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Earnings Matter More Than Elections

Earnings Matter More Than Elections – Dividend Power Week In Review

Earnings Matter More Than Elections

Earnings Matter More Than Elections. This has been an interesting week to say the least. Most people were probably focused on the U.S. election instead of the market. That said, the markets had a very good week. All three major indices were up nearly 7% or more. You can read into that what you will but ultimately the markets like certainty. From that perspective elections add a large degree of uncertainty since a potential change in administration may change budget priorities, fiscal policy, monetary policy, taxes, etc. These factors matter and thus elections can have some impact on stock market returns but in a broader sense and not a specific equity. In reality earnings matter more than elections over longer periods of time.

I recently read on a different investment site, a question from a poster about stocks to buy based on the election. In my opinion elections are not a reason to make changes regarding a dividend growth portfolio or specific stocks, especially when considering longer periods of time. Since I am a fundamental dividend growth investor, I believe that earnings matter more than elections for individual equity market returns. This comes down to three core factors: earnings growth, price-to-earnings ratio, and dividend yield. Now let’s take a closer look at why earnings matter more than elections.

Earnings Matter Since They Drive Returns More Than Elections

Earnings per share are essentially the return an investor gets when buying a stock. You are buying a piece of the company’s future earnings stream. Earnings can be used to pay a dividend, reinvested in the company, or pay down debt. Hence, it is earnings per share and its growth rate that really drives stock prices. When you buy a share in a company you are in effect paying for a part of the future stream of earnings. It is for this reason stocks that are rapidly growing earning per share tend to have higher P/E ratios while stocks that have stagnant or even declining earnings per share have lower P/E ratios. Hence, investors justify paying nearly 200X earnings for Tesla (TSLA) or nearly 100X earnings for Amazon (AMZN) since they expect earnings to keep growing at a very rapid clip in the future. On the other hand, investors will pay a low earnings multiple for a stock that has lower or more volatile earnings growth, e.g. Ford (F) or many retailers that compete with Amazon.

Earnings Growth Matter Than Elections Since They Can Drive P/E Ratio Expansion

The P/E ratio is essentially a valuation measure based on earnings. Many investors use it since the metric is simple and easy to understand. In this context, you have only to look at the current P/E ratio and compare it to the historical average and determine if the stock is overvalued or undervalued. A reversion to mean of an undervalued company will provide some tailwinds for total return. The opposite is also true as a reversion to mean of an overvalued company will provide some headwind for total return. Of course, you are assuming that the company is operating in essentially the same manner as in the past and has the same earnings power. But rapid future earnings growth means that the P/E ratio may expand. Many investors in tech stocks and biotech stocks follow this concept. For instance, a tech stock valued at P/E ratio of 15X but growing earnings per share at 40% annually is worth looking at. But investors have probably already discovered this hypothetical stock and are willing to buy the stock at higher P/E multiples for the expected future earnings.

Earnings Matter More Than Elections for Dividend Growth

Lastly, earnings per share can be used to increase the dividend, which help increase total return and is music to my ears as a dividend growth investor. This is simple math. For example, if a company’s management has a dividend payout policy of 45% – 55% of earnings, the dividend growth will match earnings growth. A company can only grow the dividend so long if earnings are not growing. Granted, there is usually year-to-year variability in earnings growth, but the variability tends to average out over time. If you see that the payout ratio is rising consistently over time that is likely a warning sign about future dividend growth. If the payout ratio rises over a certain percentage, I use 65%, then it’s time to take a closer look at the company’s dividend since it may no longer be safe.


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Dividend Increases and Reinstatements

Snap-on Incorporated (SNA) hiked the dividend by 13.9% to $1.23 per share from $1.08 per share. Snap-on has paid a continuous dividend since 1939. The stock is a Dividend Contender.

AmerisourceBergen Corporation (ABC) raised the dividend by 4.8% to $0.44 per share from $0.42 per share. The stock is a Dividend Contender.

Emerson Electric (EMR) increased the dividend by 1.0% to $0.505 per share from $0.50 per share. The stock is a Dividend Champion and Dividend Aristocrat.

The Wendy’s Company (WEN) announced a whopping 40% hike to the dividend to $0.07 per share from $0.05 per share. Wendy’s previously cut the dividend.

Rockwell Automation (ROK) raised the dividend by 4.9% to $1.07 per share from $1.02 per share. The stock is a Dividend Contender.

Huntington Ingalls Industries (HII) increased the dividend by 10.7% to $1.14 per share from $1.03 per share. The shipbuilder is a Dividend Challenger.

Wingstop (WING) declared a $5.00 per share special dividend as part of its recapitalization.

The Estee Lauder Companies (EL) hiked the dividend 10.4% to $0.53 per share from $0.48 per share. Estee Lauder previously suspended the dividend.

AbbVie (ABBV) raised the dividend by 10.2% to $1.30 per share from $1.18 per share. The stock is a Dividend Challenger.

MDC Holdings (MDC) increased the dividend by 21.2% to $0.40 per share to $0.33 per share. The stock is a Dividend Challenger.

Coronavirus Dividend Cuts and Suspensions List

I updated my coronavirus dividend cuts and suspensions list this past Wednesday. The number of companies on the list has risen to 446. We are well over 10% of companies that pay dividends having cut or suspended them since the start of the COVID-19 pandemic. The number of companies on the list continues to rise each week. 

Three new companies were added to the list in the past week. These were Dover Motorsports (DND), Canadian Banc Corp (CNDCF), and Energy Transfer LP (ET).

I included seven companies that I had previously missed. The seven companies that I previously missed were AstroNova (ALOT), United Bancshares (UBOH), Oxford Lane Capital (OXLC), Great Ajax (AJX), National CineMedia (NCMI), Amplify Energy (AMPY), and Sculptor Capital (SCU).

Market Indices

Dow Jones Industrial Averages (DJIA): 28,323 (+6.87%)

NASDAQ: 11,895 (+9.01%)

S&P 500: 3,509 (+7.32%)

Market Valuation

The S&P 500 is trading at a price-to-earnings ratio of 35.4X and the Schiller P/E Ratio is at about 32.0X. These two metrics popped this past week after declining for the previous two weeks. Note that the long-term mean of these two ratios are 15.8X and 16.7X, respectively. I continue to believe that the market is overvalued at this point. I personally view anything over 30X as overvalued.

S&P 500 PE Ratio

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Source: multpl.com

Shiller PE Ratio

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Source: multpl.com

Stock Market Volatility – CBOE VIX

The CBOE VIX measuring volatility declined by nearly 14 points to 24.86 at end of this past week. This VIX had spiked to ~38 last week and this latest move is a significant improvement. The VIX still remains elevated relative to the long-term average. The long-term average is approximately 19 to 20.

The CBOE VIX came down rapidly this week after spiking last week. A examination of the chart indicates that the major move downward was due to increasing certainty on the outcome of the election. Recall that markets do not like uncertainty. Although the election is seemingly resolved, COVID-19 is still having an impact on the global economy. In the U.S., new infections are surging and hit over 100,000 per day. Deaths are rising as well, but this is a trailing statistic. A new administration may mean a new approach to COVID-19 but that remains to be seen. Overseas, several European countries have implemented lockdowns. On the other hand, Asia and Australia and a few other locations are heading in the other direction with declining or at least flat new infection numbers.


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Source: Google

Fear & Greed Index

I also track the Fear & Greed Index. There are seven indicators in the index. They are Put and Call Options, Junk Bond Demand, Market Momentum, Market Volatility, Stock Price Strength, Stock Price Breadth, and Safe Haven Demand.

The Fear & Greed Index is signaling Fear in the market for the second week in a row at a value of 40. This is up from the recent low of 29 last week, which was the lowest since the market route during the depths of coronavirus pandemic.

Both Market Momentum and Junk Bond Demand are now signaling Greed. The pop in the market this past week has placed the S&P 500’s 125-day moving average 7.38% Junk Bond Demand remains high as interest rates are low. Investors are accepting only 2.16% in additional yield over investment grade corporate bonds.

Market Volatility is now Neutral as the CBOE VIX has made a major move downward.

Stock Price Breadth and Safe Haven Demand are indicating Fear. Market breadth is improving as the more stocks on the NYSE are advancing now. But it is still on the lower end of its range over the past two years. Stocks are still outperforming bonds but by only 1.34%, which is very weak reading.

Put and Call Options and Stock Price Strength are signaling Extreme Fear. Put option volume has lagged call option volume by 46.91%. But put buying has increased. The number of stocks hitting their 52-week highs still exceeds that hitting their 52-week lows, but it is at the lower end of the range.

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Source: CNN Business

Unemployment Numbers

The number of weekly new unemployment claims were down with last week at 751,000. This is down 7,000 from last week’s revised numbers. We are now below 800,000 claims consistently. But for some perspective, one-year ago weekly unemployment claims were only about 212,000. Currently we are 3X – 4X the normal level. The seasonally adjusted insured unemployment rate was 5.0%.

The ten states with the highest unemployment rates were Hawaii (11.3), the Virgin Islands (9.6), California (9.5), Nevada (9.2), New Mexico (9.0), Georgia (7.6), Puerto Rico (7.6), District of Columbia (7.1), Massachusetts (6.9), and Louisiana (6.8). 

Economic News

The Commerce Department announced that September’s new orders for manufactured goods rose 1.1% to $475 billion after rising 0.6% in August. Demand for transportation equipment led the way, while orders for machinery, furniture and electrical equipment fell.  Orders for non-defense capital goods, excluding aircraft, which are considered a measure of companies’ spending plans on equipment, rose 1.0%. Total orders were still 4.3% lower than in February.

The U.S. Census Bureau reported that the U.S. trade deficit narrowed $63.9 billion in September after hitting a 14-year high in August of $67 billion. Exports in September rose 2.6% to $176.4 billion, led by the food and beverage category, where shipments of $12.9 billion were the highest since July 2012. Soybean shipments to China accounted for a large part of the increase. Imports rose 0.5% to $240.2 billion.

The Labor Department reported nonfarm productivity increased 4.9% in the third quarter, following an even larger increase of 10.6% in the second quarter. Labor costs fell 8.9% after increasing 8.5% in the second quarter. Production increased by 43.5% in the third quarter compared to a contraction of 36.8% in the second quarter, while hours worked increased by 36.8% in the third quarter compared to a contraction of 42.9% in the second quarter.

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Prakash Kolli is the founder of the Dividend Power site. He is a self-taught investor, analyst, and writer on dividend growth stocks and financial independence. His writings can be found on Seeking Alpha, InvestorPlace, Business Insider, Nasdaq, TalkMarkets, ValueWalk, The Money Show, Forbes, Yahoo Finance, and leading financial sites. In addition, he is part of the Portfolio Insight and Sure Dividend teams. He was recently in the top 1.0% and 100 (73 out of over 13,450) financial bloggers, as tracked by TipRanks (an independent analyst tracking site) for his articles on Seeking Alpha.

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