rules*. These loans were called Alt-A 10 years ago, and are risky loans. This year, the company left the non-qualified mortgage lending business and is now focusing on conforming lending (loans that are guaranteed by the government), which are much more liquid and can be purchased by Fannie Mae and Freddie Mac, the big US Government quasi agencies. We couldn’t be more pleased.
* Under qualified mortgage rules, “safe harbor” provisions protect lenders against lawsuits by distressed borrowers who claim they were extended a mortgage the lender had no reason to believe they could repay.
We believe that the market is ignoring the value of the origination arm. In fact, on its third-quarter earnings conference call, New Residential laid out its case that the stock is undervalued. The company argues the mortgage company should earn anywhere from $640 million to $670 million this year after taxes. Assigning the operating company a PE multiple of 5-6 times gives the mortgage and servicing arm a valuation of $5.50 to $7.50 per share. The non-banking operations have a book value of $10 per share, so if you add the two together, the entire company could be worth $15 or more.
If you want to get more conservative but still enjoy the high dividend and have room for capital gains, take a look at the three preferreds. The Series A, B and C, as mentioned above. They have coupons from 6.37% to 7.5% and are trading at a discount from the $25 that they trade at in normal times. Thus they are paying north of 8% dividends and have room to grow 15-25% in price as they slowly move back to $25 a share.
Note: Todd Shaver has positions in the common stock and the three issues of preferreds.
The High Yield Investor
The Bull Market Report
While the Fed’s efforts to support the credit market have been a boon to existing bondholders, we no longer see any incentive to buy new Treasury debt until Jay Powell and company feel confident enough to relax. The logic is simple but the ramifications can get a little complex.
Treasury debt already pays less than ambient inflation unless you decide to lock in 30-year coupon rates, which pay 1.7% compared to a 1.6% core CPI trend. This means that if prices keep climbing at their current subdued rate, your purchasing power will deteriorate by the time your paper matures. You aren’t sacrificing a lot of wealth, but you definitely aren’t making any money on the coupons either.
And you remain exposed to any uptick in inflation while you hold those bonds. The Fed has committed to maintaining the current rate environment until seeing at least 2% annualized price increases for an extended period, at which point everything on the yield curve would generate negative real returns even if inflation remains at that lowest “acceptable” level. There’s zero guarantee that a declining dollar, easy credit and a reviving post-vaccine economy won’t trigger at least a short burst of 3% inflation or worse before the Fed steps back in to tap the brake.
Admittedly, the allure of Treasury debt is that default risk is minimal. You’re going to get your money back at the end, plus regular interest payments along the way. The big drag is that if you hold to maturity the dollars you get back don’t stretch as far as they did at the beginning. In that scenario, you’re guaranteed to lose money in these assets. After all, the income they provide is “fixed” when issued. It’s never going to get any bigger.
You’re locking in your rate if you buy Treasury debt today. Buy 5-year bonds today and you’ll lose a net 7.5% of your principal when you cash out in five years, assuming the Fed isn’t able to nudge core CPI beyond its minimal current level. That’s a big risk. You’re effectively sacrificing 7.5% of your wealth in a bet that the Fed will fail to get what it wants.
While we always like a cushion of income-producing assets in the portfolio to protect ourselves from market shocks, we remain optimists by nature. We know the Fed always gets what it wants, sooner or later. Inflation will rise. And that means locking in negative returns is a bad decision now that will only get worse as the economy recovers. That’s why we urge BMR subscribers to hunt positive fixed returns that can realistically protect their wealth from even a brief inflationary spike.
Stock dividends are far from a perfect substitute for Treasury coupons. For one thing, there’s no guarantee. Corporate management can always reduce or suspend the dividend and these decisions generally coincide with rough economic cycles, cutting off our cash flow at exactly the moment we need it most. But unlike true fixed-income instruments, companies can raise their dividends just as easily as they can cut back. It takes some corporate growth across the cycle to leave shareholders in a better position than when they started. And naturally, if the stocks themselves rally in the meantime, you can sell and recoup more than what you initially invested. That’s always the goal.
With that in mind, we’d like to spotlight a few Top Income Ideas culled from our High Yield portfolio. We’re taking an especially defensive posture here, assuming the worst and planning our recommendations accordingly. If the world stays unsettled, these investments should stay ahead of inflation . . . which makes them a worthy replacement for maturing Treasury debt in your portfolio. A brighter world should translate into bigger payouts and better outcomes. And of course, if the world changes, we’ll let you know.
PIMCO Dynamic Income Fund (PDI: $27, up 2%, baseline yield=9.9%)
The only number that matters is $0.22 per share, which is what the fund managers here have managed to pay shareholders every month for the past five years. That’s our baseline income expectation. At $27, that translates into a 9.9% yield, which is not guaranteed but there’s little historical evidence that it will be cut below that level in the near future.
If anything, we expect management to raise the dividend over time. For one thing, that monthly payout wasn’t even $0.18 per share back in 2012, so there’s room in the operating model to keep up with ambient inflation. Furthermore, the fund usually returns another 3-10% in capital to shareholders at the end of a good year. Last year and 2018 were not great, but even then, the extraordinary year-end dividend added up to an extra 2% or so in yield . . . again, enough to stay ahead of inflation, which is what we want here.
We aren’t anticipating any extraordinary dividend this year. If it happens, it will be a bonus. While there’s always the risk that management will liquidate assets in order to make payments, that hasn’t been the case here. We came to this fund at $26 four years ago and have cashed $10.18 in dividends. Granted, the stock itself hasn’t moved up much, but we haven’t needed to sell, so it doesn’t matter. If we needed to get our capital back, however, all we would have needed is a little patience.
AllianzGI Equity & Convertible Income Fund (NIE: $28, up 2%, baseline yield=4.0%)
The track record here is not as consistent. But while we know management will cut the dividend to conserve cash in extremely difficult situations, history provides a good sense of what that worst-case scenario looks like. Back in 2009, in the unsettled wake of the great credit market crash, AllianzGI decided to cut the quarterly payout in half. In our view, that’s as bad as it gets. If for some reason the economic environment deteriorates that far, we don’t anticipate getting less than $1.12 per share back next year, which translates into a 4.0% worst-case yield.
That’s a long way from where the world is now. AllianzGI has managed to pay $0.38 per share every quarter since 2015. We’ve been here since early 2016 and cashed $7.60 per share in dividends. During that time, the market has corrected several times, with a bear market and a full-fledged yield curve inversion during that time. Now, nearly a year into the COVID recession, the payout hasn’t felt any overt pressure at all.
Does the fund look a little overextended? Definitely. But it’s still earning $3.88 per share and paying out less than half of that every year. Net Asset Value keeps rising. In the 2008 disaster, the portfolio was briefly worth about $10 per share on a liquidation basis, but even the recent yield curve inversion wasn’t enough to take NAV below $20 for long. You’ll get your capital back with almost as much confidence as you would with a bond. All you need is a little patience, which is what those dividends provide.
Todd Shaver, Founder and CEO
The Bull Market Report