Stocks look tempting as cash rate slides

SHAREMARKET yields are heading higher just as the official cash rate is expected to be cut below 4 per cent, enticing investors to shift assets from the safety of cash back into equities.

By InvestSMART · 18 Jan 2012

By InvestSMART ·
18 Jan 2012

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SHAREMARKET yields are heading higher just as the official cash rate is expected to be cut below 4 per cent, enticing investors to shift assets from the safety of cash back into equities.

The big four banks are expected to return between

7 and 8 per cent this year, fully franked, while Telstra's guaranteed dividend gives it a yield of 8.3 per cent at its current price of $3.36.

AustralianSuper's head of equities, Innes McKeand, said some shares were pushing 16 per cent, such as bread maker Goodman Fielder at a 15.5 per cent yield, though this was not all good news.

"If there is nearly 16 per cent in dividend yield available, with or without franking credits, that is an exceptionally attractive return," he told BusinessDay. "The market would say, 'If we believe in that we will buy the stock'.

"The fact that it has not done that suggests that maybe the market does not believe the dividend is actually sustainable."

Morning Star's head of equities, Andrew Doherty, said APN News and Media had a median yield forecast of 12.7 per cent, but was expected to cut dividends due to lower earnings.

Martin Lakos, a divisional director at Macquarie Wealth, said defensive stocks were usually the ones paying big dividends but market jitters over the European debt crisis had dragged down prices of some other sound companies, resulting in unusually high yields.

These high-yield shares were becoming more attractive despite the higher risk associated with equities. Although the Reserve Bank's cash rate was 4.25 per cent at present, Mr Lakos said he expected it to fall to 3.75 per cent this year.

"Investors will be saying, 'Is an 8 per cent yield from a bank or Telstra a big enough return to compensate for the risk in the sharemarket, compared with a 3.75 per cent yield [cash rate]?"' Mr Lakos said.

Telstra confirmed last year it would maintain its dividend until mid-2013 and is expected to announce a share buyback at its half-year results on February 9.

RBS analyst Alva DeVoy noted that corporate balance sheets were relatively under-levered, with high levels of cash and near-cash holdings.

"In our view, Ansell, Boart Longyear, Incitec Pivot, News Corporation and WorleyParsons have the potential to announce or increase buyback programs," she said in a note to clients.

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Frequently Asked Questions about this Article…

Why are sharemarket dividend yields rising as the official cash rate is expected to be cut?

Yields on Australian shares are rising because the official cash rate is expected to fall below 4%, making cash returns less attractive. When the Reserve Bank rate drops (it was 4.25% in the article and some expect it to fall to about 3.75%), investors often shift money from low-yield cash into equities, pushing share yields higher as demand and prices adjust.

Which Australian companies mentioned in the article are offering the highest dividend yields?

The article highlights several high-yield names: the big four banks are expected to return about 7–8% fully franked, Telstra had a guaranteed yield of about 8.3% at a price of $3.36, Goodman Fielder was quoted at a roughly 15.5% yield, and Morningstar forecast APN News and Media with a median yield around 12.7% (though that may change).

Are extremely high dividend yields (like 15–16%) a safe sign for investors?

Not necessarily. Very high yields can indicate attractive returns but can also signal market doubts about dividend sustainability. As AustralianSuper’s Innes McKeand noted, if the market hasn’t bid the stock up, it may not believe the payout is sustainable; Morningstar also expected some companies (like APN) to cut dividends if earnings fall.

How has the European debt crisis affected Australian dividend yields and stock prices?

According to Macquarie Wealth’s Martin Lakos, jitters around the European debt crisis dragged down prices of some otherwise sound Australian companies. Lower share prices push yields higher, so the crisis has contributed to unusually high dividend yields for some defensive stocks.

How should I compare a bank or Telstra dividend yield with the official cash rate?

You should weigh the higher income from shares against the greater risk compared with cash. The article cites a common investor question: is an 8% yield from a bank or Telstra enough to compensate for sharemarket risk compared with an expected cash rate nearer 3.75%? Consider dividend sustainability, company fundamentals and your risk tolerance.

What did the article say about Telstra’s dividend and a possible share buyback?

Telstra had confirmed it would maintain its dividend until mid-2013 and was expected to announce a share buyback when it released half-year results on February 9, making its dividend policy and capital return plans a key point for income-focused investors.

Which companies were identified as potential candidates to announce or increase share buybacks?

RBS analyst Alva DeVoy noted that Ansell, Boart Longyear, Incitec Pivot, News Corporation and WorleyParsons had the potential to announce or expand buyback programs, based on relatively under‑levered corporate balance sheets and high cash or near‑cash holdings.

What does it mean that corporate balance sheets are 'relatively under‑levered' and how could that affect investors?

Relatively under‑levered balance sheets mean many companies have lower debt and higher cash or near‑cash reserves. That position can give companies flexibility to support dividends or fund buybacks, but any action still depends on earnings and management decisions—APN’s expected dividend cuts show cash on hand isn’t the only factor.