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Big Dividends: Preferred Stocks, Caterpillar & More

This week’s Weekly covers three exciting big-dividend topics. First, we review an exceptional preferred stock investment opportunity. This one’s dividend is over 11%, and we’re covering it because Blue Harbinger member Sherry S. asked us to cover more preferred stocks. Next, we revisit Caterpillar and its big 4.4% dividend yield per a request from Blue Harbinger member Harry B. And finally, we do a brief post-trade review of the six new stocks we purchased last week in the high-yield portion of our Income Equity strategy (the average dividend on these new purchases exceeds 10%). 

(image source)

(image source)


The exceptional preferred stock we cover this week is issued by Frontier Communications (FTRPF). Frontier is a smaller mid-sized telecom company that recently completed $10.5 billion asset acquisition from Verizon. To help fund the acquisition, Frontier issue some very attractive preferred stock shares (FTRPF).

The terms of Frontier’s preferred stock can be accessed using this link. However, in a nutshell, the preferred shares:

  1. Pay a big 11.125% dividend yield per year (payable on the last business day of March June, September and December). Note, the shares closed at $100.08 on Friday, so the current yield is around 11%.
  2. The shares convert to common stock on June 28 2018. This is a mandatory conversion date if the shareholder doesn’t elect to convert before then.
  3. Frontier common stock closed at $5.26 on Friday, and the mandatory conversion rate is between 17.0213 and 20 shares of common for each share of preferred.

Importantly, we actually like the common shares of Frontier as well. You can read our full write-up on the common shares here.

And as a side note, our intention is to cover more preferred stocks in the coming weeks and months.


Next we revisit Caterpillar. As you may be aware, we own shares of Caterpillar’s common stock within our Blue Harbinger Income Equity portfolio.

Caterpillar missed estimates by a penny when it reported earnings last month, and it lowered 2016 sales guidance by ~2%. The shares have steadily fallen since then. According to CAT, the decline in 2016 sales guidance:

"is a result of several factors that, while not individually large in the context of the outlook, collectively add up to about $1 billion. Those factors include lower transportation sales (rail, marine and the ending of production of on-highway vocational trucks), lower mining sales and weaker price realization than previously expected."

Our basic thesis on Caterpillar remains the same. Basically, the market has overreacted to Caterpillar’s challenges, especially considering the majority of its restructuring costs are now behind it. As a result, CAT's price is now too low and the dividend is very attractive.

Specifically, Caterpillar is near completion of a multi-year restructuring plan to address sharply declining sales (Caterpillar has gotten crushed in non-US markets as the strong USD has made CAT products more expensive internationally, and also the company’s Resources unit has gotten crushed as the mining industry has dramatically slowed). We believe the market’s overreaction can be partially quantified with the following chart.

Specifically, Caterpillar appears very expensive (versus its own history) based on its current price-to-earnings ratio of 33.5 times (using 12-trailing months of earnings). However, this chart includes the negative impact of restructuring costs on earnings, even though these restructuring costs are only a one-time expense. For example, the company’s earnings over the last four quarters has totaled $2.09 per share (dividing the current stock price by this $2.09 figure is how we calculate the PE ratio). However, if we exclude the $1.34 per share CAT spent on restructuring over the last four quarters, then the PE ratio becomes an attractive 20.4 times (much more similar to its historical range). And per CAT’s most recent earnings call, they only expect $550 million in total 2016 restructuring costs (versus $908 million in 2015), and they already spent nearly 30% of this in the first quarter. Said differently, the company’s one-time restructuring costs are largely behind it, and earnings should be much stronger going forward.

Another reason why we like Caterpillar right now is because we believe we’re near the lower end of the heavy machinery market purchasing cycle, and when dealers eventually need to start re-stocking inventory then Caterpillar’s sales will rise considerably. You can read our earlier reports on Caterpillar (including our full thesis) here


Finally, here is a quick, post-trade, review of the six new stocks we purchased last week in the high-yield portion of our Income Equity strategy.

Certainly, one-week doesn’t mean much for a long-term investor. However, it’s always nice to get off to a good start. The average return of the new Blue Harbinger stocks beat the benchmark S&P 500 by 3% in its first week, and the average dividend yield of these particular Blue Harbinger stocks is 5 times greater than that of the S&P 500. For your consideration, here is the original write-up for the new purchases.

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