Friday, March 11, 2011

Chevron a study for income investors

In want to treat Chevron as a learning laboratory for income investors
to use to compare a dividend machine and a 5 year treasury.
When I started investing had just earned my MBA from Pepperdine.  The year was 1981 and the 5 year treasury yield was 13.95%.  My first mortgage was 13.75%.
At that point it was not difficult to decide where to put your money.

  When you could get insured, safe income, from a treasury bond of 13.95% and only had to commit your money for 5 years, the decision as to where to invest was not difficult.  With a compounded yield of only 7% your money doubles every 10 years.  Do the math and you realize how quickly your money grows at 13.95%?   I owned very few stocks and a load of bonds.   No safe stock paid a dividend even close to 13.95%.
Of course the other side of this picture is that we were in a very inflationary environment; the cost of everything was going up, up, up.  However, if a retired person put all their money in 30 year treasuries, over the next 30 years not only would you have made that coupon, your opportunity for capital gains was huge.  Remember as interest rates fall as they did for 30 years, the value of the bond increases.  How sweet it was.
But by the time I bought my first shares of Chevron in 1991 at $19.25, the 5 year treasury yield was down to 7.77%.  Still better than the 4.29% I was going to make on Chevron’s dividend.  I had hoped to buy a dividend machine that would gain more than I could make on a 5 year treasury.  In 5 years my treasury gained 23% and my Chevron gained 45%. 

Chevron was now paying $1.00 per share per year for a yield of 3.6% still unable to keep up with the yield on the 5 treasury which was 5.97%.

During the next 5 years, Chevron moved up and down by as much as 20 percent until it hit a high in June of 1999 of $47.50.  Although CVX’s dividend had increased each year, at the June 1999 price of $47.50 the yield was only 2.56% no contest with the 5 year treasury which was 5.81%.  However, on my cost basis, the dividend yield was 6.33%.  I was finally beating the 5 year treasury yield with my dividend machine. 

I wrote calls on CVX and lost it at 47 in June of 1999 with a nice 150% gain. 
As you know, I am back in CVX.  Will I make another 150%?  Who knows?  I do know that I cannot even come close to a positive return in treasuries.
Knowing that treasuries today are very expensive you have to realize that you have virtually no chance to bag a capital gain on the bond.  Buying a dividend machine that already beats the 2.26% yield on the 5 year treasury is not a bad long term bet. 
Very Truly Yours,