Income Report / Income Report: A look at high yielding stocks

By Market Matters 20 March 19

Income Report: A look at high yielding stocks

Market Matters Income Report 20th March 2019

A busy day on the desk today and I’m one person down, hence the tardy time of the Income Note. The market is enjoying another choppy session however there’s lots happening at a stock level. Eclipse (ECX) out with a 42% downgrade to earnings expectations which has skittled the deal with competitor McMillan Shakespear (MMS),. ECX trading down -53%  at time of writing – around 88c a share while Nufarm (NUF) is also suffering an 18% drop after downgrading guidance thanks to the drought. Lots of stock events to cover this afternoon, including a decent sell off in Iron Ore on news that Vale may get back into the market sooner than is currently expected.

Overall, the ASX 200 is down 10 points trading at 6173

ASX 200 Chart

The past week saw the Income Portfolio largely flat with IVE Group (IGL) the only stock to go ex-dividend. In the current financial year, the portfolio is up 4.32% vs the benchmark (RBA + 4%) which is tracking at 3.93%, while the accumulation index has managed just 3.33% in the period. Since inception (5/7/2017) the portfolio is up +11.19%, outperforming its benchmark (RBA Cash plus 4%) at +9.37%.

The new NAB Hybrid starts trading tomorrow under code NABPF and I would expect it to come on somewhere between $100.50 / $101.50 given current spreads.

Franking Credits

As the Federal Election looms large on the horizon todays note will touch on the key areas around franking credits (outside Hybrid Investments we discussed here)  and offer some ideas to potentially tweak income orientated portfolios. We’ll build on this in future notes and add more meat to the bones.  

The loss of cash refunds for franking is clearly a big issue for those in a zero or low tax environment. A $100 fully franked dividend is worth $142.85, or $117.64 in a 15% tax environment. The abolishing of cash refunds on franking credits will clearly hurt some.

While I don’t think that we’ll see a sharp negative reaction to fully franked shares in the short term given retail investors are not generally the biggest influence on price (institutions are)  the impact will be bigger over time and the move will add impetus to already growing trends around asset allocation and the type of income orientated products that are launched. 

For example, retail investors are too overweight Australian equities and dividend yield stocks at the expense of fixed income and international equities while in terms of income products being launched, the 3 examples we covered last week (click here) were Listed Investment Trusts (LIT’s) that focussed on a more alternative style of asset, like the corporate loan market and international bonds.

1 High Yielding Fully Franked Stocks

A move away from fully franked yield is the obvious conclusion here, and while we think it’s dangerous to simply look at shares in terms of income / franking credits alone, instead of total return expectations,  lets present some tables anyway.

High fully franked yield (ASX 200)

These stocks are likely to be held for FF Income and could come under pressure. We hold a number of them and are assessing there positioning in the income portfolio.

2 Banks

Banks are obviously within the group above, however if we strip out the rest and just focus on the 8 main banks in Australia the yields are impressive with 4 of them yielding above 10% grossed for franking. Without franking yields of above 7% can still be enjoyed from the sector plus they are clearly cheap trading between 9 & 13x earnings, although relative to price to earnings growth the picture is less optimistic.  Generally a company's P/E and expected growth should be equal, which means a fairly valued company and supports a PEG ratio of 1.0. Banks, relative to growth aren’t cheap, however they continue to offer attractive yields.   

Banks offering  fully franked yields (ASX 200)

We currently hold NAB, CBA and more recently BOQ  in the income portfolio, although we remain underweight the sector given we have exposure through financial hybrids.

High unfranked yield (ASX 200)

These stocks could benefit from the proposed change. High unfranked yields happen in 3 main parts of the market, Property, Utilities & Infrastructure.

3 Property 

The sector is reasonably priced overall, however there is massive divergence between underlying exposures. The momentum is clearly behind, Industrial, Office and “alternative” sector exposure (e.g. storage, childcare) while negative investor sentiment is weighing heavily on Retail  & Residential exposed REITs. The value sits in the latter, the momentum is with the former. We highlighted Stockland (SGP) a few week ago and the stock has bounced nicely.  

4 Utilities

Both utilities and infrastructure are great for stability in earnings and in recent years, capital growth. That said, a low interest rate environment has helped and eventually, as rates go up, these stocks may well struggle. 

5 Infrastructure

Conclusion (s)

Loss of franking will impact stocks that a held simply for fully franked yield, however it may actually prompt investors to look at total return, rather than  income alone. 

We will cover Listed Investment Companies, particularly those trading at a premium to NTA next week, as this is an area that may come under more pressure.

Have a great day!

James & the Market Matters Team

Disclosure

Market Matters may hold stocks mentioned in this report. Subscribers can view a full list of holdings on the website by clicking here. Positions are updated each Friday, or after the session when positions are traded.

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All figures contained from sources believed to be accurate.  Market Matters does not make any representation of warranty as to the accuracy of the figures and disclaims any liability resulting from any inaccuracy.  Prices as at 20/03/2019

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