The Case for Dividend Paying Commodity Stocks
Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
There are many advantages to having exposure to commodities from a long term perspective. All the monetary expansion that is taking place in the US, Europe, and Japan will be an important tailwind for commodities in the years to come. If inflation rates tick up in the future, which wouldn´t be such a big surprise after all, commodities should provide a nice hedge against rising prices.
Other macroeconomic factors like the ascent of China and India in the world economic map are bullish for commodity prices too. Those countries are big net importers of many commodities, and as their growth rates are consistently higher than those observed in developed nations, they will continue to be an increasingly important driver of commodities demand in the following years and decades.
Also, commodity prices tend to react positively to some events that negatively affect the stock market. When there are military conflicts, natural disasters or political complications, this tends to produce increases in the price of many natural resources. The price of oil, for example, tends to rise when the situation with Iran gets more complicated and copper usually moves higher when there are earthquakes in Chile.
On the other hand, commodities are volatile and hard to predict, especially when the economic scenario is particularly uncertain. For this reason, long term investors could find a convenient alternative in dividend paying commodity stocks. Dividends provide regular income while investors wait for commodity prices to increase based on their long term fundamentals. Furthermore, if those dividends are sustainable they should provide some stability to stock prices and reduce volatility under uncertain scenarios.
Vale (NYSE: VALE) is a Brazilian iron ore producer which seems to be really cheap from a valuation point of view, the company trades at a forward P/E below 6.5 and yields a tempting 4.9% in dividends. Investors are concerned about demand from China, which is the major player in global iron ore markets. Worries about a hard landing in China or even a recession in the eastern giant are clearly weighting on Vale.
There has been some data showing a deceleration of Chinese growth in the last months, and the economy in that country is particularly hard to predict due to its many singularities, but Vale seems already priced for lower demand in the future. If iron ore markets remain strong, the Brazilian company has plenty of upside potential, and even if the situation turns for the worse investors would be well rewarded with the juicy dividend while they wait for better prices.
Among big integrated oil and gas producers Total (NYSE: TOT) stands out for its 5.3% dividend yield. Being based in France, Total is maybe being punished as investors avoid anything related to Europe, but this is truly a global company so those fears appear to be exaggerated. Total is expanding its businesses and is in good financial shape so the dividends look sustainable.
Chevron (NYSE: CVX) and Conoco (NYSE: COP) are also attractive dividend plays in the sector with 3.1% and 3.6% in dividend yield respectively, but Total is one step higher. The three companies have similar expected growth rates, in the 5% zone for the next five years, so Total looks undervalued in comparison.
Adding some timber related companies with fat dividends may sound like a smart idea for the long term. Construction and real estate activity have a lot of room to recover in the following years and sooner or later demand should get better for timber producers. Timber REITs provide the possibility to benefit strongly from a real estate recovery when it happens, while at the same time alleviating the wait with some fat dividends.
Plum Creek Timber (NYSE: PCL) is the biggest timber REIT in the US. With more than 8 million acres of land under management, the company pays a 4.1% dividend yield. Plum Creek has the opportunity to acquire undervalued assets now that markets are depressed and demand is low which this should bode well for the company and its investors over the following years as demand eventually recovers.
Commodity stocks provide some valuable characteristics that make them attractive long term holdings in a diversified portfolio. Those that pay nice dividends also reward shareholders with current income and more stability. It sounds like these kinds of stocks provide an attractive risk and reward combination.
Motley Fool newsletter services recommend Chevron, and Total SA. (ADR). The Motley Fool owns shares of Plum Creek Timber Co., and has the following options: short MAY 2012 $33.00 puts on Plum Creek Timber Co., short MAY 2012 $33.00 puts on Plum Creek Timber Co., and short MAY 2012 $38.00 calls on Plum Creek Timber Co. acardenal has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
