At midpoint of 2012 the All Ordinaries Index has dropped 11%, registering the second consecutive yearly decline. Gone are the heady days of the great resources boom that seemed destined to propel our share market upward with only momentary interruptions. In its place we find a seemingly never ending series of trading days rocked by wildly volatile swings some market historians claim have never been seen before. In the past 76 years our market has logged two consecutive years of negative returns only seven times.
It's often reported that this is a news driven market but much of the news is misleading or plain untrue. Some “news" of the ten o’clock hour morphs into a “report from an informed source” by the eleven o’clock hour, to a “rumour” by the twelve o’clock hour, to a complete falsehood by the end of the day. Positive news is met with a deluge of sceptical analysis from the bearish and negative news is met with positive spruiking from the bulls.
The battle of conflicting analysis rages around economic and political events in China, the United States, and Europe. Equally caught up in the confusion is a decline in commodity prices and slow growth rates. In Australia we have the added woes of a strong Australian dollar, turmoil in traditional retail and media sectors, and above all competition for equity investment dollars from high term deposit rates. In the United States panicked investors find few places to go with their money to get a yield above laughable. In Australia, the reverse is happening - strong term deposit rates are attracting investment dollars out of managed funds and other equity investments.
While each country has its own macroeconomic woes, the linchpin connecting all is the European debt crisis. The European Union is China’s leading export destination, but slow growth and the threat of a Euro collapse are spooking China and the United States.
The situation in Europe has led to a dizzying array of analysis and prognostications from global financial experts. The scenario has played out in super slow motion with pronouncements that action will be taken followed by delays and then summits where ideas are born only to suffer a quick death when the European Union’s strongest economic member, Germany, says “Nein.” To date, what Germany wanted to see happen, happened. “Ja” to austerity measures many economists predicted would slow growth to the point of recession and beyond and “Nein" to Euro bonds and direct investment of rescue funds into ailing banks instead of to sovereign governments.
Little wonder then that the world investment community yawned at the prospect of yet another summit of European leaders recently. German Chancellor said “not in her lifetime” to the Italian and Spanish request to have ECB rescue funds go directly to their ailing banks instead of going on the already debt laden sovereign balance sheets. And in perhaps the most surprising and meaningful turn of events to date, the Germans confounded us all by replying “Ja” instead of the universally anticipated “Nein.”
Market euphoria over this surprising and stunning turn of events appears to be lasting a little longer than previous euphoric spurts in reaction to a positive crumb of news from Europe. Yes we already have the doomsday prophets claiming it won’t be enough and the Euro zone will crumble in time. However, to the average person, the fact that the Germans were willing to accept the previously unacceptable is pretty solid evidence they are committed to holding the whole thing together, and do whatever it takes.
So maybe it is time for investors to accept the previously unacceptable as well – European blue chips are on sale, and some at big discounts. Volatility is not going away, but over the long term, those who buy companies with handsome dividends at attractive valuations should do quite well
Here are seven European shares that qualify, although some have suffered less severe price declines. The numbers reflect their trading on the New York Stock Exchange through the American Depository Receipt system (ADR). In the first table we're looking at price action and dividend yield. Instead of listing the current share price against the 52 Week Highs and Lows we are going to look at the percentage variance between the current price and the highs and lows as a better measure of volatility. Here is the table:
% Below 52 Week High
% Above 52 Week Low
As you can see, the last share on the list, UK Telecommunications giant Vodafone (NYSE:VOD) has rallied almost 25% above its year over year low and is now less than 1% below its high. Here is their one year price chart:
If ever there was a chart to highlight the benefits of the Buy on the Dips strategy, this is it. Note the extreme drops following some market panic event and the subsequent recoveries. If you are one of the few who still believe in she’ll be right mate and have been buying stocks like this on the dips, you are staying afloat and in VOD’s case earning a respectable dividend as well.
They are the second largest wireless service provider in the world (behind China Mobile (NYSE:CHL) and the largest in Europe. Their customer base spans 66 countries and numbers over 250 million. If you know the US market you know the primary national providers there are AT&T and Verizon. Vodafone owns 45% of Verizon in a joint venture. Last year that arrangement allowed VOD to pay a special dividend not reflected in their current 5.26% dividend yield. There are no guarantees in the share market or in life, but VOD is supposedly considering issuing the special dividend again this year.
Dividend yield along with current valuations are two of the major reasons financial managers and advisers are looking to invest in European stocks. However, in Australia those dividend yields compete against strong term deposit rates.
Current term deposit rates here vary by institution and deposit amount, but it is safe to say the range is between 3% and 5%. Every share in our table is yielding within that range and offering the opportunity for capital appreciation over time. If you haven’t done so already, check the business pages around the world and you will see more and more financial advisers are saying it is time to buy Europe.
Now let’s look at the chart for the stock with the largest drop from its high (36.38%) and the smallest recovery from its low (8.58%) -- German industrial behemoth Siemens (NYSE:SI). Here is their one year chart:
Siemens is the most diversified company on the table delivering high tech products to industrial, energy, healthcare, and infrastructure companies. They have been in business for 165 years and have obviously been able to weather many an economic storm over that time. How well will they weather this one? Let’s look at some key valuation ratios and performance measures for our seven European companies:
|Company ||NYSE Ticker ||P/E (Forward P/E) ||P/EG || ROE||Operating Margin ||Debt/Equity |
| Telefonica|| TEF|| 2.89 (6.77)|| 0.22|| 23.45%|| 16.02%|| 2.57|
| Siemens|| SI|| 13.86 (9.21)|| 0.66|| 13.63%|| 8.29%|| 0.47|
| France Telecom|| FTE|| 7.24 (6.79)|| 8.05|| 13.75%|| 17.55%|| 1.24|
| Total|| TOT|| 6.77 (6.17)|| 0.95|| 17.97%|| 14.5%|| 0.32|
|Sanofi || SNY|| 13.98 (9.21)|| 0.66|| 10.42%|| 16.35%|| 0.22|
| Unilever|| UL|| 18.42 (14.32)|| 3.84|| 29.55%|| 13.84%|| 0.55|
| Vodafone|| VOD|| 13.28 (10.48)|| 1.54|| 8.46%|| 24.10%|| 0.37|
First note we have included the forward P/E – which takes earnings estimates for the next reporting period into the calculation – as well as the trailing P/E. These shares report on a quarterly basis. If you measure these companies against some traditional metrics favored by value investors you can isolate the better potential bargains.
First all have forward P/Es well under the 15 threshold and five have P/Es under 10. Four of the companies have a P/EG under the benchmark threshold of 1.0. As you know, the PEG ratio is an enhancement of the P/E ratio and factors in a stock's estimated yearly earnings growth into its current valuation. The P/EG compares a stock's P/E ratio with its forecasted, or estimated, earnings per share (EPS) growth. A P/EG under 1.0 is an indication a stock may be undervalued relative to its earnings potential.
An ROE above 15% is desirable but as is the case with all ratios, competitor comparison is needed. For example, Siemens’ operating margin of 8.29% compares better against competitor General Electric (NYSE:GE) with an operating margin of 11.52%. However, GE’s ROE is only 10.66% against Siemens’ 13.63%
When you look at these companies in terms of price to earnings valuations, return on equity, operating margin, and dividend yield, Telefonica (NYSE:TEF) looks very attractive. Here is their one year share price movement chart:
Telefonica is a Spanish telecommunications company with business segments in three geographic locations – Spain, Europe, and Latin America. They have made substantial acquisitions in Latin America and recent earnings and guidance disappointments in that business segment hit the share price hard. They have strong brand identification with their media and entertainment services throughout Latin America, and those assets are the company’s growth future. The stock price has been crushed largely because of the massive wall of negativity about Spain in particular, the telecom sector in general, and any highly leveraged company facing the possibility of a credit crunch.
At first glance the dividend yield and the low P/E and P/EG shouts bargain but you also need to listen to the warning siren from their Debt to Equity ratio. This ratio confuses investors because in some cases you see it expressed as a percentage and in others as a raw ratio. So here the ratio of 2.57 is actually 257% which is dangerously high. In today’s environment highly leveraged companies such as TEF are out of favour. However, they are shedding assets to bring down their debt, so this could be considered a classic contrarian play. Here is their one year price movement chart:
France Telecom (NYSE: FTE) is another high dividend yielder from our table. The company has an impressive customer base of 226 million across Europe, with approximately 167 million mobile phone customers and almost 15 million Internet broadband subscribers. They offer Internet access and telecommunications to multinational businesses under their own brand name. Their business telecommunications services include networking, information management and integration, data transmission and a host of business specific offerings. Note that France Telecom also has a debt to equity ratio over 100%, which means they owe more than the total shareholder equity. Here is their one year price movement chart:
The next company in the table should be familiar to any Australian investor following our energy sector. French based Total (NYSE:TOT) has a substantial presence here in oil exploration as well as LNG production. They are an international oil and gas company operating in over 130 countries, with interests in the coal mining and power generation sectors as well.
Despite its global reach, Total’s share price has been hit hard from the European debt crisis as well as the falling price of oil, and a recent North Sea oil spill. The company’s growth potential is positive with ongoing investment in new projects, including the LNG plant here in Australia. Bears see that as a negative capital expenditure in the current environment and market participants overall seem to agree.
As evidence, US based energy giant Exxon Mobil’s P/E tells us the company is trading at roughly 10 times earnings while Total is trading around 6 with a dividend yield roughly 2 times that of Exxon. Although Total looks cheap it could get cheaper on continued dips in response to Euro Zone news, but over the long term, investors should be handsomely rewarded. Here is their one year share price movement chart:
UK based Unilever (NYSE:UL) provides consumer discretionary and consumer staple goods in four major areas -- Personal Care, Home Care, and Foods and Refreshment. They operate all over the world from Asia to Europe to the Americas. Because of its diversification and its defensive qualities, UL may be the safest share in our table. They have the highest ROE with moderate debt. More than 50% of their revenue comes from emerging market countries, cushioning them against harder times in developed markets. And remember, no matter how tough things are - people still need soap and household cleaning supplies. The following price chart displays ample opportunities for buying on the dips over the past year, and yet Unilever’s current share price in 2012 July is higher than it was in 2011 July.
Our final company is French based international healthcare giant Sanofi (NYSE:SNY). Pharmaceutical companies have traditionally held up well in recessionary times, but with patent expirations leading to generic competition and increasing regulatory issues across the world, some investors see them as less certain than in the past. However, Sanofi has new products in the pipeline and is highly diversified with entries in diabetes, human vaccines, innovative drugs, consumer healthcare, and even animal health.
Their share price movement chart shows the same volatile pattern as some of our other companies, but in reality, here is all you need to know about Sanofi. Warren Buffett is generally recognised as the world’s greatest living investor. In 2006 his company, Berkshire Hathaway, bought 25.8 million shares of Sanofi, representing about a 2% interest. During that year the share price ranged from around $41 to $48 per share, USD. Today -- (05 July 2012) -- you can buy in for $37.
Here is their one year price movement chart:
For investors in most of the western industrialised world, dividend yield with these European stocks is a major enticement. But for us here in Australia, the relatively modest dividends of companies like Sanofi, Unilever, and Vodafone may not seem that attractive when compared to our own term deposit interest rates.
Add to that the knowledge that continued dividend payments are not guaranteed even with the higher yielders, and you have to ask yourself why bother? We have all heard skeptics point to astronomical yields such as those with Telefonica and France Telecom as evidence of declining share price. While it is true yields rise when share price fall, what investors really need to look at is history of dividend payments in cash amounts, not yields, and payout ratios.
If the yield percentage in a time when share price was higher represented a similar cash payout, what’s the difference? So let’s look at the actual dividend payout history for these companies over the last 5 years in Euros, along with the payout ratios. The payout ratio is the percent of net income paid to shareholders in dividends. Here is the table:
|NYSE Ticker ||2007|
Dividend in Euros (Payout Ratio)
Dividend in Euros (Payout Ratio)
Dividend in Euros (Payout Ratio)
Dividend in Euros (Payout Ratio)
Dividend in Euros (Payout Ratio)
| TEF || 0.65 (34.5%)|| 0.81|
| SI|| 1.44|
| 1.97 --|
| FTE|| 1.19|
| TOT || 2.0|
| SNY|| 0.87|
| UL|| 0.72|
| VOD|| 0.67 -- || 0.67 --|| 0.74|
First, notice the consistency of dividend payments over the last five years, despite global macroeconomic concerns. This illustrates the point high dividend paying companies are loathe to cut dividends in tough times, even increasing them as did TEF between 2010 and 2011. The payout ratio is a rough indicator of a company’s ability to maintain its dividend. One could say that Telefonica’s 98.7% ratio is troubling since a company cannot continue to pay out almost 100% of its net income to shareholders.
The payout ratios in some cases provide a clue as to company performance over time. For example, Unilever paid the same dividend in 2008 and 2009 yet the payout ratio tells us they had to have had less income in 2009. Did the share price reflect that? Here is a five year chart for Unilever:
Clearly it did and the dividend yield would have been higher in 2009 than in 2008 although the same dividend amount was paid in each year. Unless you believe the world as we know it truly is coming to an end, there is no reason to believe the stellar dividend performance of these companies will not continue, along with substantial share price appreciation for those most beaten down.
Yield plus capital appreciation is there in equity markets if you know where to look and right now European blue chips are worth consideration. The European crisis will linger on, but if you believe the stunning turnaround of Germany’s position is evidence of commitment to finding a solution, future dips in share prices could be seen as buying opportunities, not the coming of the end. You have heard it before; throughout history economic and financial crises create buying opportunities.
Please note that TheBull.com.au simply publishes broker recommendations on this page. The publication of these recommendations does not in any way constitute a recommendation on the part of TheBull.com.au.You should seek professional advice before making any investment decisions.