Two dividend paying bank stocks

Two banks that are huge in size have a consistent record of paying dividends. Bank of America and Citigroup are the largest banks. They have market capitalizations of $ 167B and $ 128B. Both these banks trade between 10 and 12 times earnings per share. They have to contend with three issues – bad loans and write-offs arising out of the subprime crisis, liquidity crisis that erodes income and the stock market crisis that erodes the value of their investment. The Federal Reserve has tried to ease the liquidity crisis. The President is seeking Congress to approve a stimulus package that could kick start the economy again. Q1 results of Citigroup were encouraging as the write-offs were below what the market expectations. BOA results were disappointing as the earnings came in much lower that the market expectations. However both these banks may turnaround and this could be a good time to buy the stocks of these banks for long term capital appreciation as well as regular dividends. Both have a dividend reinvestment program too. At its current prices on April 21,08, Citi offers yield of 5.3% and BAC offers yield of 6.8%.

Always consult your investment advisor before making any investments.Even if you think you understand investments, this is a sound and time honoured practice that can save your money.

Mutual funds or Dividend paying stock?

Various studies have proved that Buy and hold strategy almost always beats the Buy –sell-buy-sell strategy. We will assume that we will use the buy-hold strategy for both mutual funds as well as the stocks. Mutual funds are usually bought from your stock advisor. Mutual funds also have other expenses of managing the fund. It is a called a management fee. This will vary between 0.5% to 2.0% depending on the size of the fund. This is also called MER. Mutual fund managers are professionals and need to show results. They will trade and incur brokerage. Trading commissions are usually not shown as part of MER. In some cases there are trailer commissions too when you want to sell off your holdings. Last but not the least, past performance is never a true indicator of future performance.

Stocks as an investment would be relatively cheaper to acquire. If you identify the right stock that has a history of stability and history of paying dividends, you could look for an opportunity for direct investing, thereby avoiding brokerage. Sign up for a dividend reinvestment plan and the company reinvests the dividends in stocks of the company. It could be either at a very low cost or no-cost.

Everything else remaining the same, a mutual fund would have to earn 5% more on your money just to be on par with a dividend paying company. But you have to select a good stock that you want to hang on to for a long term.

If you are still sold on mutual funds, try an index fund. They are based on the premise that the market will provide long term results that no manager can deliver over a long term. The active manager starts the marathon at such a severe disadvantage makes it difficult to add value on a consistent basis over the index. The expenses are usually lower than an actively managed fund.

 

Subprime mortgage crisis

Over the last several years property values have gone up in the United States. Interest rates were also very low. This encouraged people to borrow at low rates and purchase properties. This drove prices further upwards. The buyers believed that the climate of rising prices would continue forever and they could refinance at more favourable terms and/or make a profit by selling it.

The banks lent money to borrowers with lower income and/or lesser credit history. The rising prices seemed indestructible. There is a form of financial engineering called securitization. Through this vehicle mortgage lenders passed on the rights to the mortgage payments and the related default risk to third party investors. This was offered through mortgage backed securities.

When the housing bubble burst and the prices no longer increased, refinancing by buyers became more difficult. Interest payable on adjustable rate mortgages was reset higher. Defaults and foreclosure activities increased dramatically. In 2007, more than a million housing properties in the US were subject to foreclosure activity. The lenders who retained the credit risk were the first to be affected as certain borrowers became unable or unwilling to make the payments. The unwilling issue comes up when the property values become lower than the borrowing.

The widespread defaults and credit risk caused lenders to reduce their lending or provide loans at higher rates. This affected the ability of corporations to borrow through commercial paper. Banks had to write off subprime loans – Citigroup the largest bank reported writing off $10B in the last quarter and $5.1B in quarter ending March 08. All this caused a liquidity crisis in many countries.

The Government and Federal Reserve have tried to ease the liquidity crisis through reduction of interest rates and bail out for certain financial institutions. This also impacted USD. The USD became weaker relative to other currencies. This drives prices upwards. In a related development commodity prices have been spiralling upwards. All this lead to erosion of investor confidence. The rate cut on interest rates and the economic stimulus package signed by the President are designed to improve liquidity and stimulate economic growth and inspire investor confidence in the financial markets

Index funds - what is it?

An Index fund is a collective investment scheme. It replicates the movements in an index that it is following. The underlying stocks are held constant regardless of market conditions. This is achieved by trying to hold all the underlying stocks in the index in the same proportion as the index itself. There are several indices that are tracked by the index funds. The more popular are the Dow Jones Index, Nasdaq, Russel 2000, Wilshire 5000 and TSX 100.

The market is assumed to be smart and would deliver good returns in the long run.  Many funds use computers with very little human intervention, as the computers need to follow the movement in the market. This is a passive form of management.

There are several advantages to the holders of index funds. Low cost is the most important. By virtue of a passive form of management, the costs can be as low as 0.15%, whereas in an actively managed fund, the lowest would be around 1.75%. Other things being equal, if both types of funds have the same pre-expense returns, the index holders would have a higher return by 1.60%. Compounded annually over a long term can make a substantial difference to your capital.

Clarity of objectives. When you know the underlying index that is tracked, you have clarity of objectives. There is also no drift where money managers chase higher returns and drift away from the fund objectives. Turnovers. Passive management results in lower turnover than active funds. Turnovers lead to frictions which lead to costs such as brokerage,commission,capital gains taxes etc. All this translates to lower earnings for the holders in actively managed funds.

They are not without disadvantages. The main disadvantage is that a passive fund cannot outperform the index. An active fund may outperform the index in some years. Tracking errors that are the gap between the holdings and price in the index compared with the actual holdings may sometimes lead to tracking errors.

Overall, over a long term, following an index and having a low cost year over year are great benefits in owning an Index fund.

Mutual fund or dividend paying stock?

Various studies have proved that buy and hold strategy almost always beats the buy -sell-buy-sell strategy. We will assume that we will use the buy-hold strategy for both mutual funds as well as the stocks. Mutual funds are usually bought from your stock advisor. Mutual funds also have other expenses of managing the fund. It is a called a management fee. This will vary between 0.5% to 2.0% depending on the size of the fund. This is  called MER. Mutual fund managers are professionals and need to show results. They will trade and incur brokerage. Trading commissions are usually not shown as part of MER. In some cases there are trailer commissions too when you want to sell off your holdings. Last but not the least, past performance is never a true indicator of future performance.

Stocks as an investment would be relatively cheaper to acquire. If you identify the right stock that has a history of stability and history of paying dividends, you could look for an opportunity for direct investing, thereby avoiding brokerage. Sign up for a dividend reinvestment plan and the company reinvests the dividends in stocks of the company. It could be either at a very low cost or no-cost.

Everything else remaining the same, a mutual fund would have to earn 5% more on your money just to be on par with a dividend paying company. But you have to select a good stock that you want to hang on to for a long term.

If you are still sold on mutual funds, try an index fund. They are based on the premise that the market will provide long term results that no manager can deliver over a long term. The active manager starts the marathon at such a severe disadvantage makes it difficult to add value on a consistent basis over the index. The expenses are usually lower than an actively managed fund.

Make sense of the numbers

Great! You want to analyze a stock that somebody at work was talking about. Well this is how you check it out. Your friend was talking about Bank of America. One of the largest banks in the country. Here is how you would look at the basics. If you have access to Yahoo!  on the left side you will see "Finance". Click on this. It will open a new page that will have a search box. You can search when you know the symbol for the stock. Every company that is traded in a stock exchange has a symbol. If you don't know the symbol, don't worry. The search box has a handy dandy way in which you can find it. Key in " Bank of America' in the box. It will offer different choices. Click on the correct entry. Then click on "get quotes". Now you will see a page that has a lot of numbers. We will try and explain all the numbers.

Last trade is the price paid on the last trade. When the markets are open this will keep changing. The next item is change over the previous day close. The next item is the actual price paid on the closing transaction of the previous day.

You have a 1 year target estimate. This is what the analysts think that this stock will be worth one year from today. They don't have a crystal ball and this might change.

On the right side you will see the dais's range and the 52 week range. This is important. This tells you where the stock is trading vis a vis 52 weeks history. 52 weeks is one year.

You don't want to buy the stock when it is quoted at near the 52 week high, unless you have compelling reasons. Similarly, you don't want to buy when it is close to the 52 week low unless you have very food reasons.

The next item is market cap. This is the value arrived by multiplying all the shares outstanding by the market value of one share- basically what the company is worth, based on the market.EPS - by far a very important statistic. This shows what the company earned per share last year. If you see a number say 3.30, it means the company earned $3.30 on every share. This number is derived by dividing the profit after tax by the number of shares outstanding. You also have information on Dividend and the yield. You see a figure like this  $2.56(6.80%) - means the company paid a dividend of $2.56 on every share. This gives you a yield of 6.80% per year, if you buy at this price and get this dividend.

 

Can you get monthly dividend checks?

I just love it. Getting a monthly dividend cheque. A number of companies pay  quarterly or annual dividends. There are some companies that pay a monthly dividends. Rarer still is a company that has paid dividends for over 20 years every month.

 

Realty income - NYSE - O - is one such company. The company says it has paid "452 consecutive monthly dividends,42 consecutive quarterly increases, and 48 dividend increases "since 1994 .The comapny also says " As The Monthly Dividend Company ® their primary goal is to provide dependable monthly income to shareholders. They do this by acquiring and owning retail real estate that generates dependable lease revenue that they pass on to the shareholders in the form of monthly dividends.They own 2270 properties located in 49 states. This provides diversification.

 

I know lease, property and rentals etc is a dirty word and you will take off at the mention based on what is happening in the economy. But this company has been around for a while.

 

It is structured as a REIT, so it does not pay taxes as long as it distributes 90% of its income.

 

Take a look at the company website and decide for yourself. It trades at around $25  and has  yeild of 6.4% - not bad at all.