Investing for income
Many global stock markets have moved into the rampant speculation phase of the cycle, whereby nearly all of the focus and talk is about speculating for capital growth.
It will end nastily, as it always does.
But how does one invest for income in the meantime, while patiently waiting for sanity to return to global prices?
Today, a brief look at some of the recent investments we’ve made in line with our 8 timeless investment principles.
Of course, these are not recommendations or advice, because individual circumstances differ; they’re merely examples to demonstrate a few of our thought processes.
At the time of writing the dividend yield on the S&P 500 is close to a record low at an appalling 1.7%, which means that investing for income in the US is very difficult.
Speculation is rife.
To get better results than average, you have to do something different from the herd, so let’s take a look at how that might be done.
Start with our timeless principles of market cycles and mean reversion, and buying low.
A starting point, for example, might be to look at the sectors that have been out of favour.
For those with no ethical filter or boundaries, you might start with the hated tobacco stocks such as Imperial Brands or British American Tobacco…however, these are off limits for many of us!
Energy has also been amongst the worst performing US sectors for 3 years in a row (and for 5 years out of the past 6), while tech has been soaring.
This is not without reason, as the ESG juggernaut (and associated virtue-signalling) gathers momentum, and fundies scramble towards perceived ‘ethical’ investments.
After a relatively barren run since 2010, energy may be a place to begin looking for value (even still, none of the S&P 500 sectors is actually cheap at the present time).
Within the energy sector, oil and petroleum stocks have been unloved, including mature ‘supermajors’ such as Royal Dutch Shell and British Petroleum, giving rise to dividend yields in the 6-7% range.
Managing the risk hierarchy
Now, remember the risk hierarchy.
If you’re concerned about company-specific risk, it may be safer for you to consider a diversified ETF, instead of individual stocks.
If you are going to accept company-specific risk then ideally we like to look for companies that:
-are well established
-have reasonably low and manageable debt
-have a long track record of strong revenues, earnings, and dividends
-are large, systemic type companies
Following a botched acquisition (and admittedly some swollen debt-related challenges), Occidental Petroleum was one hated stock which came on to our radar in 2019 as its stock price tumbled from $85 in 2018.
Occidental has been around for 99 years, and with a dividend yield of about 8% looked to be a decent 10-year investment, as well as a medium-term bet on oil price upside.
We picked up common stock at $42, then some more as the price fell to $40, and then some more again when the price fell to $38, for an average entry price of $40.
Of course, we’d have loved to have picked the bottom of the market and bought one large parcel at $37.25, but alas the real world doesn’t work like that!
Nobody knows where the price goes in the short term given the ESG tsunami, but with 8% annual income this investment can now go into the bottom draw for the next 10 years (or until a great opportunity to sell comes around).
The US market is still very expensive in general, however, hence we’ve looked further afield…
Now if you can combine out of favour sectors with out of favour countries, then you can really get supercharged results.
As noted previously, Russia’s stock market was annihilated in 2014 in the face of international sanctions and a currency crisis, and this threw up wonderful value opportunities as investors exited the markets in droves.
Looking at the globally out of favour sectors within Russia ultimately brought us to repeatedly buying into Gazprom with a yield of about 7-8% and a PE ratio of about 2-3.
Just a little background.
Gazprom is the world’s largest producer of natural gas, with enormous reserves.
Russia has the world’s largest gas reserves, and Gazprom accounts about 83% of Russian production.
The behemoth Gazprom is majority owned by the Russian government, supplies gas right across Europe to 25 countries, and employs about 500,000 people.
In other words, it ain’t going anywhere.
Despite having one of the lowest payout ratios in the sector, having had a PE ratio running below 3, the income is now fairly gushing to patient investors.
And although it took a couple of years to take off, the stock price has also comfortably more than doubled (although it’s still relatively cheap, even now).
To recap, these are not recommendations, but brief insights into workable ways to invest safely for income, at a stage in the cycle when most people are nervously speculating on a bit of further price growth.
If you’re not comfortable taking on company-specific risk then you don’t need to; you can easily invest in country or sector ETFs instead, for example.
To get better than average results and generate wealth-producing rates of return, you need to jettison the idea of benchmarking yourself against the 12-month returns from any given index.
Such calendar-driven results are meaningless, unless you only have a 1-year timeframe for generating wealth (which you don’t).
See the big picture and remember Rule #1: don’t lose money.
That’s how you become wealthy: by not losing money on expensive investments.
Remember, in cheap markets, you can hoist the mainsail and let the tailwind carry you along.
When markets are historically expensive, you need to protect your capital, and when there’s a headwind this means you’ll need to work a bit harder to generate steady returns.
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