Investors are dumping dividend paying stocks of strong companies due to misplaced fears about interest rate sensitivity. That’s opening up new opportunities in our favorite stocks, but be patient with prices.
“Buy dividend paying stocks when interest rates are falling, and sell when they’re rising:” It’s always somewhat shocking to me when I hear investors repeat this bit of nonsense, and frankly sad when they tell me how they’ve acted on it.
The recent downside in many of the stocks I cover here is proof positive that more than a few people—institutions as well as individuals—are paying attention to this siren call. It’s hard to see what they’re buying as substitutes. But there’s little doubt they’re scared again, and they’re having an impact on near-term trading.
Interest rate swings carry far less weight when it comes to dividend paying stocks than the conventional wisdom gives them credit. For one thing, neither utilities, master limited partnerships, super oils, high-yield telecoms or any other stock is a bond substitute.
In fact, dividend-paying stocks’ movements closely correlate with the stock market, and no more with the bond market than the average stock.
As for business fundamentals, it’s true that power, communications, et al are capital-intensive businesses. And the low rates of recent years have enabled companies to strengthen balance sheets.
Profits from the unregulated side of their businesses, however, expand best when the economy is healthy. Low interest rates have coincided with lackluster growth, just as rising rates are only likely if there is growth.
As for regulated operations, return on equity in favorable regulatory climates has historically adjusted upwards when interest rates have risen. Utilities can still prosper if rates rise, provided they’ve maintained good relations with regulators—which is in fact how companies profit when interest rates fall as well.
The bottom line is, interest rate fears may drag our favorite utilities down further in coming weeks. But they’re not going to do any permanent damage to earnings or dividends, other than to companies in poor regulatory environments.
Meanwhile, stocks of quality companies are getting less expensive every week. That makes now a great time to build positions.
Roger Conrad, Conrad’s Utility Investor, September 2013
