Bond Proxies in Industrials and Materials – Surely Not!

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Graham Copley / Nick Lipinski



July 13th, 2016

Bond Proxies in Industrials and Materials – Surely Not!

  • Despite our expectation of slower global economic growth post “Brexit” and a more general cautious stance around the whole of the Industrials and Materials space for the next 3-5 months, the negative rate environment does raise some questions around whether certain stocks are interesting simply because of their dividend yields.
    • We cut the universe first to identify those with high yields today and EBITDA expectations which suggest adequate dividend coverage even assuming material negative revisions for 2H 2016 and 2017 – see Exhibit 2. (Note, HUN, OLN and EMN have high debt and interest costs)
    • We then take this group and identify companies with historically narrow bands of price volatility during periods of macro or company specific risk – Exhibit 1.
  • This is not a group of sectors that would traditionally screen as a safe place to look for yield, but given the price and multiple appreciation in sectors which would be more obvious places to ride out the low rate low growth expectation, there are some ideas here where the yield (and the likely safety of the yield) offsets the greater risk profile.
    • In Chemicals: DD, CF, and DOW
    • In Capital Goods, Electrical Equipment, and Conglomerates: EMR, ETN, UTX
    • In Transports: UPS and NSC
    • Smaller cap names: BRC, PKG, SON, UFS
  • Dow and DuPont both look interesting, but only if you assume than the combined company will raise its dividend to the Dow level. Otherwise DuPont looks interesting and Dow riskier.
    • In an environment of weakening economic growth, it is unlikely that much in Industrials and Materials will outperform the broader market but the stocks listed above have the greatest chance of providing positive total shareholder returns over an 18-month period.

Exhibit 1

Source: Capital IQ and SSR Analysis

“Price Volatility” is the standard deviation of historical premiums/discounts to fair value based on normal earnings


Exhibit 2 plots the stocks in our coverage that make the cut of 2.5% dividend yield and dividend coverage of at least 3x relative to 2016 EBITDA estimates.

Exhibit 2

Source: Capital IQ and SSR Analysis

The table in Exhibit 3 below sorts the stocks shown in Exhibit 2 by historical price volatility (lowest to highest), and is an expanded version of the table in Exhibit 1. We measure price volatility as one standard deviation of a stock’s historical premium/discount to fair value on a return on capital trend based normal earnings model.

Exhibit 3

Source: Capital IQ and SSR Analysis

©2016, SSR LLC, 1055 Washington Blvd, Stamford, CT 06901. All rights reserved. The information contained in this report has been obtained from sources believed to be reliable, and its accuracy and completeness is not guaranteed. No representation or warranty, express or implied, is made as to the fairness, accuracy, completeness or correctness of the information and opinions contained herein.  The views and other information provided are subject to change without notice.  This report is issued without regard to the specific investment objectives, financial situation or particular needs of any specific recipient and is not construed as a solicitation or an offer to buy or sell any securities or related financial instruments. Past performance is not necessarily a guide to future results.

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