The most important
condition for the emergence and continuation of panic is a feeling of
entrapment with an impending threat. Enrique
Quarantelli (The Nature and Conditions of Panic)
As I sit writing this* on a
Friday evening in March 2020, the World seems in meltdown. The words above of
Quarantelli seem almost prophetic and the man even has an Italian name. Entrapment
is particularly apposite. We know high risk elderly people who are planning to “self-isolate”
for months. Many businesses have asked their employees to work at home for an
indefinite period. In the UK we all know the threat is coming and will peak in coming
weeks and months. It is scary and induces worry.
Thursday March 12th
2020 should have seen horse racing at Cheltenham jostling for attention with
the peak day of the largest world property shown in Cannes. The horses were far
from the headlines and the property jamboree was cancelled. The reason? The
threat of Covid-19/Corona Virus had induced full on Market panic. The World Stock
Market falls were the steepest in 33 years. To put that in perspective?
Liverpool FC have won two league titles since then….
The only time I’ve known a
reaction like this to a growing threat was the blind panic of mid-September
2008 when the World was in financial calamity. Even then the one day falls were
not as precipitous as we saw last Thursday. With the damage that was done by the
2008 financial crisis, it took a full six months for Markets to hit the bottom
in March 2009. Although the ride up after that hasn’t been smooth, if you’d
bought most equities in the Market in March 2009, you’d have made a lot of
money by January 2020.
And that’s the thing. Savvy
investors can make good money by buying over-sold stocks at times like these.
Lots of people and institutions have sold their stocks because they see the
threats that present as immediate and that survival depends on instant action. Potential
bargains start to pile up to be sifted through by the opportunist.
In times like these, one metric
that I like to look at when sifting companies is dividend yield. Now before you say, “beware of the dividend trap”,
you do of course need to be very mindful of this. This classically afflicts
companies who are sinking in price due to poor earnings reports or other
matters that lead them to be marked down by the Market. Invariably their
dividends become less and less well covered by earnings and they end up cutting
them. The investor is hit with the double whammy of a sinking share price AND a
dropping dividend. It’s a classic trap.
However, where a share has been
perhaps irrationally sold off due to no other reason than everything is getting
sold off, it’s no bad idea to look at shares with lovely dividends and
thinking- if this is unlikely to be cut, them there is every chance that this
share will rise back to the Mean and I’ll be well rewarded along the way with a
chunky dividend, which I can reinvest and buy more.
Just by way of example, as of 13th
March 2020 here are the top 6 dividend payers in the FTSE100 (with estimated
dividend cover for 2020 in brackets):
1. Imperial
Brands (IMB) (Tobacco)- 15.78% (1.22)
2. Shell
(RDSB) (Oil)- 13.49% (1.26)
3. BP
(BP.) (Oil) - 12.10% (1.22)
4. BT
(BT.) (Telecoms)- 10.22% (1.55)
5. WPP
(Advertising)- 10.78% (1.45)
6. HSBC
(HSBA) (Banking)- 9.14% (1.28)
(Source- Stockopedia)
These are really attractive
dividends. I do however look at them with a note of caution, as dividend
coverage is so key. In short a company will not be able to maintain a dividend
pay-out at the present levels if it is not well covered by earnings. The 2020 estimates
are based on present earnings estimates and we have no idea how earnings will
be impacted by a recession caused by a worldwide pandemic. Equally Shell (for
example) has not cut its dividend for 75 years and that included the oil crises
of the 1970’s.
As I’ve mentioned before, I
bought Persimmon in the heat of the 2016 crash in the UK after the Brexit Vote.
I doubled my money and was well rewarded along the way. Dividend is certainly
one interesting factor to look at. For the record I hold none of the above
shares mentioned.
Another factor I like to look at
is a strong balance sheet. Does the
Company have low or manageable debt and cash on the balance sheet that will
enable it to withstand softer Market conditions or even a recession? Two shares
that have been heavily sold this week are Dart Group (DTG) and SCS (SCS), the
latter of which I must admit I hold and the former of which I’ve held
previously. Both operate in cyclical sectors which will get pummelled in a
worldwide travel ban (Dart) and/or a Recession (SCS). Yet with stronger balance
sheets, they will have a much better chance of survival than their competitors.
Dart produced some fantastic earnings results this week and in my view would
have soared to about £20 a share had the Corona Virus not hit. It’s currently
trading at £8.71 per share.
I then like to apply some Buffett
methodology and ask what the level of
competition (or “moat”) is that the company faces? For example, some may
say that banking is an area with narrow moats. However, the truth is that
(certainly in the UK) the barrier to entry for new banks remains impressively
high. Although there is margin pressure, it is very difficult to set up as a
challenger bank (see Metro’s recent woes).
Finally, I like to look at the specific
industry within which the Company operates. Is it in one that will see a consistent or growing demand for its
products in years to come? I personally believe that people tend to be
overly pessimistic about some sectors. I was made to hold up a sign in a school
assembly in 1986 proclaiming that oil would run out by 2006. It didn’t. Equally
(whilst I could never bring myself to invest in such an industry) I don’t
believe that tobacco is going out of fashion any time soon.
When I’ve completed my analysis,
opportunity awaits to buy. However, I’ve learned not to dive in too soon. You
can always buy a stock cheaper in Market panic. There were people saying to me
today that the Market cannot go any lower. I do not hold that view. I believe it can and
almost certainly will venture lower until we have greater certainty over the
Pandemic and its economic impact.
Yet one truth remains. Over time
equities remain an astonishingly good investment. If you back test over the
past century, they outperform almost every other investment. They key to
success is to buy low and sell high. Times like these present opportunities to
the savvy investor to buy low.
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