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Dividend and Conquer

Two money managers track stocks' yields to find issues worth buying.

December 03, 1996|JON D. MARKMAN

There's nothing quite like bad news to make Nancy Tengler and Geraldine Weiss take notice. A chemical plant explosion in India, an oil slick in Alaska, even a mass murder in a cafeteria in Texas. They deplore the loss of life, of course. But they also know the temporary effect that grim headlines can have on great stocks.

When everyone else is selling shares in a panic, their dividend-based disciplines keep them cool and steady, laying traps for plunging stocks and snaring them as bargains.

Tengler and Weiss, two California money managers, track the rise and fall of stocks' dividend yields to determine whether securities are overvalued or undervalued. Their strategies are worth a close look as the market continues to soar, making many investors wonder if any companies' shares are still truly cheap.

Indeed, in this bull market, dividends have almost been forgotten. They get little respect as investors focus on capital appreciation. Never mind that studies repeatedly indicate that dividends account, over time, for half the stock market's total return.

Tengler and Weiss have plenty of respect for dividends. In their strategies, they examine the stocks of the nation's largest, most mature companies that have increased dividends for years. They start with a conviction that past earnings, and securities analysts' estimates of future earnings, don't predict price moves of these stocks well. Instead, they focus on whether a company is distributing more or less of its profit in the form of cash dividends.

They're seeking the statistical rhythm of a stock as it swings between the poles of greed and fear, believing that high-quality growth stocks inevitably fall out of favor on Wall Street because of some catastrophe or another, then float back up on the wings of angels over two to four years as the bad news is forgotten or management reorganizes.

That's about where the two part company. Tengler, in San Francisco, compares a stock's current dividend yield to the average for the overall market mainly to gain information about whether a stock is cheap relative to its peers. Weiss, in San Diego, mainly compares a stock's current yield with its own historical yield and is a bit more focused on dividend income.

The importance of dividends, Tengler and Weiss say, is that they are profits that a company shares with its owners. Dividends aren't theoretical, like some numbers on a balance sheet. When a company increases its dividend, it makes a powerful statement that it expects to sustain or boost its earning power. "A company that pays a dividend has to earn it," notes Weiss. "Once it's paid, it's gone forever."

A stock's yield is its annual dividend per share divided by its price per share, expressed as a percentage. The yield therefore rises when a stock's price falls, assuming no change in the dividend; likewise, the yield falls when a stock's price rises.

A stock that pays a healthy dividend when its price is low usually has a high yield. That can be a good sign, if it means the company is telling you it expects good times ahead even if the stock is currently in Wall Street's doghouse. However, a high yield can also mean that things really are bad and that the board of directors simply hasn't gotten around to lowering the dividend. (An example, provided in the new book "The Dividend Rich Investor" by Joseph Tigue and Joseph Lisanti of Standard and Poor's Corp.: IBM stock's yield was 10% in 1993 at a time when the average blue chip stock's yield was 2.9%. Less than a month and a half later, IBM announced a 55% cut in the dividend.)

Another statistic that helps in using a dividend strategy is a stock's payout ratio, which measures the percentage of earnings paid out in the dividend. In general, the lower the number--say, around 50% or below--the safer the dividend. Companies with very high payout ratios are being generous in sharing profits with investors, but they may also may be near the peak of their ability to increase dividends and thus in danger of cutting them back.

A low payout ratio can give investors more comfort when a stock is volatile and the yield is high. For example, shares of tobacco and food giant Philip Morris yielded a lofty 5.17% on Nov. 1, when the stock plunged to $92.88 amid more harsh words about cigarette regulation from Washington. But Morris' payout ratio is just 54%. By the time hard-driving Food and Drug Administration chief David Kessler announced his resignation Nov. 25, Morris stock had shot up 13% to $104.75 and as a result sported a more moderate 4.5% yield, closer to its five-year average.

Tengler, who manages three mutual funds and has private and institutional clients for Union Bank of Switzerland, deploys a strategy called relative dividend yield to spot winning stocks like Philip Morris (for a prospectus of her UBS U.S. Equity Fund, call [800] 914-8566).

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