This Dividend-Based Strategy Shows Merit

 | Nov 17, 2011 | 4:00 PM EST  | Comments
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GLAD

It has been a busy week here at Melvin Manor. There have been many deep issues to consider, including some of the more important issues of the day. For instance, does anyone besides shareholders of Madison Square Garden (MSG) actually care about the NBA Season? Can the young Maryland basketball team perform well and maybe even beat Alabama tonight? Will bringing back the cartoon bird logo help the Orioles pitchers find the strike zone next year?

While I was in the midst of these important thoughts, a good friend called me with questions about the search for income stocks in today's marketplace. Since I wrote last week's columns on using academic research to compile portfolios, I have been studying the use of Piotroski F scores to find dividend-paying stocks that offer the possibility of decent price appreciation and margin of safety.

The approach appears to have merit, as searching for stocks with high dividends and F scores has uncovered some interesting stocks I might have otherwise overlooked. Leggett and Platt (LEG) would not have popped up on my usual value screens, but it may be attractive to income-oriented investors. Shares of the residential furniture and commercial fixtures company are not super cheap on price-to-book value or earnings measures, but they do yield almost 5% at current levels. More impressively, the dividend has been increased for 40 quarters and is growing at an annual rate of 14%. While residential demand remains weak, along with housing in general, the company is starting to see some strength in office furniture and some of its specialty markets, such as auto seating. Management has been selling underperforming assets and closing unprofitable facilities as part of an aggressive cost control program. This is a stock that would fit well in most income oriented portfolios. Leggett and Platt has an F score of 8 out of a possible 9 and has the fundamentals characteristics that should allow them to outperform the market over the next few years.

Gladstone Capital (GLAD) is a business development company that specializes in financing recapitalizations and buyouts of small to mid-market companies. Right now the firm has investments in 18 portfolio companies with an average yield of 12.4%. The dividend to shareholders is a very comfortable 8.2%. Trading at less than 80% of book value, the stock is cheap even by my metrics. The company has investments in a wide range of companies including golf cart manufacturers, tool companies, wire manufacturers and radio stations. The firm is less leveraged than many other BDC firms and actually has a very healthy Altman Z score of 5.4. The F score is 8 so the fundamentals of the firm are headed in the right direction. Insiders must like the direction and makeup of the investment portfolio as they have been consistent buyers of the stock.

Intersections (INTX) is the most intriguing company that shows up in my search. This company is involved in identify protection, credit reports, brand protection and even software for bail bondsmen to improve their business operations and decision making. These products are subscription based and are offered in conjunction with corporate partners. The identify theft program is offered by four of the five largest banks in the U.S. and six of the seven largest Canadian banks. Growth at the company is not spectacular but it is steady and management recently increased the dividend by more than 30%. At today's price, the stock yields 6.8%. This stock sold off sharply earlier this month after a regional brokerage firm downgraded the shares after its earnings release. The company has a Piotroksi score of 8 and a Z score of above 5; plus, the balance sheet is strong and the fundamentals are headed in the right direction. I think the stock will rebound over the next year.

Using the F score to find high-yielding stocks for income portfolios appears to have merit. Fundamentally sound stocks with decent dividends should reward long-term investors with dividend increases and price appreciation over time.

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