Strategies

November 10-year YOC CCC Rankings

December 3, 2013 by All About Interest 16 Comments

*photo courtesy of ESPN

Well it’s been since March that I actually posted an update using my ranking system of the CCC Sheets.

The original article used the Jan. CCC sheets and can be found here.

I decided to take the CCC spreadsheet and rank the stocks based on their 10-year YOC. If you are unfamiliar with what Yield-On-Cost is (YOC) then refer to my resources tab or see below for an example. If you don’t know about David Fish’s Champion, Challenger and Contender (CCC) spreadsheet then you are doing yourself a disservice, the link is also on my resources tab.

Let’s say you purchased a stock at $10/share in 2013 that paid a 4% dividend or $0.40/share. In order to achieve a 10-year YOC of 10% that stock would need to pay out at least $1.00/share by 2023.

You may wonder why I care about a 10-year YOC instead of just the 1,3,5 and 10-year CAGR’s. The main factor that the CAGR leaves out is the starting dividend yield. The starting dividend in combination with the dividend growth rate will greatly influence your returns.

There’s a variation of this screen used alot by members of the Seeking Alpha community and it’s coined the “Chowder Rule”. This can also be found now on the CCC sheets. The rule basically adds the starting yield with the dividend growth rate (5-year CAGR) and looks for it to be higher than a certain number. While this can be a useful screen, there is still a discrepancy between dividend payers that have different growth rates but still arrive at the same number. For instance, a 3% yielder with 5% growth would get the same grade (an 8) as a 5% yielder with 3% growth. Holding a lower yielding stock with a higher growth rate will at some point provide higher returns assuming the growth rates don’t change. My 10-year YOC would give this 3% and 5% yielder a 4.9 and 6.7 respectively.

The purpose of this screening process will be to identify unfamiliar companies that have a high expected dividend growth rate combined with a starting yield that would produce greater returns. These companies may be good candidates for further research.

The first step was to sort all stocks by their current dividend yield and eliminate any stocks not paying at least a 2% yield.

Next I sorted all columns by TTM P/E and eliminated every stock with a TTM P/E over 18. I do realize this eliminates a lot of REIT’s, MLP’s, and telecom stocks. I’m ok with this since I’m not really targeting these stocks right now.

Then I decided to eliminate any Champions with a 10-Year CAGR < 5%, followed by any Contenders with a 5-Year CAGR < 7 % and finally any Challengers with a 3-year CAGR < 7%.

This last screen dropped the list of Champions, Contenders and Challengers to 18, 35 and 28 respectively.

Next I took the latest CCC sheet and added some new columns to calculate a 10-year YOC using each stock’s 1,3, 5 and 10-year compound annual growth rate (CAGR). I will call these new metrics 10YOC1, 10YOC3, 10YOC5, and 10YOC10 for simplicity.

After sorting, I looked for any companies that had a 10YOC1, 10YOC3, 10YOC5 or 10YOC10 of 10% or higher. I applied this to the list of Champions, Contenders and Challengers. After applying this rule the lists dropped to 10, 34, and 26 companies respectively.

Next, I wanted to look to see if the DGR was increasing or decreasing. I highlighted in red the 10-year YOC’s of companies that were both reducing their rate of increases and still under 10%.

This is a previous example of how it looked:

Companies got credit for increasing their dividends at faster rates. For example: The 10YOC5 for AWR in the example above was 4.97 and did not get highlighted in red because its 10YOC5 was higher than its 10YOC10 of 4.09.

Next, I decided to remove any company that had a 10YOC1 in the red for Champions and a 10YOC1 or 10YOC3 in red for Contenders and Challengers.

For the Example Champions list above this removed LEG, MDT, NUE and WMT.

This elimination dropped the list sizes for the Champions, Contenders and Challengers to 5, 11 and 21 respectively.

Here are the 37 candidates left that may be worthy to do further research on.

Champions

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Contenders

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Challengers

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The list I came up with in March had 45 candidates. It’s not surprising that this number has dropped as the markets have gone up, which has caused starting yields to go down.

Coincidentally, MCD has made the list and I had already planned on adding a little more tomorrow with my weekly buys. TGT is also one of the only 5 on the Champion list and I’ve recently increased my position there also. I noticed DE made the Contender list and I’ve been watching it closely. I’ve decided that I will invest in DE and CAT as both half positions instead of putting a full allocation into CAT. Therefore I’ll start by adding some DE as part of this week’s purchases.

Keep in mind that this is just a starting point and I feel these companies need further research before making an investment.

Introduction to Options Trading – Part 1 (PUTS)

August 20, 2013 by All About Interest 10 Comments

Apple Has More Money Than God, Could Exist Solely On Cash Reserves Till 2018

I had a few people ask about an introduction to options. In this introduction to options, I will go over some of the basics and talk about the options strategy I use the most, selling puts. In a rising market, It can feel like you are “printing money.” I will also talk about how to buy a put and why you would want to.

I am certainly no expert on options trading but I have done really well so far. I’ve earned $3486 so far this year and have kept no more than $13,000 in my options trading account. You can see all of my options trades on my options tab. I don’t know if it has been mostly luck but hopefully, I will be able to give some advice or tips from what I have learned over the last 1 1/2 years.

Before I begin, I previously posted my 2012 year-end options results here. This covers some of the basics and also a lot of the tax implications of options.

So what are options? From Wikipedia:

An option is “a promise which meets the requirements for a formation of a contract and limits the promisor’s power to envoke an offer.”

Options typically exist in one of two forms:

Put Options – A put option gives the holder the right to sell a specific stock at a set price, the “strike price” , on or before a specified date.

Call Options – A call option gives the holder the right to buy a specific stock at a set price on or before a specific date.

Additional options terminology you should know before we continue:

Strike Price – The strike price is a fixed price at which the owner of this option may buy or sell said security.

Premium – This is the income received by buying or selling an options contract(s).

Expiration Date – This is the last day that the options contract is valid.

Example of selling a put:

Let’s use Coca-Cola (KO) as an example. As of this writing, KO shares are currently trading at $39.46/share. I really like KO stock and want to buy more but I believe that Coca-Cola may be slightly overvalued. However, I determine that I’m willing to purchase KO shares on for $37/share or less. Well, I could sell an option contract in order to “try” to buy more KO stock at this cheaper price. The worst case is that KO’s price doesn’t drop and I get to keep the premium.

I decided to look about 5-6 months out in time. Below you can see the Jan 18 ’14 KO Puts around $40 strike. Since I’m selling a put, the bid price is the price I’m going to get paid to sell this put option. Keep in mind that the longer the amount of time I’m willing to wait, the higher the premium is.

So what Strike Price will give me a chance to purchase KO for under $37/share?? For the sake of this example we won’t be counting commission costs. So the way you figure your cost basis is to take the Strike Price and subtract the Bid price. So for the $40 Strike, I would subtract $2.17 and come up with $37.83. This is higher than I want to pay so let’s take a look at the $37.50 Strike. If I sell 1 $37.50 KO Jan 18 ’14 Put right now then I would receive $1.05 x 100 = $105. Keep in mind that 1 put is equal to a 100 share lot so you multiply the bid/ask by 100 to figure out your premiums. So if these 100 shares of KO got assigned then my cost basis would be $37.50-$1.05 = $36.45/share. If KO is trading above $37.50/share around Jan 18 ’14 then I would get to keep the $105 for waiting.

To me, selling puts against sold blue-chip companies is a win-win. I’m not worried KO is going out of business. I currently own shares and would like to build a bigger position. The key is trying to buy shares without over-paying. In this example, by waiting 5 months, you are given a chance to own additional shares of KO at a cost of $36.45/share or a 7.6% discount to where KO is currently trading.

Example of buying a put:

Let’s assume I bought the put instead of sold it in my previous example. My break-even (the point where the sloped part of the graph crosses the x-axis) in the above example would be $37.50 (the strike) – $1.06 (the premium paid per share) = $36.44. Any price above $37.50, I have limited my loss to the premium paid. Any price below $36.44/share, I will be making a profit.

Buying puts is a concept that I understand but have not done yet. You are hoping or expecting the stock price to drop between the purchase date and the expiration date. Your loss is only limited to the amount of premium you paid. However, your profit potential can be very high depending on how far the stock drops in price. If you had bought puts in bank stocks before the financial crisis then you could have gotten rich. You are buying the right to sell a particular stock at a pre-determined price. You can do this whether you own the stock or not. Using the example above, let’s assume I bought the $37.50 Jan 18 ’14 Put. It would cost me $1.06 (ask price) x 100 shares = $106. Basically, if KO was trading below $37.50/share then I might want to exercise my right to sell 100 shares for $37.50/share. This trade protects my investment from dropping below $37.50 before the expiration date. If I didn’t own 100 shares of KO then I am basically just betting that KO stock will drop in price enough that I can sell the put back before expiration for more than the premium. As KO stock drops, the bid/ask price of this particular put will rise.

In order to sell options, you will have to apply for an options trading account with your broker. For E*Trade, in order to sell naked puts, I had to get approved for Level-3 options trading using a marginal account. This requires a little bit of prior options experience to get qualified for naked puts. However, most anyone should be approved for basic options trading using a cash account.

You will want to have $37.50 x 100 = $3750 in cash to secure the KO trade for a cash account. Once you get approved for marginal trading and naked put selling then you are able to leverage your money to make many more trades. For instance, this particular trade would only require me to have $750 in cash initially. As the price of KO goes up, the bid/ask price will go down. So if KO goes on a run then my margin maintenance requirement will also go down. However, is KO shares drop then I will be required to hold a little more cash to secure this put. I will talk about maximizing your leverage in a future article.

Note: I actually made a real-life put trade with KO recently and have posted that here.

I hope this is helpful and I plan to write another article involving call options, using margin to leverage your trades and some advanced options strategies.

What it Takes to Become a Millionaire

March 29, 2013 by All About Interest 10 Comments

I will tackle this problem from a mathematical standpoint. I want to know how much money I need to put away each year in order to have $1,000,000 after n years. These 19 Legitimate Ways to Make a Million Dollars show that this figure is actually much more achieveable than many would have you believe. I also want to know how long it will take to have $1,000,000 if I know the amount I can put away each year.

Formula: actuarial accumulated value of an annuity paid at the end of the year

where n = time in years and i = annual interest rate.

Example 1:

Investor A just turned 40 years old and wants to be a millionaire by age 50. He wants to know how much money to invest at the end of each year assuming his investments will earn an interest rate of 7%.

Solution 1:

In order to solve this equation we will need to introduce a new variable, A, where A is the amount paid (invested) at the end of each year. We will also set the equation equal to the final accumulated value of $1,000,000.

$1,000,000 = A *

So i = .07 and n = 10 for this example.

Solving the equation for A we get A = $72,377.50.

In order for this investor to be a millionaire by his 50th birthday he will need to invest $72,377.50 at the end of each year earning 7%.

Example 2:

Investor B at age 24 determines he will have $12,000 to invest at the end of each year. Assuming a return of 7% per year he wants to know how many years it will take to become a millionaire.

Solution 2:

We know A = $12,000 so
$1,000,000 = $12,000 *

Substituting for i = .07 and solving for n gives us:

n = 26.07

So it will take investor B a little over 26 years if he invests $12,000 at the end of each year that earns 7% interest. He will be 50 years old.

Conclusion:

Investor A needs to put away a lot more money each year than Investor B. This is due to Investor B having an additional 16 years of compounding before he reaches 50.

I wanted to give a fairly simple formula that anyone could use to come up with similar solutions. Things can get a lot more complicated with varying interest rates, increasing payments and monthly contributions.

Finding Dividend Stocks With High Expected Dividend Growth

February 7, 2013 by All About Interest 17 Comments

I previously wrote an article where I looked at different dividend rates combined with a dividend growth rate that would achieve a yield-on-cost (YOC) of 10% after 10 years. This article can be found here.

I tend to spend at least an hour per day working with spreadsheets. I’m either creating or modifying them for work or as a screening process before doing more research.

I will go through a screening method that I’ve used before that will involve David Fish’s Champion, Challenger and Contender spreadsheets that are updated monthly, referred to as the CCC sheets.

The purpose of this screening process will be to identify unfamiliar companies that have a high expected dividend growth rate and may be good candidates for further research.

Let’s say you purchased a stock at $10/share in 2013 that paid a 4% dividend or $0.40/share. In order to achieve a 10-year YOC of 10% that stock would need to pay out at least $1.00/share by 2023.

I decided to take the latest CCC sheets and add some new columns to calculate a 10-year YOC using each stock’s 1,3, 5 and 10 year dividend growth rates (DGR’s). I will call these new metrics 10YOC1, 10YOC3, 10YOC5, and 10YOC10 for simplicity.

I looked for any companies that had a 10YOC1, 10YOC3, 10YOC5 or 10YOC10 of 10% or higher. I applied this to the list of Champions, Contenders and Challengers. After applying this rule the lists dropped to 15, 88, and 117 companies respectively.

Next, I wanted to look to see if the DGR was increasing or decreasing. I highlighted in red the 10-year YOC’s of companies that were both reducing their rate of increases and still under 10%. This is what the Champions list looked like at this point:

Companies got credit for increasing their dividends at faster rates. For example: The 10YOC5 for AWR was 4.97 and did not get highlighted in red because its 10YOC5 was higher than its 10YOC10 of 4.09.

Next, I decided to remove any company that had a 10YOC1 in the red for Champions and a 10YOC1 or 10YOC3 in red for Contenders and Challengers.

For the Champions list above this removed LEG, MDT, NUE and WMT.

This second step dropped the list sizes for the Champions, Contenders and Challengers to 11, 43 and 87 respectively.

My third step was to eliminate any stock not paying at least a 2.0% yield. My minimum yield criteria is 2.0% so I removed any Champion, Contender and Challenger that did not meet this initial yield of 2.0%. I realize I should have done this sooner so I’ll tweak my method if I do this process again. This dropped the CCC lists to 9, 30 and 51.

For my final screen, I removed all companies with a TTM P/E over 18. This brought my final list of Champions, Contenders and Challengers to a more manageable 8, 16, and 23 respectively.

Here are the 47 candidates sorted by the 10YOC5 column that may be worthy to do further research on.

Champions

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Contenders

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Challengers

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Immediately I notice several companies that I’m already invested in including Walgreen Company (WAG), Altria Group (MO), McDonald’s (MCD), Chevron (CVX), Lockheed Martin (LMT), Teva Pharmaceutical (TEVA), Phillip Morris (PM), Lorillard (LO) and Intel (INTC) just to name a few.

I also notice several companies all in different industries that look interesting at first glance based on metrics such as P/E, PEG, payout, yield and dividend growth. Some of these companies are: ACE Limited (ACE), VF Corp. (VFC), Span-America Medical (SPAN) and Occidental Petroleum (OXY).

ACE is a global insurance and reinsurance organization with customers in more than 170 countries. They have paid increasing dividends for 20 straight years and have been averaging at least two increases per year for the last several years. Their yield is currently 2.3%. They have a TTM P/E of 10.86, a PEG of 2.48 and payout ratio of 25% so there is a lot of room left for dividend growth.

VFC is a global apparel company based in the U.S. They are a diversified apparel company across brands and geographies. They own brands such as Timberland, Wrangler, Reef, 7 For All Mankind and The North Face to just name a few. VFC has 40 straight years of dividend increases. They have a yield of 2.3%, TTM P/E of 16.3, PEG of 1.56 and a payout ratio of 38%.

SPAN manufactures and distributes a variety of therapeutic support surfaces including foam products for the medical, consumer and industrial markets. Span has increased dividends for 14 straight years. They have a current yield of 2.6%, TTM P/E of 10.7 and payout of only 28%.

OXY is an integrated oil & gas company. They operate in three main segments: oil & gas, chemicals and midstream. OXY has increased its dividend for 10 straight years. They have a current yield of 2.45%. They have a TTM P/E of 12.1, PEG of 1.8 and payout ratio of 30%.

Keep in mind that this is just a starting point but I feel these companies deserve further research before making an investment.

If anyone thinks this process may be helpful then I may post results again next month to see how many changes or new companies there are.

10-year YOC Strategy

March 22, 2012 by All About Interest 2 Comments

So one of my strategies is to buy stocks that I believe will have a YOC (Yield On Cost) of at least 10% after 10 years. See Mathematics tab if you want to know how to calculate this yourself.

For example: Let’s take a purchase I initiated earlier this year of NSC. It’s currently yielding 2.9%. It has a 5-Year DGR (Dividend Growth Rate) of 19.08%. If that continues then the 10 year YOC would be 16.63%, much higher than the 10% I look for. However, I don’t count on them keeping it quite this high. The 3-year DGR is 10.98%. Using this I would get a 10-year YOC of 8.22%. I would expect the DGR to be somewhere between those numbers.

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