Article / 06 July 2016 at 13:30 GMT

Hunting for yields in a negative rate world

Head of Equity Strategy / Saxo Bank
  • European stocks rout shines spotlight on high-dividend shares
  • Diversification across industries key for high-dividend portfolios
  • EasyJet shares attractive despite significant  post-Brexit declines

EasyJet shares have lost 33% of their value in the wake of the Brexit vote, but the airline remains attractive on both a dividend and a market share basis. Photo: iStock

By Peter Garnry

The recent rout in European equities has created a plethora of high-dividend yielding stocks. Obviously, given that equities are a leading indicator, investors have to be careful when selecting high-dividend yield stocks because it might be a trap...

Falling equities, after all, could be a forewarning of negative GDP growth and dividend cuts.
While leading indicators are turning downwards in the US and Europe and improving in China, the jury is still out as to whether the global economy will hit a standstill later this year. 

The noise in macro data is currently high and the Brexit will only add to this noise in terms of June and July's data releases. If we get a recession, it will likely be mild unless we see a new banking crisis in Europe, so under this condition a high-dividend yield portfolio is still attractive (especially when adjusted for quality). 

In a negative rate environment, a high-dividend yield portfolio is a good component of a long-term asset allocation.
Below, we have listed the highest dividend yield stocks (adjusted for quality) across 35 industries in Europe. The group has an average 12-month forward dividend yield of 5% and an average price-to-book ratio of 5.8, which on the dividend yield is around 25% higher than the current forward dividend yield in the Euro Stoxx 600 index.

High-quality dividend yield stocks

We have selected the highest dividend paying stocks in each of the 35 largest European industries, but the stock has to be in the upper-half in terms of price-to-book ratio in its industry. 

The price-to-book ratio implicitly reflects a company’s profit spread (return on capital minus cost of capital), so the higher the price-to-book ratio, the higher the profit spread – on average. In some cases, a high price-to-book ratio does not reflect a current high profit spread but just high expectations and thus (potentially) a growth stock with a large possible downside risk.
By selecting one stock from each industry, we increase our diversification; this is normally the issue when one is mindlessly screening for only high-paying dividend stocks because you will end up with a portfolio comprised solely of telecom and utility shares.
One of the stocks in the portfolio is EasyJet, and it's down 33% since Brexit due to a profit warning and investors selling off GBP assets. EasyJet’s forward dividend yield has increased to 6.6% – the highest in the passenger transportation industry, but also 65% higher than the average dividend yield for European equities. 

The dividend may be cut, but then again EasyJet has raised its regular cash dividend every time since it was first introduced in 2012. While travel in and out of the UK may decline somewhat due to the Brexit and the slowdown in the UK economy, EasyJet can still deliver good growth rates on the basis of its proven ability to seize market share from the old, state-owned flag carriers.

EasyJet weekly share price since 2011:
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Source: Saxo Bank

Our dividend portfolio has also done well this year, up 3.2% compared to European equities which are down 10% overall. 

The most interesting observation we have here concerns investors' behaviour post-Brexit with high-quality dividend stocks being bid heavily and even holding the line in this week’s sell off.

Comparative analysis

With central banks continuing to push rates down across global fixed-income markets, high dividend yield stocks and gold miners will continue to see positive flows from institutional investors.

— Edited by Michael McKenna

Peter Garnry is head of equity strategy at Saxo Bank


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