Brutal Market Yields Value: Seven Dividend Darlings To Make Buffett And Munger Smile

For the fourth straight week, major U.S. stock market averages took brutal beatings. The S&P 500 Index sank 3.3% on the week and finished April with a decline of 8.8%, the worst month for the index since March 2020, and on par with the tumultuous month of October 2008 during the darkest days of the financial crisis. The S&P 500’s highest close of the year was on January 3, and since then it has fallen 13.5% these past four months.

Numerous challenges confront stocks, especially the rapid rise in inflation and interest rates, and emerging evidence of ebbing economic growth. Thursday morning’s Commerce Department report on first-quarter gross domestic product showed a surprising 1.4% contraction in economic output, dragged down by a drop in government spending and a surge in imports. On Friday, the Labor Department reported that the personal consumption expenditures price index rose 6.6% year-over-year in March, the largest increase in 40 years.

Shorter-term interest rates are spiking in anticipation of a 50-basis point rate hike by the Fed at the Federal Open Market Committee meeting this Wednesday, and several more large-caliber hikes in coming months. Meanwhile, long-term rates have remained relatively steady the past two weeks, causing the yield curve to invert, a phenomenon that is widely-watched because it is often a precursor of recession—and a yield environment that’s the bane of the banking business, in which funds are borrowed short-term and lent longer-term for things like mortgages and car loans.

No sector was spared in the selloff, but the two that lost the least were technology (-1.2%) and energy (-1.4%). Among those thrashed the worst were telecommunications (-8.2%) and consumer discretionary (-7.4%), with real estate (-5.3%) and financials (-4.6%) not faring much better. Even utilities took a 4% scalping.

The only non-negative entry in the “Since April 22” column from the above table is the iShares MSCI Emerging Markets (EEM 0.00%), which broke even for the week. Large cap Chinese stocks are among EEM’s biggest holdings, and iShares China Large-Cap (FXI +4.9%) enjoyed a positive week. Other emerging markets like Brazil (-5.7%), Mexico (-4.0%) and South Korea (-1.3%) were not as ebullient.

Fear and Greed Flock To Discipline and Value In Omaha

Like a Super Bowl or a Grateful Dead show, throngs of Berkshire Hathaway shareholders from Bill Gates to Bill Murray flocked to this weekend’s annual company meeting in Omaha, Neb. Many came to pay homage and glean insights from the men who made them rich: Berkshire Chairman Warren Buffett, who turns 92 in August, and his 98-year-old best buddy, Vice Chairman Charlie Munger.

Buffett became a billionaire by applying the rules of value investing he learned from his professor at Columbia Business School in the early 1950s, and his eventual business partner in a money-management firm. Benjamin Graham, the “father or value investing,” emphasized buying fundamentally sound companies when the market offers them at irrationally deep discounts to their intrinsic value. In his 1949 book, The Intelligent Investor, Graham describes a manic-depressive fellow named “Mr. Market” who is always willing to buy or sell stock with you, but the prices he offers vacillate and reflect his wide extremes of pessimism and euphoria. A popular Buffett quote counseling to be fearful when everyone is greedy, and to be greedy when others are fearful flows from his mentor’s teachings.

Fear Kicks It Up A Notch

For what it’s worth, Buffett has not been greedy of late, with $144 billion of dry powder parked in Treasury bills, but there certainly are signs that the market is saturated with fear—from talking heads on cable TV to fresh readings of investor sentiment.

The American Association of Individual Investors conducts a weekly AAII Sentiment Survey of its membership, and the share of investors identifying as bullish fell to 16.4% last week, dropping below 20% for only the 35th week in the past 35 years. Bearish sentiment surged to 59.4%, the highest levels since March 2009, and one of the 10 highest on record since the survey started in 1987.

AAII is a fine organization that provides exceptional educational resources and opportunities to learn to invest successfully, and the members I’ve met are all smart people, but the survey is traditionally used as a contrarian indicator to identify extremes of sentiment that tend to precede market turning points. The idea is that when everyone crowds one side of the boat, the other side tips up.

Put-call ratios are popular gauges of sentiment in the options market, and they are also registering extreme readings. Traditionally, the higher the put-call ratio, the more bearish the outlook of options players in that market. Ratios above 1.0 correspond with elevated fear. The CBOE Total Put-Call Ratio this week finished at 1.33, its highest level since March 2020, the month the market tanked at the onset of the pandemic—and right before the huge rally began less than one month later.

There is certainly no guarantee that the market will sprint higher simply because of lopsided bets in the options market. In fact, the last spike above 1.2 on the put-call ratio early this year did not correspond to much of a rally at all, with the S&P 500 falling in three of the following four months.

Making Moves As Mr. Market Gets Moody

There are seven new additions this week to the Forbes Dividend Investor portfolio, but they all have buy limit prices set substantially below Friday’s closing prices. Upcoming dividends help to sweeten the pot for three of these stocks, which all trade at discounts to historical valuation multiples and have demonstrated capacity to sustain their dividends.

Intel trades ex-dividend this Thursday, May 5, for a $0.365 per share quarterly payout. Even as the chipmaker plows back a staggering $0.26 of every dollar of sales into capital expenditures—like building a new semiconductor foundry in Ohio—it still managed to generate free cash flow of $2.36 per share over the past 12 months, which is more than ample to cover annual dividends of $1.46 per share and to maintain 6% annual increases in the payout, as it’s done over the past decade.

Intel trades at a 21% discount to its five-year average price-to-sales multiple based on year-ahead sales. Even with diminished forecasts for coming quarters, revenue this year is expected to eke out a 0.73% increase from 2021 numbers. Intel’s forward enterprise value-to-EBITDA multiple of 6.6 is 8.6% below its five-year average of 7.2. Guys like founders Gordon Moore and Andy Grove may no longer be at the helm, but the people who lead Intel have steered the semiconductor supertanker successfully since 1968.