Are you tempted by a 15% return on Shell’s shares?
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Investors chasing high yields should proceed with caution, says Peter Sharkey.
Considering the time (around 8pm Tuesday), Tesco’s aisles appeared unusually busy, even to my untrained eye, as people jostled to secure more goods than they may do ordinarily, even if they were doing a ‘big shop’. We didn’t fall into that category, having just popped in on our way home to collect a few bits and pieces.
Out of curiosity, I guided our trolley to the appropriate aisle, sure enough, Tesco’s shelves had been emptied of toilet roll and hand sanitiser. I almost understood the latter – though why not use soap and water instead? As for the former, I simply don’t get it; there has been absolutely no indication that paper supplies will dry up anytime soon, but once panic buying takes a grip, the phenomenon does tend to bring out the headless chicken in folks.
Further evidence of headless chickenism could be found elsewhere: there was no porridge or rice left, two of the items we needed, because again, panic buying had resulted in shoppers stripping the shelves bare of both.
Noting how busy the store was for the time of day, my wife suggested that if all supermarkets were like this, it might be worth investing in Tesco or Sainsbury’s as their profits appear likely to soar.
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It’s a fair point. As share prices have been on the receiving end of a pummelling recently, braver investors have taken advantage and gone bargain hunting, buying into companies which, despite whipsawing markets, continue to appear fundamentally attractive, rather than simply cheap.
High-yielding shares have also started to beguile savers and investors who have grown used to negligible cash returns and which, following a further reduction in interest rates, are likely to get worse. As I write, the projected average dividend return on six high profile FTSE 100 companies is an astonishing 8.88%.
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Book-ended by BT’s hefty 11.7% and Carnival’s chunky 8.0%, the other four (Shell, BP, WPP and HSBC) are each scheduled to offer shareholders returns which are at least 35 times higher than they would receive from a high street bank. Tempted?
Caveat Emptor is one useful warning to heed, but if you need something more specific, it’s worth starting by considering a company’s recent trading record. It sounds obvious, but if a company has regularly reported increasing profits and dividends to match, it may offer considerably less risk than other businesses. Nevertheless, the stock market is littered with organisations which appeared rock solid only for them to announce unexpected dividend cuts – think Marks & Spencer, Vodafone, Centrica and Royal Mail, for instance, each of which cut their dividends last year.
One simple calculation has proved reliable in identifying companies that might be at risk of chopping their dividend payout. To establish what is known as ‘dividend cover’, divide the company’s earnings per share by its dividend per share; if the result is above two, it’s reasonable to assume the dividend is safe. If the figure is below one, alarm bells should start ringing as it means the company is not making enough money to cover the full cost of its proposed dividend. Instead, it must use either cash reserves, sell assets or borrow to maintain the dividend, an unsustainable business strategy which almost always results in the payout being chopped.
Of course, many projected dividend returns have soared as share prices have bombed. In early March, for instance, the yield on Royal Dutch Shell shares went above 9% as the company’s shares lost almost one fifth of their value in a single day, the worst fall, in percentage terms, in the company’s history. That yield has since risen to an eye-popping 15%.
Normally resilient, so-called defensive companies, have seen their share prices hit to such a degree that their projected dividend yields are in double figures. The yield on Shell’s shares currently stands at an eye-popping 15%.
However tempting their dividend may appear, there are several companies likely to remain out of favour for the foreseeable future, none more so than cruise company Carnival, currently exposed to a potentially severe downturn in bookings following the coronavirus outbreak. The company’s shares have been shredded and while its projected dividend is 8%, investors continue to give the stock a body swerve.
Tesco? Its share price has come under some pressure since the end of February, but its projected payout of 5.77p (2.9%) enjoys dividend cover in excess of two, making it appear a more reliable proposition than several of its FTSE peers, but it remains one for the brave.
TAM Asset Management Ltd offer savers the opportunity to invest their savings in Investment ISA portfolios comprising a variety of different funds pursuing long-term cautious, balanced or adventurous strategies. For further details, please visit the MoneyMapp website.
Please note: with investing, your capital is at risk.
For more financial advice, check out Peter Sharkey’s regular column, The Week In Numbers.