Perhaps I was anticipating too much based on hype and previous editions, but this years CNBC Delivering Alpha conference failed to deliver. Come on, aren’t there any new and exciting things on the horizon to capture an investor’s fancy? Obviously not, as the VP’s message of a booming economy was sandwiched between short ideas and negative interest rate survival. All interlaced with the drizzle of ESG investing and streaming concepts – in theory new and improved versions. Sorry, all this is old news, making me think CNBC has lost the concept of Alpha. ESG has largely turned political (which introduces uncertainty) and the window of opportunity for nice gains in streaming closed about a year ago (about the time I added to my Comcast position).
Investopedia defines Alpha as a term used in investing to describe a strategy’s ability to beat the market – what most of us aspire for. DGI investing generally attempts to quantify (and reduce) said risk while serving up a theoretically predictable outcome. My portfolio is a modified DGI strategy in that I attempt to introduce some Alpha to maintain my streak of beating the market as defined by the S&P index. I do this by introducing an underlying theme that I meld a portion of my portfolio into. Past examples include Community Bank consolidation and the Rise of Fintech.
One that delivered Alpha to my portfolio this week was within the theme Transaction Processing. On Thursday, Total Systems Services (TSS) was lost from my portfolio and replaced by Global Payments, Inc. (GPN) via the consummation of their merger. TSS was a company that I seriously doubt was held by many other DGI enthusiasts. To identify why, let’s run it through the illustrious Dividend Diplomat stock screener which addresses most – if not all – the conventional metrics most individual investors would use in decision making.
Metric #1 P/E Ratio Less than the S&P 500
At purchase, the ratio was 19.16 and the S&P was 20.12. A technical pass, although the Diplomats prefer a greater margin.
Metric #2 Payout Ratio of Less than 60%
At purchase, the payout ratio was roughly 22.95% (FY2016). A definite pass.
Metric #3 Increasing Dividends
Here lies the major failure, which probably would have caused the Diplomats and most DGI purists to pass on TSS. Their record is pitiful with two raises in eight years and the yield rarely exceeded 1%.
My take has always been to consider Total Return as the primary metric with a significant emphasis on Dividend Growth/Safety. Although TSS’s dividend has been wanting, since I owned it it has delivered 30% average annual price appreciation with an additional 49% since the merger was announced, bringing my total unrealized capital gain to 390% plus a miniscule, taxable dividend.
Rather than reward shareholders directly, they chose to reinvest in R&D and growing the business which probably provided a greater return – and tax-deferred to boot. The arguments against this approach are consistency and dependability. Additionally, this requires a level of trust in management. Granted, in some cases this depends on being in the right place at the right time as well – and this example is an extreme success story. Yes, I do have several that I’m waiting on to pan out which is why I categorize this approach as speculative with only a small portion of my portfolio looking for the next emerging brilliant idea or better mousetrap.
Don’t get me wrong, I love my dividends. In general, DGI provides a stable, consistent foundation. But a little dash of Alpha through total return could be the difference in beating your index. As always, your views are welcome!