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Dividend Investor
Safe Income and Dividend Growth

Cabot Dividend Investor 518

The market has gotten “exciting” again, for better or worse. In today’s issue we’re making lemonade from lemons, adding a medical REIT to the high yield tier.

Cabot Dividend Investor 518

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Surprise!

The stock market had quieted down in recent weeks; the major indexes were establishing fairly tight ranges, a constructive sign. However, yesterday’s massive selloff in Italian bonds—triggered by political turmoil—caused a lot of unexpected moves, including big pullbacks in most stocks. It also pulled treasury yields back significantly from their recent highs as fixed income investors fled to “safe havens.” That was exactly the opposite of what most analysts were preparing for, so it understandably caused some shock.

[highlight_box]What To Do Now: One day can’t change too much in the market, but it is a good reminder of why it’s important to manage risk even when things are looking up. For us, that means putting Ecolab (ECL), which slipped particularly far yesterday, back on Hold today. In addition, Carnival (CCL) is on the chopping block if it doesn’t shape up soon. Also check out this month’s educational article, at the end of the issue, for tips on reducing risk from recent history.

Despite the market’s volatility, most of our portfolio is still healthy. High-yield investments, like STAG Industrial (STAG) and ONEOK (OKE), are looking particularly strong today, so we’re adding one more REIT to the High Yield Tier. Elsewhere the story is more mixed, but Broadridge (BR), Intel (INTC) and McGrath RentCo (MGRC) are all strong and buyable if you’d like to add to your portfolio. [/highlight_box]

Featured Buy

Community Healthcare Trust (CHCT)

Community Healthcare Trust is a real estate investment trust (REIT) that owns healthcare facilities in non-urban areas. The company’s buildings include clinics, medical offices, mental health facilities, ambulatory surgery centers and specialty properties like dialysis and endoscopy centers. Properties are leased to healthcare providers under long-term leases, providing plenty of visibility in regards to future revenues.

Community Healthcare currently has investments in 89 properties, and is adding a few new properties to its portfolio every quarter, mostly through acquisitions. The lion’s share of revenues currently come from the Midwest, the South and Texas. Management chooses to focus on non-urban markets in part because there’s less competition there, so acquisition prices are lower.

While the future is bright, the past is short: Community Healthcare Trust is a new company, founded in March 2014 by industry veteran Timothy Wallace. The REIT came public in May 2015 and paid its first dividend that August. So the company’s dividend history—and all other types of history—are thin. However, what track record CHCT has is good.

Funds from Operations (FFO), a widely used measure of REIT cash flow, have increased nearly every quarter since the IPO. In the latest quarter, FFO per share rose by 5%, though that pace should accelerate—analysts expect annual growth of about 17% this year and 19% next year.

In part because the company is relatively new, CHCT has the lowest debt of any of the health care REITs I track (by far).

And since August 2015, the company has increased the dividend by 0.25 cents per quarter every quarter, or by about 3% per year. That’s helped boost CHCT’s IRIS Dividend Growth Rating to 5.3, out of 10. However, its Dividend Safety Rating is still low, only 1.8, reflecting its short track record of consistent dividend payments. The current yield of nearly 6% may make up for this lack of safety for some investors.

However, safe income investors, buy-and-hold investors and investors with low risk tolerance should look at our holdings with stronger Dividend Safety Ratings. In addition, CHCT is a little thinly traded, so use care not to overpay.

That being said, CHCT’s chart makes it an attractive option for shorter-term investors with medium-to-high risk tolerance. Last year, while REITs as a whole floundered, CHCT climbed 22%. The stock was hit hard by the December-February REIT selloff, crashing 23% from its highs, but started outperforming again after the sector bottomed in February. Two weeks ago, when the 10-year Treasury yield surged above 3% for the first time since 2014, CHCT pulled back only to its 50-day moving average. The stock bounced off support that Friday and has been marching higher since, recently breaking out to its highest level since January 5.

Even though interest rates recently hit multi-year highs, the REIT sector has been stable for almost four months now, suggesting investors discounted these higher rates during their December-February correction. And if interest rate expectations start to move the other way—a possibility after yesterday’s Italian drama—the sector could be in for an unexpected rally. Bottom line, when headlines and the market tell two different stories, we always listen to the market. In this case, REITs are telling us they’re not worried about rising interest rates right now.

And CHCT in particular looks well set up for an advance. Volume is light, but I like the stock’s three higher lows since February—two at the 50-day line—and recent breakout. Risk-tolerant investors looking to add yield to their portfolio can Buy some CHCT here. I’ll be adding the stock to our High Yield tier at tomorrow’s average price.

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Community Healthcare Trust (CHCT)
Price: 28
52-week range: 30.64-22.41
Market cap: $501.58 million
P/E: n/a
Current yield: 5.8%
Annual dividend: $1.60
Most recent dividend: $0.40
Dividend Safety rating: 1.8
Dividend Growth rating: 5.3
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Dividends since: 2015
Consecutive years of increases: 2
Qualified dividends? No
Payment Schedule:
Quarterly
Next ex-dividend date:
August 16, 2018 est.

Portfolio at a Glance

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Portfolio Updates

High Yield Tier

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The investments in our High Yield tier have been chosen for their high current payouts. These ?investments will often be riskier or have less capital appreciation potential than those in our other ?two tiers, but they’re appropriate for investors who want to generate maximum income from their? portfolios right now.

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BUY – AllianceBernstein (AB 28 – yield 9.2%) – Financial stocks were hit particularly hard by yesterday’s selling but AB held up better than most of its peers, a good sign. Another good sign is that AB followed up its recent breakout to a new 52-week high with a few more days of gains before pausing to consolidate. Momentum is good, AB is outperforming other financials, and earnings estimates are solid. AllianceBernstein is a New York-based investment manager known for their active strategies. Risk-tolerant investors can buy here for high yield, but remember that distributions are variable (based on cash flow), don’t qualify for the lower dividend tax rate, and that you’ll get a K-1 at tax time.

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HOLD – General Motors (GM 37 – yield 4.0%) – Even after yesterday’s pullback, GM remains above its 50-day moving average, and the stock’s recent low was higher than its March low, a good sign. However, GM remains susceptible to news-driven moves as the Trump Administration and their Chinese counterparts spar over tariffs on imported cars and auto parts. Plus, earnings estimates aren’t great; analysts expect EPS to fall 3% this year and grow only 1% next year, due to plateauing car sales. So Hold is the appropriate rating for now.

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BUY – ONEOK (OKE 66 – yield 4.8%) – OKE is consolidating its recent gains just under its 52-week high. There’s very little selling pressure here; the stock didn’t budge during yesterday’s selloff. Plus, the stock’s breakout followed a 15-month consolidation, so the rally is early stage. I think high yield investors can Buy some here. Note that although ONEOK is a pipeline company, it’s not a master limited partnership (MLP). The company is organized as a corporation and its dividends qualify for the lower dividend tax rate.

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BUY – STAG Industrial (STAG 27 – yield 5.3%) – REITs outperformed during yesterday’s selloff because of the decline in Treasury yields, adding to the evidence that STAG is getting ready for a sustained rally. The company is an industrial REIT that mostly owns warehouses, which are in high demand from e-commerce companies competing to fulfill orders faster. Funds from operations (or FFO, a widely-used measure of REIT cash flow) have increased every year since the REIT came public in 2011, including a 29% jump last year. The stock pays monthly distributions that don’t qualify for the lower dividend tax rate. High-yield investors can buy some here. Note that STAG trades ex-dividend today.

Dividend Growth Tier

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To be chosen for the Dividend Growth tier, investments must have a strong history of dividend increases and indicate both good potential for and high prioritization of continued dividend growth.

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HOLD – American Express (AXP 98 – yield 1.4%) – Financials got hit hard by yesterday’s selloff and AXP sank all the way to its 50-day moving average, around 97. The pullback is significant but not cause for concern yet. AXP remains above its 50- and 200-day lines, as well as its most recent low from earlier this month. AmEx is one of the financial institutions that will lose its “systematically important” designation under the Dodd-Frank rollback passed by Congress last week, giving the company more freedom and likely providing a nice tailwind to the stock. Earnings estimates haven’t moved but remain strong: 20% revenue growth and 23% EPS growth this year. I’ll put the stock back on Buy if we get a confirmed breakout to new highs or another successful test of the 50-day moving average. Hold.

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HOLD – BB&T Corp (BBT 52 – yield 2.9%) – BBT broke through its 50-day to the downside during yesterday’s selling, but the line hasn’t been a significant source of support recently. The stock has bottomed at the 51 level several times this year, so that’s an area to watch. BB&T is another beneficiary of the Dodd-Frank rollback signed into law Thursday, which eases capital requirements on banks with under $250 million in assets, making it easier for them to raise their dividends, buy back stock and complete acquisitions. Over the past five years, BB&T has raised its dividend by an average of 10% per year, but still has a relatively low payout ratio of 38%, so there’s room for more growth in the dividend (especially with the savings from the recent tax cuts). I’d put BBT back on Buy on a confirmed breakout to new highs. To the downside, I’d take some profits on a violation of support around 51. For now, Hold.

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BUY – Broadridge Financial Solutions (BR 114 – yield 1.3%) – Broadridge continues to consolidate just under recent all-time highs. The stock’s 50-day moving average is now at 110 and could catch up soon, providing a launching pad for the stock’s next upmove. Intermediate- and long-term, BR remains in a strong uptrend. The company processes proxy votes and distributes investor communications for roughly 80% of the outstanding shares in the U.S. They also provide other technology and services to financial companies, like trade settlement and wealth management tools. The stock is low-yielding, but growth is steady: Broadridge has increased its dividend every year for 10 years. BR is a Buy for dividend growth.

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HOLD – Carnival (CCL 63 – yield 3.2%) – CCL has pulled back to its April-May lows around 63 and is technically pretty weak—the stock is below its 50- and 200-day moving averages, is trending down, and has made a series of lower highs. Higher oil prices are a headwind, and the sector is notoriously cyclical. However, cruise demand remains strong, and Carnival is the world’s largest cruise company, with 10 different cruise lines tailored to a range of customers around the world. Analysts currently expect CCL to deliver 9% revenue growth and 16% EPS growth this year, and 8% revenue growth and 15% EPS growth next year. We’ve already taken some profits, so I’ll keep the stock on Hold and see if it bounces around 63 again, but I’ll sell if it breaks to new lows.

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HOLD – CME Group (CME 159 – yield 1.8%) – CME’s sideways trend continues. The stock has bounced twice around 155, but now seems stuck below its 50-day moving average. Volume is light, so we’re not getting any strong signs either way. If all is well, the stock should get back above the 50-day and resume its uptrend soon. If it breaks through support at 155 instead, we’ll take some more profits. CME owns exchanges where investors trade derivatives on everything from interest rates to corn. Higher market volatility is typically good for business, but the stock has been in neutral since mid-March.
Next ex-div date: June 7, 2018

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BUY – Intel (INTC 55 – yield 2.2%) – Intel actually hit a new 52-week high yesterday before closing slightly lower. The stock had spent a month trying to get back to its post-earnings high, which turned out to be short-lived after Intel revealed production of its next-gen core processors would be delayed until 2019. Despite worries that this will cause Intel to lose valuable ground to competitors, investors don’t seem to mind. Selling pressure is clearly light and earnings estimates are good, so INTC is a Buy here for dividend growth.

Safe Income Tier

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The Safe Income tier of our portfolio holds long-term positions in high-quality stocks and other investments that generate steady income with minimal volatility and low risk. These positions are appropriate for all investors, but are meant to be held for the long term, primarily for income—don’t buy these thinking you’ll double your money in a year.

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HOLD – PowerShares BulletShares 2018 High Yield Corporate Bond ETF (BSJI 25 – yield 4.0%)
BUY – PowerShares BulletShares 2019 Corporate Bond ETF (BSCJ 21 – yield 1.8%)
BUY – PowerShares BulletShares 2020 High Yield Corporate Bond ETF (BSJK 24 – yield 4.9%)
BUY – PowerShares BulletShares 2021 Corporate Bond ETF (BSCL 21 – yield 2.4%)
The BulletShares funds make up our bond ladder, which is a conservative strategy for generating income by buying a series of individual bonds or defined-maturity bond funds that mature in successive years. Because the BulletShares funds mature at the end of the year in their name (at which point Invesco disburses the net asset value, or NAV, of the ETF back to investors), they are a good store of value even when interest rates rise. The funds have pulled back slightly in recent months due to the sharp rise in interest rates, but should still mature close to their NAVs. And if you reinvest the proceeds of the maturing fund in a new, longer-dated holding every year, you can secure rising income stream as rates rise. You can construct your own ladder with either the investment-grade or high-yield funds, or a mix, as we’ve done. The 2018 fund’s yield will gradually decline over the second half of this year as Invesco moves the fund into cash, so if you’d like to construct your own bond ladder today, start with BSCJ or its 2019 high-yield counterpart, BSJJ.

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HOLD – Consolidated Edison (ED 76 – yield 3.8%) – The decline in treasury yields over the past week is giving utilities a bit of a respite, and ED found support and bounced around 73 once again. If longer-term interest rate expectations decline, we could see some intermediate-term gains for ED investors, although our interest is mostly in long-term returns. Hold.

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HOLD – Ecolab (ECL 142 – yield 1.2%) – Ecolab makes chemicals and other products that are used for cleaning and more in a wide range of industries. Technically, Ecolab is classified as a materials company, so when the sector sold off sharply yesterday, ECL went with it. The stock closed below its 50-day moving average, and at its lowest level since before April 16. I’m going to put ECL on Hold until we see what happens next. Ideally, the stock finds support here and bounces back into its higher trading range, between about 142 and 150. If that doesn’t happen, we could be looking at a return to the 127-137 level, where ECL spent most of the early part of the year. I wouldn’t necessarily sell there—I’ve already taken some profits, and Ecolab has very predictable cash flows thanks to its high percentage of recurring revenues. The company has increased its dividend every year since 1987 and has a payout ratio of only 30%. Plus, earnings growth expectations are strong: analysts expect EPS to rise another 15% this year, followed by 12% growth next year.

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BUY – McGrath RentCorp (MGRC 64 – yield 2.1%) – MGRC held up very well to yesterday’s selling and remains just under 52-week highs. The stock could consolidate a little longer—it’s about 8% above its 50-day line—but the intermediate-term uptrend remains healthy. McGrath rents modular offices, classrooms, and more, and has a 25-year history of dividend growth. EPS are expected to rise by 34% this year and 7% next year. Buy for safe income.

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BUY – PowerShares Preferred Portfolio (PGX 14 – yield 5.8%) – PGX has bounced a little with the rest of the fixed income market this week but remains under 14.50, presenting a good buying opportunity for investors looking to add reliable monthly income to their portfolio. PGX is an ETF that holds preferred shares and pays monthly distributions. The fund has low volatility but no capital appreciation potential; it generally trades between 14 and 16, depending on the direction of interest rates. Buy for a good store of value and regular income.

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HOLD – UnitedHealth Group (UNH 242 – yield 1.2%) – UnitedHealth announced a new partnership with Quest Diagnostics last week. Like UNH’s “accountable care arrangements” with hospitals and doctors, the partnership will seek to provide UNH health plan members with more personalized lab services that are also more economical. The stock is trading just a hair off its January high, and trending up. I’d put UNH on Buy on a decisive breakout to new highs.

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HOLD – Xcel Energy (XEL 45 – yield 3.2%) – XEL is bouncing back thanks to the decline in Treasury yields over the past week; international bond market turmoil has sent fixed-income investors fleeing for safe havens like U.S. Treasuries. XEL could pop back above its 50-day line this week. Investors whose primary goal is income can continue to Hold. XEL is a Midwest-based utility that provides both conventional and wind power.


Closing Prices on May 29, 2018

Dividend Calendar

Ex-Dividend Dates are in RED and italics. Dividend Payments Dates are in GREEN. Confirmed dates are in bold, all other dates are estimated. See the Guide to Cabot Dividend Investor for an explanation of how dates estimated.

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Risk Management: A Post-Mortem of Two Trades

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This month we said goodbye to two problem stocks: 3M (MMM) and Cummins (CMI). Both are big U.S.-based industrials and both were added to our portfolio last spring: CMI at the start of May 2017 and MMM at the start of April. The stocks’ performance over the past year has been similar: both advanced nicely until January, when a series of international trade panics and a couple of bad earnings forecasts triggered big retrenchments.

But slight differences in how I treated the stocks once they started to underperform meant the two trades had different results: we banked a 9% profit in MMM but barely broke even in CMI. Here’s why.

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Cummins (CMI)
At the stock’s peak, near the end of January, we had a 26% profit in Cummins. However, over the next two weeks the stock tanked 14%. The first hit was simply a broad market selloff, but a poor reaction to management’s 2018 revenue guidance followed right on its heels. At the time, I put CMI on Hold, and wrote, “CMI was extended short-term, as I noted last week, and is still well above its lows from August and November (and only a hair under its 50-day). So the stock could recover here, or after pulling back to its 200-day (currently at 164), where it found support in August and November.”

The stock did pull back to its 200-day in short order, but then bounced, so I decided to hold on. However, just over two weeks later, CMI fell sharply again, slicing through its 200-day.

Looking back, we should have taken some profits in early February, when the stock tanked for the first time. Failing that, we should have taken profits in early March, when the stock’s rebound failed and it broke through the 200-day on high volume.

Our final opportunity to salvage what was left of our CMI profit (about 10% at the time) came in late April. The stock had recently crossed back above its 200-day moving average, but the rebound failed after less than a week. On April 24, Caterpillar (CAT) issued weak 2018 guidance, causing a massive selloff in industrial stocks.

CMI was hit hard—declining more than the industrial index—and fell through its 200-day moving average again. Even though the stock wasn’t at new lows, the second failed rally attempt and the second high-volume violation of the 200-day should have been clear enough signs to move on. Two weeks later, the stock had fallen to a 52-week low and our profit had disappeared.

Here’s how it could have gone differently.

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3M (MMM)
While it’s not going to win any awards for trade of the year, 3M provides a good example of how good risk management can help you salvage better outcomes from bad situations.

MMM’s chart looks a lot like CMI’s. The stock peaked in early January, got hit hard by February’s correction, and then made a series of rebound attempts that all failed.

At the stock’s top in January, we had a profit of about 33%. After the first February selloff, that was reduced to about 24%. At the time, I wrote:

“MMM was at all-time highs before this week’s selloff, so like many overextended stocks, it got walloped. MMM is now back where it started 2018, a few points below its 50-day but well above its 200-day. We still have a 24% profit (on a total return basis) and a full position, so we could take some profits here. But as a Safe Income portfolio holding, we’d like to hold MMM for the very long-term, so I don’t want to reduce our position or income stream unnecessarily. For now, I’ll just move the stock to Hold.”

However, at the end of March the Trump Administration announced high tariffs on a wide range of Chinese imports, and China retaliated with its own levies on U.S. goods. MMM dropped 8% in two days, slicing through its 200-day moving average like a knife and closing at its lowest price since October. The stock didn’t rebound quickly, so a few days later, I wrote:

“I still hope to hold the rest of our shares for the long term—3M is a 100-year dividend payer and its long-term trend remains up. But the stock has fallen 15% over the past 10 weeks—including several big one-day drops on high volume. (Over the same time period, the S&P 500 has lost 7%.)

MMM is now at its lowest level since October, and has been below its 200-day for two solid weeks. Though the stock could bounce here (yesterday’s market rally was encouraging) there’s no obvious support level in sight, so more downside is equally possible.

Given the shakiness of the broad market, we want to be reducing our exposure to weak stocks today. So I’ll be selling 1/3 of our 3M (MMM) shares at today’s average price.”

That sale netted us a capital gain of 14%, not including dividends. Over the next week, MMM traded sideways, and looked like it might get back above its 200-day.

But less than three weeks later, 3M reported EPS that missed estimates, and management lowered their guidance for the rest of 2018. The stock dropped 4%, to its lowest level since early September. We unloaded another third of our shares the next day, for a small 4% profit, and ditched the final third a couple days later, for a tiny 2% gain.

While the investment certainly wasn’t a roaring success, our earlier defensive sale helped us come out of it with a total return of nearly 10%.

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