Wednesday, March 4, 2020

Retirees should add to stocks on dips - a conservative guideline

Retired people who live off the income from their portfolios are in turmoil.  We have no safe source of income.  The stock market has made even the worst invest adviser look good and we have felt rich as we watch P/E ratios increase and interest rates go down.

Now we are faced with market turmoil that questions the wisdom of staying in the market and yet our income opportunities outside the market are poor, U.S. Treasuries yield nothing.

Yet, if you are a retired person who lives off the income from your portfolio, you have been through stock market meltdowns before; actually several times.  The difference now is your expenses are two times what they were in the dot com collapse in 2001 and your get basically no income from debt instruments where early in the decade you could get decent yield.  What is a disciplined, knowledgeable investor to do?  Here is my approach.

I am adding to certain stocks. very carefully.  I believe it is called nibbling.  Here is how I am approaching my income portfolio.

Conditions:  I am not looking to add a new position.  I am combing through my portfolio for stocks I want more of based on their dividend yield, their dividend growth and their balance sheet.
  • You have a low cost basis in a dividend stock
  • You still like the stock and have been adding or wanting to add over time even at higher prices than you paid.
  • You have money available to invest:  you receive more dividends, interest, and call premiums and other sources of income than you spend.
During situations like a long bull market, we investors can get a little lazy about working our portfolio.  We tend to look at our holdings more closely when we are not sure they are safe. 

I suggest looking for stocks in your portfolio that are winners.  One of the nice aspects of holding 35 or so stocks in your income portfolio is that you can have a concentrated position in each holding.  That allows you to work some of your holdings by adding to them during a market correction even through you are buying at prices higher than your cost basis.  

The concept of dollar cost averaging down has never worked for me.  I like to add to my winners eventhough I may have a loss on a more recent buy.  Maybe we would call it a hybrid dollar cost average strategy.  

I say adding to a current position is always a prudent decision.  What to look for.
  • Balance sheet
  • Dividend performance during 2008-2009 meltdown
  • Current P/E 
  • Dividend yield greater than average yield on your portfolio
  • Ability to survive a 50% decrease in earnings and still cover the dividend

EXAMPLES OF STOCKS TO ADD TO INCREASE PORTFOLIO YIELD

Using the stocks selected in the 2011 portfolio.  The entire point of adding is to boost income.   The 2011 portfolio yields only 2.9% on the current value.  Income has increased by 70% during these last 9 years and value effective on the close 3/3/202 has increased by 120%.  These are acceptable metrics.

However a yield of 2.9% is not as robust as we would like.  If we have money to invest which are the best stocks to add for dividend income.

The 2011 portfolio holds more stocks than I really like, there are 52 symbols.  I analyzed the entire group eliminating those on which I have a loss and eliminating those with higher D/E ratios than I can stomach in 2020 in spite of cheap interest rates.

Out of that scan, I found 6 stocks worth the effort.  At the current price each stock has a yield greater than the portfolio average; each stock has an acceptable D/E ratio.  Moreover, 5 of the 6 stocks increased the dividend between 2007 and 2009.  PSX does not have dividend history during that time frame.

3/4/2020 Stocks to add for Dividend Yield - Using M* 2011 portfolio holdings
Industry Symbol Price Correction since 2/21 Div Yield D/E Ratio P/E
Oil & Gas Integrated CVX $98.53 11.09% 4.04% 0.21 16.9
Banks - Regional - US CFR $79.24 15.49% 2.94% 0.06 13.7
Specialty Retail GPC $89.25 9.24% 2.90% 1.16 19.3
Leisure HAS $77.85 15.14% 2.62% 0.93 50.4
Oil & Gas Refining & Marketing PSX $74.63 17.29% 3.19% 0.48 11.4
Packaging & Containers SON $52.28 9.36% 2.80% 1.01 19.2

I would eliminate HAS based on the P/E. And, I would prefer a bigger correction in GPC with barely a 9% correction and a P/E of 19.3.  Similarly I would prefer more of a correction in SON.

Since we are so conservative, we worry about everything.  If we add to a position we want to know what would happen to our income during an economic disruption similar to 2007-2009. See the dividend performance of all of the picks during that time frame.

Symbol Qtr Div 2nd qtr 2007 Qtr Div 2nd qtr 2009 Div Growth
CVX $1.38 $1.79 29.71%
CFR $0.79 $1.06 34.18%
GPC $0.97 $1.16 19.59%
HAS $0.37 $0.60 62.16%
PSX no history started divs in 2013
SON $0.65 $0.77 18.46%

I find this result encouraging.  Each one of these companies was able to not only weather the storm of the financial crisis that caused stock prices to crater, but these stocks also continued to pay their stockholders an ever increasing dividend.

Can these stocks do it again? What happens if there is real fundamental deterioration of these stocks.  If earnings were cut in half would earnings cover the dividend?

Symbol Current Earnings EPS cut in half Dividend Coverage Ratio
CVX $1.55 $0.78 $4.76 -3.985
CFR $6.88 $3.44 $2.84 0.6
GPC $4.26 $2.13 $3.05 -0.92
HAS $4.02 $2.01 $2.72 -0.71
PSX $6.80 $3.40 $3.60 -0.2
SON $2.90 $1.45 $1.72 -0.27

Two stocks stand out.  One is Chevron with poor recent earnings.  It appears that covering the dividend with earnings could be a problem.

The other stock is Cullen and Frost Bankers.  If their earnings are cut in half they can still cover the dividend.


EXAMPLES OF STOCKS TO ADD FOR DIVIDEND AND CALL PREMIUM INCOME


If you use a covered call strategy on stocks where you keep your low cost basis shares and trade more expensive shares you boost your income with covered calls.
  • 10% correction on your most recent buy
  • Each add should have a call yielding no less than a quarterly dividend
  • Strike price is above the price of your add

Again using the holdings in my 2011 portfolio, I found 2 additional stocks where I have a gain, but a 10% or more recent loss.  These stocks have good balance sheets, but their dividends are less than the yield on the portfolio.  

They are Intel, INTC and Raytheon, RTN.  

Buying stocks with a puny dividend  at higher prices than my cost basis makes me question my judgement.  I do it when I can supplement my income with covered calls. 

Today  I looked at calls on all the above mentioned stocks and here is what I found.

Symbol Price Strike Premium Added Yield Expires
RTN $201.34 $220.00 $2.40 1.19% 4/17/2020
INTC $58.68 $65.00 $1.10 1.87% 5/15/2020
CFR $79.24 $85.00 $1.50 1.89% 4/17/2020
PSX $74.63 $82.50 $1.50 2.01% 5/15/2020

If I add additional shares, even with the correction, I am adding to my cost basis all for the purpose of increasing my income.  If I keep the shares beause the call expires, I have added a quality stock and I have beat the yield on my portfolio.  Just by adding an extra quarterly dividend per year on a quality stock, you increase your income by 25% .    If my shares are taken, I pocket both the premium and capital gain.   

These are all good scenarios.  Should the shares retreat again and I have money to invest, I will do the same analysis as presented above.

This is a volatile market.  Do your home work and do the math on your trades.  You can make a living on dividend stocks and covered calls.  

M* MoneyMadam

Disclosure:  Long INTC, CVX,