Issue 55 • December 2, 2009 Dubai’s Debt Dilemma ... Deflation ... and Dividends
Thousands of words were printed over the long weekend to explain Dubai’s debt debacle in great detail ... so I won’t rehash them here. A Financial Times columnist perhaps said it best referring to Dubai as “a city state built with grandiose long-term plans financed by piles of short-term debt”... well said!1 Like so many American homeowners who are underwater on their mortgage loans ... Dubai may soon default on some $80 billion in loans.2 This would be one doozy of a foreclosure! No wonder global markets swooned on Thanksgiving Day, even while the U.S. feasted on fat turkeys. However, our markets declined during Friday’s short trading session, then rallied again this week on word that Dubai may pull off a debt restructuring. Still, the short-term panic this event briefly struck into financial markets is a stark reminder that the world is NOT back to “normal” ... not just yet. As I have previously cautioned in Weiss Advice, based on various measures, stock market valuations can’t be considered attractive today with the S&P 500 trading near 1,100. In fact, by one estimate, the stock market may be roughly 40% overpriced at today’s level.3 Of course, this hasn’t stopped investors from pushing stocks steadily higher over the past 8 months, a surprisingly strong performance that seems based on the belief that our economy is returning to normal. Perhaps this will be the case, only time will tell for sure. Yet, as Dubai’s debt dilemma reminds us, there are still a number of solvency issues in global markets today ... in spite of record amounts of liquidity being pumped into the system by the Federal Reserve and other central banks around the world. The fact is, stock prices at present levels seem to discount GDP growth of +5% or so next year4 ... but the current consensus forecast among economists calls for growth of just +2.6% in 2010.5 That’s a wide divergence of opinion, and if the lower estimate of +2.6% growth proves to be closer to the actual mark — which, by the way, is little more than HALF what you would see in a “normal” recovery — then there is significant potential for investor disappointment in the year ahead. In other words ... something’s got to give. As economist David Rosenberg recently put it: “Even if the recession is over, the historical record shows that downturns induced by asset deflation and credit contraction are different than a garden-variety recession.” Instead, the kind of secular deleveraging we face today is highly deflationary and is likely to “induce a secular shift in behavior and attitudes towards debt, asset allocation, savings, discretionary spending and homeownership.”6 In other words, a rapid return to “normal” may prove surprisingly more elusive than investors seem to think based on the robust market rally. Even amid this still uncertain outlook, however, a portfolio geared toward wealth preservation would still include exposure to stocks; to help provide adequate returns over the long run and stay ahead of inflation. However, with U.S. stocks offering an estimated long term real return of perhaps only +4% or so today ... what’s an investor to do? Fortunately, there is one subset of our stock market that may still offer good long-term value today.7 High-quality domestic stocks — especially consistent, dividend-paying stocks — may provide real returns of as much as +9% in the years ahead. And dividends, rather than price appreciation alone, are likely to provide a big part of that overall return. In fact, dividend payments have historically delivered about one-third of the total return for the S&P 500 over the long run.8
But, after a substantial rally in what could be called “junk” stocks this year, it’s important to remember that high-octane stocks may also provide investors with high-anxiety the next time the market rolls over. On the other hand, the recent underperformance of high-quality, dividend-paying shares make these stocks particularly attractive, in our view. Here’s why: First, high- quality, dividend stocks are potentially attractive alternatives to other low yielding investments today. Many are yielding +3% or higher in comparison to bank accounts, CDs and money market funds, which offer savers practically no interest at all these days. Meanwhile, long-term government bonds don’t pay much more … and leave you exposed to accelerating inflation down the road.10 Second, dividend stocks are already beginning to play catch up to non-dividend stocks in terms of performance, and if history is a guide, they may be poised to outperform for some time ahead. Plus, dividend payers should hold up better should the market suffer another decline. From 2004 through 2006, dividend-paying stocks outperformed non-dividend payers, and they also held up better as the market rolled over in 2007 and again last year.11
These are established firms that have not only survived, but thrived, during past recessions (and even depressions). They are companies which, to paraphrase Warren Buffett, enjoy a durable competitive advantage and have stood the test of time. Over time, dividend payers have also enjoyed better market returns. In fact, since 1972, quality companies that increased or began paying dividends returned +9.5% per year on average — outperforming non-dividend paying stocks about two-thirds of the time — or 19 of the past 30 years; including 8 of the last 10 (See the graph: “Payers vs. Nonpayers,” above)!13 At Weiss Capital Management, we believe in the long-term potential of high-quality dividend paying stocks. A few years ago, we launched the Weiss Select Equity Portfolio, a professionally managed account that aims for long-term capital growth by investing in a diverse mix of high-quality stocks. The focus of this strategy is to invest primarily in dividend-paying stocks of companies we believe have sustainable long-term competitive advantages. We prefer dividend-paying stocks because they provide you with current cash returns, have long-term appreciation potential and tend to be lower risk than non-dividend paying stocks. Perhaps you should consider this kind of strategy for the equity portion of your portfolio, especially considering the still uncertain investment outlook in 2010 and beyond. Good investing, P.S.To learn more about the potential for investing in high-quality dividend stocks, get a FREE copy of our special report: Dividends Pay Off: A Tried and True Strategy for the 21st Century Investor. Just go here to download it right away. Correction: In last week’s edition of Weiss Advice, a statement referring to the downward revision of U.S. GDP was incorrectly cited. The actual revision to U.S. GDP was +2.8% for the third quarter of 2009.14 *Pfizer and Johnson & Johnson are current holdings in portfolios managed by Weiss Capital Management and are subject to change at any time. 1 Financial Times: Dubai cast adrift as credibility crumbles, 11/30/09 Disclaimers: 1. Weiss Advice is a publication of Weiss Capital Management, an SEC Registered Investment Adviser. Weiss Research is a separate, but affiliated publishing company. Both entities are owned by Weiss Group, LLC. 2. "Weiss Advice" is published for general information and educational purposes only and should not be construed as a specific recommendation to buy or sell any security. Specific recommendations can only be given to advisory clients of Weiss Capital Management, with the benefit of knowing their financial condition and suitability. Receipt of this publication should not be construed as a solicitation to do business outside the jurisdiction for which the Firm is approved. Currently, Weiss Capital Management offers investment advisory services to individuals maintaining legal residency within the United States. For details, please contact the Firm. View Weiss Capital Management's Privacy Policy. To make sure you don't miss our urgent updates, add Weiss Advice to your address book. Just follow these simple steps. |
While U.S. banks and financial institutions were closed for the Thanksgiving Day holiday last week, bankers and traders from London to Lisbon and from Tokyo to Taiwan were busy sorting out their risk exposure to Dubai debt.
Granted, dividend-paying stocks have lagged during this year’s rebound rally, with investors apparently preferring higher-octane stocks. But as the chart above illustrates, this behavior is not unusual during the rebound rally phase (2009) following sharp stock market declines (2008). The same pattern occurred in 2003, following a three-year secular bear market.
High-quality companies that pay consistent dividends are often big household names (Pfizer*, Proctor & Gamble, Johnson & Johnson*, etc.).
