Despite a continued debt crisis in Europe and a looming fiscal cliff in the United States, stocks are up more than 12% in the past four months. Whether the market was undervalued or whether the runup is simply due to the amount of money printed by central banks is up for argument. But many market watchers are now pointing to third-quarter earnings season as a reason to be worried.
In times like these, when the market looks a little pricey and due for a correction, I would normally recommend a higher allocation to dividend stocks. If the overall market tanks, then dividend stocks generally outperform because of investors' preference for income stability and certainty. Furthermore, most of these stocks are in fairly mature and non-cyclical industries, so revenue is not as volatile.
Dividend disasters waiting to happen
Do you think dividends are going to save your portfolio from the upcoming sell-off in the market?
In a recent article, I looked at some of the typical dividend-paying sectors and the big income stocks on everyone's radar. With the incredible level of volatility during the past few years and flat returns during the past 10, investors have already piled into dividend-paying investments and many of these stocks are now actually more expensive than the market.
Stocks in the utilities and consumer staples sectors have only been more expensive 10% of the time during the past 30 years and those in the telecom sector are at valuations only seen one-fifth of the time in the same period. At these prices, a 3% dividend isn't going to save your portfolio if share prices fall by double digits.
But what if I told you I've found a high-yielding dividend stock that was the leader in its industry and has only been cheaper 5% of the time during the past decade?
The stock I'm talking about is Intel (Nasdaq: INTC). It currently pays a 4.5% dividend yield and, at 9.5 times trailing fourth-quarter earnings, it has only been cheaper 5% of the time during the past 10 years. In fact, Intel is one of those stocks you can buy, profit from and basically forget about. That's why StreetAuthority Co-Founder Paul Tracy calls it a "Forever Stock" -- because you can simply buy and hold it, well... forever.
The semiconductor business is extremely cyclical and investors in the sector are about as fickle as they come. Every couple of years, the business cycle winds down and everyone rushes to the exits only to bid the shares back up as everyone buys into the next cycle soon thereafter when a newer, faster computer processor is introduced.
Right now, investors are pointing to slowing demand for personal computers as consumers switch to tablets and smartphones, which could pose a risk to Intel's future revenue stream. The stock has been downgraded by five research firms this year and its current "neutral" investment ratings have not been upgraded since August of last year.
To make things worse, earnings estimates for the current quarter have been cut 25% during the past three months to 50 cents a share, and expectations for next quarter have been slashed as well. This level of negative sentiment means a lot of the fair-weather investors have already sold out, but the company's 62% institutional ownership should help support the price.
Despite cyclical weakness, the company bought back $1.4 billion in shares in the second quarter of 2012 and still has almost $14 billion in cash. In addition, the company is managed far better than its peers. Its gross margin of 64% is higher than 93% of companies in the semiconductor industry, while its operating margin of 31% is higher than 95% of the industry. Intel makes a whopping 25% return on equity, which is also well above peers, meaning that management is reinvesting your ownership stake for a huge gain. That's why Paul has made Intel a cornerstone holding in his Top 10 Stocks portfolio, investing more than $7,000 actual dollars into the stock. Today, that stake is worth $8,278 -- even after the recent drop.
Since 2002, the stock has only traded at a cheaper price-to-earnings (P/E) ratio 5% of the time. In fact, the average valuation during the past two years has been at 11.2 times trailing earnings with a high of 15.3 times. This would put the price 14% higher at $26.43 at the average and as high as $36.11 for a nice 55% gain off current levels.
Risks to Consider: The shares reached their lowest valuation in 10 years in January 2011 at 8.1 times trailing earnings, which would put the current price at $18.88 and an 18% drop. I don't see this stock going down this far. Risk-averse investors should consider taking a position at current levels and cost-average their position if the stock drops further.
Action to Take --> Intel is one of my favorite long-term holdings. It is the world's largest producer of computer processors and is in no real danger from macroeconomic weakness. The current price and market sentiment is a rare chance to get in or increase your holdings. Cyclical weakness should start turning mid-2013 at the latest and bulls will rush in once again. Be sure you are early to the party.