Equity Market Declines: Keep in Perspective

Yesterday the S&P 500 Index was down approximately 3.5%. The market had gone over 900 days (almost four years) without a decline of more than 2%. As large market declines do actually occur from time to time, how would the media "headline" this market event versus prior market pullbacks.

Some of the notable headlines (highlights added):

• At CNNMoney: Stocks rebound after Market Meltdown. The lead paragraph begins, "Stocks recovered from the previous session's brutal selloff,..."

• At The Wall Street Journal: Lead quotes on page one of the Journal's website.
• "The global markets plunge in stocks..."
• U.S. stocks revived from a major selloff..."
• At the Cincinnati Enquirer: Dow's worst day in years. China sell-off sparks 416-point plunge.

How does Tuesday's decline compare with past market selloffs? Following is a chart of a few of the largest percentage declines for the Dow Jones Industrial Average.

Source: BBC News Online

The largest one day percentage decline occurred on Black Monday, October 19, 1987 when the Dow declined 508 points or 22.6%. Today, a similar 22.6% decline in the Dow would equal a decline of 2,772 Dow points.

Some of the headlines after Black Monday:

• Stocks Plunge 508 Amid Panicky Selling, Wall Street Journal, 10/20/87

• Money Managers Trying to Form New Strategies After Market Rout, Wall Street Journal, 10/20/87

• How the Bull Crashed Into Reality, BusinessWeek, 11/2/87

It is important to keep the magnitude of market corrections in perspective. Certainly, today a one day market decline of 22.6%, 2,772 points, would appropriately be called a plunge or brutal selloff. But Tuesday's 3% decline hardly qualifies as a "plunge". Additionally, at The Big Picture web site, it is noted "the Dow Industrials have not had a 2% one-day rally in more than 500 trading days, either.”

This market has been one that has moved higher with very little resistance. A pullback or consolidation would be a healthy one. A number of key factors will determine the future direction of the market, the economy being an important one.

The magnitude of the point declines in the Dow may seem large, but it is the percentage movements that really count.

Market Pullback: Now What?

After yesterday's correction the U.S. market indices have the following approximate 12-month returns:

• Dow Jones Industrial Average = 10.4%
• S&P 500 Index= 8.5%
• NASDAQ Index=5.3%

A lot of commentary is being bantered around on the various "technical" market indicators due to the 400+ drop in the DJIA and the 9% decline in the Chinese market. Let me first say it is important to evaluate the various technical indicators, but they should not be the only factors reviewed in ones investment decision process. If these various indicators were such great forecasting tools, then all investors were out of the market by the end of last week?

What is one to make of these indicators: Advance/Decline Line, ARMS index, VIX ratio, closing tick, put/call ratio, just to name a few. If you are not asking yourself about the value and meaning of these indicators--that is okay. What a high quality dividend growth investor needs to do at this point is not panic. Take this opportunity to review the investment portfolio to determine if the overall asset allocation is correct. Secondly, review individual holdings to determine whether there are stocks that have declined in value; thus, making them potentially good investments at these lower price levels. Below is a list of a few of the Dividend Aristocrats that have the worst 3-month total return.

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At the time of this writing, the Asia/Pacific market are lower by about 3%. A summary of the indices can be found here. If the foreign markets end lower, there is a fairly high likelihood the U.S. markets will be weak on Wednesday, at least in the morning.

Now links to some of those indicators:

• VIX
• Advance/Decline Line
• Arms (or TRIN) Indicator
  

Dividend Aristocrats Hold Up Better In Market Downdraft

One reason an investor maintains the foundation of their equity portfolio in high quality companies is to successfully weather market declines like today. The Dividend Aristocrats portfolio out performed the major U.S equity market indices. After today's results, the Aristocrats are now outperforming the DJIA, S&P 500 Index and the NASDQ Index. On a year to date basis, the previously noted indices have negative year to date returns. The Aristocrats have generated a positive return of .30%.

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C.H. Robinson Worldwide Added to the S&P 500 Index

Today, Standard and Poor's announced the dividend growth stock, C.H. Robinson Worldwide (CHRW), will be added to the S&P 500 Index at the close of business on March 1, 2007.

• The company's historical 5-year dividend growth rate is 42% with the last YOY increase totaling 38%.

• CHRW maintains an A+ S&P Earnings and Dividend Ranking.

• The company's forward P/E of 31 compares to its 15-year high and low P/E of 43 and 21, respectively.

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Source: Standard and Poor's

Dividend Aristocrats Performance Update: 2.26.2007

S&P's Dividend Aristocrats underperformed the S&P 500 Index and the Dow Jones Industrial Average today. On a year to date basis the Aristocrats continue to achieve out-performance versus the Dow and S&P 500 Index.

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REITs: How Much Higher Can They Go?

Following is a chart from Chart of the Day detailing the historical performance of the NAREIT Index. REIT shares have been in a strong uptrend over the last few years (since 1970!). Are REIT valuations getting ahead of fundamentals?

Chart of the Day notes:

Over the long-term REITs (real estate investment trusts) have actually outperformed stocks. Investors appear to have caught on to this fact and have bid up REITs to new all-time highs. While today's chart illustrates that REITs are well within a long-term uptrend, REITs are currently testing resistance (red line) of a long-term trend channel.

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Source: Chart of the Day

Is the Market Turning In Favor of Large Cap Dividend Paying Stocks?

In an end of year strategy piece written by Legg Mason strategist, David Nelson, CFA, he notes large capitalization equities have been outperforming since May 2006. In fact, the Dividend Aristocrats tracked on this blog continue to achieve strong market returns so far in 2007.

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Source: Legg Mason December Market Commentary

Legg Mason's commentary notes:

We regard the shift in leadership from small and mid cap stocks to large and mega caps as the most significant development in the equity market in 2006. We believe the performance differential between these market cap sectors since May is solid evidence that the shift has occurred. How long it will last we do not know, but if our assessment is correct, we expect it to be a period measured in years, rather than months (emphasis added).

The reemergence of mega cap stocks as market leaders has been a mixed blessing for many investment managers. One might even say that “never have so many had so little fun in a generally rising market.”The reason is that a market dominated by mega-cap stocks is a tough market for most equity managers to beat. The late 1990s—while a bonanza for equity investors as a whole—were a nightmare for portfolio managers in terms of relative performance, as few were able to keep up with the S&P 500 Index, which was being driven by the relentless advance of 25 or 30 mega caps such as Dell, Microsoft, Intel, Cisco and the like. The year just ended witnessed a similar struggle as just 19% of all actively managed U.S. diversified equity funds were ahead of the S&P 500 through December 27, 2006. This is the worst yearly aggregate relative performance showing since 1998.

Within the large/mega capitalization portion of the equity market, high quality dividend paying equities have experienced an extended stretch of weaker total return over the last several years. As noted in the table below, the contribution of dividends to the return in the S&P 500 Index has been declining since the 1980's.

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Source: Eaton Vance, February 2007

From a positive perspective, over the last four years, earnings growth for the S&P 500 companies has been increasing at a mid teens percentage growth rate. The dividend growth rate for the S&P 500 Index has been double digits, 10.8% last year, but growing at a lower rate than earnings. Standard and Poor's recently increased the anticipated dividend payment amount for for the S&P in 2007. The resulting percentage growth rate would be 11% higher in 2007 versus the 2006 dividend payment amount. Additionally, the number of companies paying a dividend has been in an uptrend since 2001.

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One interesting dividend aspect is the payout ratio for the S&P 500 has declined to historically low levels. Currently, the payout ratio is near 30%.

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One reason this has occurred is the previously noted fact that earnings are growing at a faster rate than dividends. In lieu of companies growing dividends at an even faster rate, they have resorted to initiating large stock buybacks. These large buybacks and special dividends are evidence of the strong cash flow growth for larger companies. An S&P report dated January 4, 2007 notes special dividends have surged in lieu of a higher dividend growth rate. Specials are one time payments, thus not committing the company to higher dividend payments on an ongoing basis:

Standard & Poor’s data shows that dividend extras, such as one-time dividend payments and special dividends, increased 14.3% to 622 during 2006, up from the 544 recorded in 2005. “The December surge in dividend extras was the largest since 1978. While dividends have increased slowly, extras have grown quicker since they are generally regarded as a single payment, with the company not obligated to make any additional payments,” concludes Silverblatt.

As noted earlier, earnings for the S&P 500 companies have been growing at double digit rates over the past four years; however, it appears 4th quarter 2006 earnings will come in at a growth rate of 9.9%. In an environment where earnings growth is slowing, higher quality large cap companies tend to lead market returns. The strong performance of larger cap equities since May of last year may be a sign of better returns for larger company stocks going forward.

Sources:

The Dividend Story
Eaton Vance
February, 2007
http://www.eatonvance.com/mutual_funds/dividend_story.php

Market Commentary
By: David Nelson, CFA
Legg Mason
December, 2006
http://www.leggmason.com/funds/knowledge/management/December2006MarketCommentary.pdf

Dividend Aristocrats Continue Strong Year-To-Date Performance

Standard and Poor's Dividend Aristocrats continue to generate strong performance on a year-to-date basis through February 23, 2007. The Aristocrat's YTD performance of 3.5% slightly trails the 4.1% return of the NASDAQ Index. The Aristocrats are outperforming both the S&P 500 Index and the Dow Jones Industrial Index by 1.2% and 2.0%, respectively. Maybe this is a sign that higher quality large capitalization companies will begin to achieve index beating returns. The higher quality segment of the market has been a lagging one over the last two to three years.

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Investor Sentiment In Bear Markets

Below is a look at investor sentiment and stock market action for the period January 1998 through December 2003. The shaded areas of the chart highlight bear markets.

The long term average bullishness reading is 39%. The green line on the chart represents the average bullishness reading for the 1998 to 2003 period. The most recent bullishness reading is 53.85 and the S&P 500 Index on 2.21.2007 was 1,457.63.

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Source: American Association of Individual Investors

Stock Prices: Under or Overvalued versus Earnings and Moving Averages

As noted on Birinyi Associates, Inc Ticker Sense website, 80% of the S&P 500 stocks are trading above 20 and 200 day moving averages. The site contains a chart highlighting instances where this has occurred since 2001. The last time this took place was in December 2004 and the market subsequently incurred a 6% correction. However, as the chart in the Ticker Sense article notes, there have been a number of occasions between 2001 and 2004 where the market continued to move higher as 80% of the S&P 500 stocks traded above their 20 and 200 day moving averages.

In spite of a large number of the S&P 500 stocks trading at prices above 200 day moving averages, the prices have not keep pace with earnings growth. The Wall Street Journal's Market Beat section summarizes an article by Joe Keating, chief strategist at First American Asset Management, that notes stock prices have not kept pace with earnings growth. As detailed in the Wall Street summary:

• stock price movement tends to track increases or decreases in earnings.

• earnings have grown about 45% in the past three years compared with a 27% increase in the S&P 500 Index.

Joe Keating notes, “I see very little downside risk to the market on account of that– although I do think a 5% to 7% correction would be relatively healthy."

Sources:

Ticker Sense
February 22, 2007
http://tickersense.typepad.com/ticker_sense/2007/02/80_of_sp_500_st.html

When Prices and Earnings Don't Match Up
Market Beat
The Wall Street Journal Online
By: David Gaffen
February 22, 2007
http://blogs.wsj.com/marketbeat/2007/02/22/when-prices-and-earnings-dont-match-up/

The Bulls Stampede Ahead

This week the volatile sentiment survey from the American Association of Individual Investors shows investor's bullishness continues to move higher. As a contrarian indicator, does this suggest the market needs a little bit of a breather?

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Source: American Association of Individual Investors

Allstate, Nucor, Nordstrom and Sherwin-Williams Announce Dividend Increases

A number of companies/dividend growth stocks announced dividend increases today.

• Allstate (ALL): 8.6% increase. The quarterly dividend increases to 38 cents per share versus 35 cents per share in the same quarter last year.

• Nucor (NUE): 10% increase. The quarterly dividend increases to 11 cents per share versus 10 cents per share in the same quarter last year.

• Nordstrom (JWN): 28.6% increase. The quarterly dividend increases to 13.5 cents per share versus 10.5 cents per share in the same quarter last year.

• Sherwin-Williams (SHW): 26% increase. The quarterly dividend increases to 31.5 cents per share versus 25 cents per share in the same quarter last year.

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S&P Dividend Aristocrats Trading Below 52-Week High

Following are the ten dividend Aristocrats that trade the furthest below the stock's 52-week high. The table also displays the stock's dividend yield and its 5-year average yield.

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Genuine Parts and Beckman Coulter Increase Dividends

Genuine Parts Company (GPC) and Beckman Coulter (BEC) both announced dividend increases as detailed below.

In the case of Genuine Parts, this is GPC's 51st consecutive annual dividend increase. GPC's 8.1% dividend increase is nearly in line with the company's 2007 YOY estimated earnings growth of 10%.

For Beckman Coulter, the 6.7% dividend increase is one-half the company's 2007 YOY estimated earnings growth of 13%.

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Asset Allocation: AAII January 2007

On a monthly basis the American Association of Individual Investors members are able to submit their asset allocation information. The asset allocation summary for January 2007 is detailed below. The highest stock weighting since November 1987 occurred in January 2000 with AAII investors reporting 77% allocation to stocks and stock mutual funds.

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Source: American Association of Individual Investors ($)

Dividend Aristocrats Continue Outperformance

Standard and Poor's Dividend Aristocrats continue to outperform the Dow Jones Industrial Average, the NASDAQ and the S&P 500 Index through February 18, 2007.

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Abbott Laboratories Announces 10.2% Dividend Increase

Yesterday, Abbott Laboratories (ABT) announced a 10.2% increase in its quarterly dividend to 32.5 cents versus 29.5 cents in the same quarter last year. ABT's historical 5-year dividend growth rate is 6% as a result the recent increase represents an acceleration in the dividend growth rate. The projected payout ratio on 2007 earnings estimate of $2.81 is 46%--essentially in line with the 5-year average payout ratio.

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Compass Bancshares Being Acquired in $9.6 Billion Deal

Dividend Aristocrat Compass Bancshares (CBSS) to be acquired by Spain's Banco Bilbao (BBV) in a transaction to be valued at $9.6 billion.

• The deal is a 16.3 percent premium over Compass' closing stock price of $61.78 Wednesday on the Nasdaq Stock Market.

• Compass shareholders can choose to receive either 2.8 Banco Bilbao American depository shares or $71.82 in cash per Compass share.

• The deal is expected to close in the second half of the year, subject to customary closing conditions including necessary bank regulatory approvals in the U.S. and Spain and the approval of the stockholders of both Compass and Banco Bilbao.

Coca-Cola Announces 9.7% Dividend Increase

Yesterday, Coca-Cola (KO) announced a 9.7% increase in the company's 1st quarter 2007 dividend to 34 cents per share versus 31 cents per share in the same quarter last year. This represents the 45th consecutive annual increase in the company's dividend. The projected payout ratio on 2007 estimated earnings of $2.56 is 53%. The compares to the 5-year historical average payout ratio of 49%.

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Investor Sentiment For 2.15.2007 Essentially Remains Unchanged

The American Association of Individual Investors Sentiment Survey for the period ending 2.15.2007 remains essentially unchanged. Both bullishness and bearishness have increased slightly.

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Source: American Association of Individual Investors