Here are some of the pros for investing in POT:
1. At about $200 a share (as of writing) Potash is trading around 17 times its full year earnings estimated by analysts, which is below the company's forecast.
2. The company is a cash machine. Free cash flow accounted for over 20% of sales in the last two quarters.
3. POT has been buying back shares. The company stated it intends to buy 5% this year.
4. The world's food stocks and arable land are at historically low levels while demand is high.
5. There is plenty of room for growth, as farmers in markets like Brazil and China have underused fertilizer in the past.
6. There are significant barriers to entry into the nitrogen, phosphorus, and potash markets.
7. The stock can easily double in the next couple of years as long as fertilizer prices continue to rise.
8. Management is knowledgeable, responsible, and shareholder friendly. The CEO has three decades of experience in the industry.
If you are interested in agriculture businesses in general, and would like a more diversified approach across a number of industries, you may want to look at the Market Vectors Agribusiness ETF (MOO). POT is currently its second largest holding while agriculture chemicals stocks account for almost half of its holdings.
Despite POT's potentially bright future, I'm waiting for a lower entry point. The reason is that there is a host of unpredictable risks:
1. In the near term, there is a threat of a strike at a few of the company's potash mines (they account for almost one third of the firm's potash production). A labor strike, depending on its duration, may hurt profits. The share price may fall too.
2. While POT's private competitors, like Agrium (AGU), Mosaic (MOS), and Yara International (YARIY) have an interest in not overly increasing supply, government owned competitors have less incentive. They may overproduce, lowering prices.
3. Fertilizer pricing is volatile. While prices have gone up recently, the trend may reverse. Factors affecting pricing include the weather, agriculture commodity prices, and natural gas prices.
4. Government policies may also affect pricing. For instance, the US, in its recent negotiations with India has signaled that it might cut farm subsidies. As another example, if the price of oil continues to fall, the US may be less favorable toward biofuels. The Environmental Protection Agency is set to decide whether to cap corn for fuel use at 9 billion gallons for the foreseeable future (it was widely expected that the cap would rise to 15 billion gallons). This could drive corn prices lower, which in turn would hurt fertilizer demand.
5. While demand for food is historically high, slowing economic growth and rising inflation could cut demand for meat in places like China. This can drive down grain prices, and thus demand for fertilizer.
6. There are already signs of weakness. China's phosphate fertilizer demand dropped around 10% (year over year) in the last two quarters. Its potassium fertilizer demand fell about 15% (year over year) over the same period.
7. Rising sulfur (an important ingredient in phosphate fertilizer) costs can contract margins.
8. Water inflow, which potash mines commonly face, can ruin mines. This can seriously hurt profits.
9. Nitrogen and phosphate prices are not expected to rise very much in the future. Nitrogen and phosphate accounted for around two thirds of sales and just over half of POT's gross profits in 2007.
10. If the US dollar weakens against the Canadian dollar, POT's earnings can be hurt.
The risks don't necessarily outweigh the potential returns. Nevertheless, as they are numerous and unpredictable, I would prefer a lower price at which to buy shares. I'll be a buyer at around 14.5 to 15 times analyst projected full year earnings. That's around $170 to $175 a share. I may miss the boat on this one, but that's ok.
Philip Morris International (PM), which I own, reported solid earnings today and raised its forecast for the year. If the stock continues lower, I'll buy more. I think it's one of those rare, great stocks with massive future earnings and dividend growth potential. The falling dollar will help too. There are risks, sure, but I think it's worth it.
I'm trying to focus more on domestic dividend paying stocks with a large portion of sales coming from overseas, as well as international stocks. Most of the world's future growth will happen outside the US. Since US consumers buy a lot of the world's junk, their plight will slow growth internationally. This might provide for some cheap international stocks going forward.
I bought and sold Du Pont (DD), thinking I could buy it again at a lower price. Have I missed my chance? It went below $41 this month. Today it's around $45. Agriculture should continue going strong. People have to eat, after all. The housing market will eventually bottom (or we're all fracked, as they say on BSG). When that picks up again, DD's non-agricultural divisions will start growing again.
Speaking of agriculture, the Jim Rogers agriculture ETN (RJA), which I own, hasn't been doing too well lately. It's now below my original buy price of $10.90. This has happened before. It then went to over $12. It has also been over $13. Both times I debated selling, and didn't. I should have. I'd buy it back around now. Next time it goes above $12, I'm selling it. This is one of those weird positions that I have mixed feelings about. When it goes up, I'm making money. When it goes down, food prices go lower, which is good for everyone (including me), except farmers, I suppose. It's sort of a hedge on the world's misfortune.
I came across a compelling case against dividend paying stocks by David Jackson (founder of Seeking Alpha), written in June 2005. I would like to summarize his points, and offer counterarguments in favor of dividend investing.
Jackson says the following.
1. Stock price appreciation and dividends are not independent. They both depend on earnings. Paying out dividends does not make a company's stock price go higher. Buying back shares and/or reinvesting in its business does.
2. Share buy backs are more tax efficient than dividends. Every dividend payout is a tax event. Even with the lowered tax rate on dividends (which may not be renewed), the Federal government can still take up to 15% of your payout. Don't forget state and local taxes. That money is lost forever. But if the company buys back its stock instead of paying out the dividend, you will pay no taxes and the stock's price will probably go higher, compounding your gains. When you eventually sell, you'll only have to pay a capital gains tax.
3. Dividends do not assure accounting safety, as some dividend proponents claim. "There is no direct relationship between dividend payments and real profits." That is, dividends do not make management more trustworthy. A company can pay out dividends and still lie about its balance sheet.
4. If the company pays out a dividend because it has no better way to use its money, you should buy bonds instead. "They're less risky and your 'dividend' is assured."
Jackson concludes his article by arguing that dividend paying stocks may be overvalued. This has proved to be prescient. Take a look at the performance of the Dow Jones Select Dividend Index Fund ETF (DVY) and PowerShares High Yield Equity Dividend Achievers Portfolio ETF (PEY) since June 2005. S&P 500 is in green.
As the chart shows, both dividend ETFs have lagged the market considerably (one reason is their huge weighting in financials). They've lagged growth stock ETFs, such as iShares' Morningstar Growth Index Fund (JKE), even more.
Compelling as Jackson's case is, I disagree with him.
Points 1 and 2 assume that the stock's P/E will stay about the same (Jackson acknowledges this in his article). This isn't necessarily so. The P/E ratio has a lot to do with investors' optimism/pessimism about the future, the company's earnings growth, and a host of other factors, some of which are only tangentially related to the company in question.
A stock's price does not automatically rise because of share buy backs. All that happens for certain is that immediately after the buy back, the company's market capitalization lowers and the earnings per share figure rises.
Do dividend payouts affect share prices? In arguing against dividends, Jackson says they do not contribute to price appreciation. In the same article, however, he hopes "that dividend hungry investors have pushed [SBC's] price up," which he was short. He acknowledges, then, that dividends can contribute to share price appreciation.
Moreover, dividends often provide a price cushion for stocks. As long as the dividend is safe, dividend paying stocks will not go below a certain price, for the yield will attract new investors. The same cannot be said for stocks that do not pay dividends. (A company whose shares are falling can stop the plunge for a time by buying back shares, but as soon as it stops the price can continue declining. A dividend, however, tends to cushion a stock's fall long after share buy backs would have ended.) If the dividend is not safe, then earnings are most likely taking a hit. If this is the case, then a non-dividend paying stock in the same situation would not fare any better.
Dividends, then, apparently can make share prices go higher, and can to limit the downside risk at least somewhat.
Sometimes the market goes sideways or down for long periods, taking even the best companies with it. You get paid to wait with dividend stocks. If you reinvest your dividends at such times, you will amplify your future returns. Jackson thinks this kind of argument is silly, and is a reiteration of the fallacy he argues against in points 1 and 2.
But is it really fallacious? Consider Apple (AAPL) from 1987 through 1997. As its share price sank, its investors got nothing. Had they owned a dividend paying stock with the same price performance, they would have gotten at least something out of it.
The taxation issue is Jackson's best point. Why pay taxes on quarterly payments when that money can be used to compound returns tax free? This assumes that stocks that do not pay dividends will provide you with greater returns than dividend paying stocks, which is based on the P/E assumption discussed above. I'm not sure which would turn out to be better, the very best non-dividend paying stocks or the very best dividend paying stocks, so I will concede this point.
Nevertheless, this leaves out a couple of things. First, taxation is not an issue if you keep your dividend paying stocks (at least the domestic ones) in a tax deferred account. Second, what happens at retirement? With a non-dividend paying stock, you either have to sell your entire position or portions of it for income (and you may also have to decide how best to put the extra proceeds to work). With a good dividend paying stock, however, you will not have to sell your position (or as much of it).
One assumption Jackson makes is that you pick good stocks. If you pick bad companies, it doesn't really matter whether they pay dividends or not. So, supposing you pick a few good, or even great, dividend stocks, you might never have to sell them, even in retirement. That means no capital gains tax. It also means you can stay invested in stocks. People are living longer these days, after all. Who knows how long you'll need that income. And so what that you're being taxed on dividends along the way? You keep the majority of every payment.
To take an example of owning a great dividend paying stock for a long time, suppose you invested $100,000 into Altria (MO) (then Philip Morris) 20 years ago. If you retired today, you would have no need to sell the stock. You would receive over $70,000 a year in dividends (more if you include payments from the companies it spun off).
While dividends do not assure accounting safety (what I've called Jackson's point 3), they do make honest managers more fiscally conservative. A regular dividend (or, better yet, one that steadily rises) makes management more disciplined.
Jackson (point 4) says that bonds are safer than the companies that pay out dividends because they have no better ways to use their money. I'm sure this is true in some situations. But again, aren't we talking about good stocks? If not, the point is moot. A company that has no good ways to use its money and doesn't pay dividends is worse than a similar company that does pay dividends, isn't it? Anyway, some of the best investments of all time have been dividend paying stocks. We can't say so for bonds (at least not to the same extent).
Furthermore, bonds can be dangerous. While the interest payments are assured, they are fixed. Inflation can wear away at their returns. A good dividend paying stock, on the other hand, will raise its dividend payments over time. Altria is a great example. Moreover, would you want to buy bonds when interest rates are low, as they are now?
A dividend paying stock may be safer. When interest rates rise, bond prices fall. If you buy bonds before the rate hike, you'll either lose money selling them or be stuck with the low yield. The dividend paying stock may fall too, but it has the potential for dividend increases, which the bond does not. And the non-dividend paying stock? It's subject to the whims of the market, just as the dividend payer. But you get nothing for your trouble when its price drops.
Finally, note that dividend and non-dividend paying companies often have very different sorts of businesses. For example, compare companies like Pepsi (PEP), Johnson & Johnson (JNJ), and Procter & Gamble (PG) with companies like Apple (AAPL), First Solar (FSLR), and Research in Motion (RIMM). The latter group must constantly innovate not only to grow, but to survive. The former three, on the other hand, can sell the same product for years. Their success does not depend as much on new product launches. All this is to say that the best dividend paying companies, for the most part, are well established businesses with cash to spare. They have a degree of safety that non-dividend paying companies do not.
This does not mean that their shares perform worse than those of companies that reinvest every extra cent. For instance, compare Pepsi's performance with Apple's from when Apple first started trading in the early 1980s to present. You would have been better off owning Pepsi.
If you had invested $100,000 in Pepsi at Apple's IPO in December 1980, your investment would now be worth over $5.2 million and you would receive over $135,000 in dividends this year (this excludes the companies Pepsi spun off, which would add to your capital gains and dividends). From this point on you would more than double your original investment every year. There would be no point in selling the stock at retirement.
If you invested the same amount into Apple at its IPO, on the other hand, it would be worth around $4.5 million today. Not bad at all. But as you wouldn't receive any dividends, you would have to sell shares for income.
Please note that this is just one example. Nevertheless, it shows that dividend paying companies do not necessarily underperform those companies that reinvest all their profits.
Dividend stocks should not be discounted. The best stocks are those that you never have to sell. They buy back shares, reinvest in their businesses, grow earnings, and have enough left over to regularly pay shareholders.
Welcome to the July 21, 2008 edition of the Simply Investing Blog Carnival. There were many great submissions. I enjoyed reading them all.
Barb A. Ryan presents Asset Allocation, Investment Asset Tax Location, and Emergency Cash Management posted at Pasadena Financial Planner."This article discusses personal investment portfolio asset allocation and some considerations about where to hold different classes of financial assets from the standpoint of more optimal taxation."
Michael Bass presents The Economics of Gold Investments posted at Debt Prison, saying, "The real question is can a discretionary paper currency managed by Central Bankers perform as well a gold standard?"
The Investor presents Who’s your Star Wars money hero? posted at Monevator.com, saying, "What if Star Wars could teach us something about personal finance? Well, read on to discover what the classic trilogy’s major characters know about money."
Aussie Investor presents Dividend Yield Investing For Beginners posted at Stock Market Investing For Beginners, saying, "If you're a stock market beginner looking to make a start on investing, dividend yield is an important concept to come to terms with. This article describes what a dividend yield is, how to calculate it, how to use it and what the pitfalls can be in applying it."
Bullish Dividends presents Dividend Stock Analysis: Great-West Lifeco Inc (TSE: GWO) posted at Traders Corner, saying, "A Stock analysis of Great-West Lifeco Inc (TSE: GWO) to see if it's a good dividend based investment."
Phillip Lyon presents Should You Short Stocks? posted at Intelligent Speculator, saying, "If you are an experienced investor shorting stocks should be part of your investment strategy. Shorting allows you to profit when a stock goes down in price. In a declining market, such as the current one, it is a lot easier to make money shorting stocks than buying stocks."
Raag Vamdatt presents Start saving early and gain from Compounding - Early bird gets the worm :: RaagVamdatt.com :: Financial Planning demystified posted at RaagVamdatt.com. "This article emphasizes the importance of starting to save early in ones life. It also talks about the positive impact of compounding."Inflation posted at Save and Conquer, saying, "A look at hyperinflation and an investment that can hedge against it."
Helen Anderson presents 5 Credit Card Fees You Probably Didn’t Know About posted at Bankaholic, saying, "There’s no disputing the fact that credit cards have become a basic necessity today; with all the awareness that’s being raised about the debt problems caused because of credit cards, people are beginning to realize the value of using them judiciously. But there are other ways in which credit cards can cost you money - ways that are advantageous to your card company and detrimental to your interests (no pun intended). If you’re not careful when you sign up with your provider, you could end up paying a huge amount of money in extra fees and penalties alone."
Mark Runta presents The Writing on the Wall! posted at Smart Investing & Money Management, saying, "Focus on major economic trends and stick with your investing plan - rest is minutia and technicalities."
Leon Gettler presents Will Bernanke's rescue plan work? posted at Sox First, saying, "Ben Bernanke’s latest rescue plan won’t work because it doesn’t address the big problem confronting the US economy. Pumping more money in is not going to work when companies are going broke.
Chris presents Warren Buffett on MMA Training and Self-Defense posted at Martial Development, saying, "MMA is the mutual fund of the martial arts world. Should you invest in MMA training? Warren Buffett speaks out."
mmhabits presents How Much is Your 401k Worth? posted at Millionaire Money Habits, saying, "The editor of Money Magazine recently wrote about Why We Flunked 401k, and mentioned some frightening statistics. In 2006, the median 401k balance was only $22,000. Find out how you stack up."
Investing Angel presents The 2008 Election And The Stock Market » Free Stock Market Investing Tips posted at Stock Tips, saying, "Your investment decisions right now may largely depend on who you think will win the 2008 election."
Joe Manausa presents Rent Versus Ownership - A Tallahassee Real Estate Case Study | Tallahassee Real Estate Blog posted at Tallahassee Real Estate Blog, saying, "Much of the news media is focusing on the sub prime debacle and are claiming that real estate is not a sound investment at this time. They do not understand the cyclical nature of the real estate market. This entry analyzes the results of owning a home for the past 17 years versus leasing one. The numbers used are "real world" and demonstrate the value of long-term home ownership."
11 Practical Ways to Spend Your Money posted at Marc and Angel, saying, "[W]hen you do decide to spend your hard earned money it should be spent on something practical, useful, and meaningful to the wellbeing of your existence. Here are 11 practical ways to spend your money on something useful."
American Entrepreneur presents Expert Q & A: Marketing Your Business With Information posted at American Entrepreneurship.
Product Launch Formula 2.0 Jeff Walker presents How To Launch Your Product Even If You Only Have A Tiny List posted at Product Launch Formula 2.0 Jeff Walker Hands You The Insider Secrets To Successful Product Launches, saying, "You don't need to be a guru to have a successful product launch. Free non-guru product launch video case study shows you how. Truly Inspiring"
Andrea Smith presents Is Debt Consolidation Fixing Your Problem? | LoanHunt.com posted at LoanHunt.com."Debt consolidation can offer an individual a greater sense of financial freedom in many ways."
Mark Butler presents We Saved Like Bandits, and Invested in Businesses posted at The Butler Project, saying, "Part 2 in a series based on interviews with a multi-millionaire." Put your money into things you understand and where you have full control.
Billy Akerman presents Buying Penny Stocks posted at Beating The Stock Market, saying, "Buying penny stocks, are they really only worth a penny? Well in most cases not even that, but on the other hand are $100 stocks worth it?"
Ellesse presents Free Career, Business & Trade Magazines for Your Career & Economic Goals posted at Goal Setting College.
Raymond presents Even Celebrities Can Fall On Hard Times And Face Home Foreclosure posted at Money Blue Book.
Tammy Powell presents 3 Shocking Discoveries I Made after 52 Calls to Pre-Foreclosure Sellers posted at Majestic Tech by an Enlightened Wealth Institute student.
David Hunkar presents Send your $5000 on vacation with foreign stocks !! posted at ADR Universe, saying, "Lets say you have $5,000 to invest now in a tax-free account such as a Roth IRA.You have a long-term investment horizon and you do not need to withdraw this money or the returns until you retire. In this article,I will discuss one way to make this money grow to a decent sum for those retirement days."
Praveen presents American Century Ultra Fund: The Folly of Not Following Your Trading Plan posted at My Simple Trading System.
That concludes this edition. Submit your blog article to the next edition of Simply Investing Blog Carnival using our carnival submission form. Past posts and future hosts can be found on our blog carnival index page.