Investors can still find yield in these stocks even though many companies are cutting payouts

Published Mon, Apr 20 20209:00 AM EDTUpdated Mon, Apr 20 20209:52 AM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

Key Points

Companies are being pressured to cut dividends, particularly those hardest hit by virus shutdowns — in retail, travel and leisure, but energy is the area most likely to say goodbye to shareholder payouts.
Investors can find ways to avoid the sting of the loss of quarterly dividends by steering clear of the highest-yielding stocks, since many are "yield traps" and could be more likely to cut, according to Bank of America.
Dividends of utilities are seen as secure but the stocks are pricey, so investors may want to hunt for yield in big-cap names in other sectors such as technology and financials, said Savita Subramanian, head of BofA U.S.equity and quant strategy.

Many companies are cutting their dividends and more are going to have to forgo payouts to shareholders as cost pressures mount in coming months. However, there are some relatively safe harbors for investors seeking yield. One of the most secure sectors has traditionally been utilities stocks, but Bank of America strategists also say if you stay in the big caps, dividends appear to be safer than they were during the Great Recession. Stocks have recovered much of their sharp drop in February and March, and the S & P 500 is now up 31% from the March 23 low. But the earnings outlook this year is now dire, after the crushing blow of the economic shutdown due to the coronavirus. Companies will be challenged to cut costs in the face of sharp earnings declines and revenue shortfalls. Reluctantly, many dividends will have to go. "I still think the income potential for the larger sectors in the S & P 500, like tech and financials, offers above average dividend yields relative to some of their peers in the fixed income market," said Savita Subramanian, head of U.S. equity and quant strategy at Bank of America. Stocks of utilities companies look pricey, based on valuations, but dividend yield looks very attractive relative to the 10-year Treasury yield, and payouts are at reasonable levels. According to BofA, the payout for utilities is the highest since the financial crisis relative to the 10-year Treasury. Subramanian said yield is one reason to stay invested in the stock market, though she is more tempered in her view lately because of the rapid run-up. "Longer term we're a little less euphoric on the market than we've been. We're almost at the same P/E ratio, or price to earnings ratio that we were at at the market highs back in February," she said. "It's essentially telling us we're still not out of the woods from an earnings perspective, but the market has actually anticipated a stronger recovery." Goldman Sachs analysts expect dividend spending for the S & P 500, including cash preferred dividends, will fall by 23% in 2020. The Goldman analysts revised their dividend growth basket to swap out some names and include some new ones. Some of the stocks Goldman analysts added include Prudential Financial, Fifth Third and Regions Financial in financials; Analog Devices , Xerox , NortonLifeLock and Alliance Data Systems in tech, and health names Merck and Johnson and Johnson , which raised its dividend last week The sectors seen as most likely to cut dividends are energy and consumer discretionary, according to Subramanian. Real estate is another sector likely to cut. Of the S & P 500 companies covered by BofA analysts, half of the energy companies have dividends at risk, and 41 percent of the names they follow in real estate. When it comes to small caps, the risks are even starker with 73% of real estate names covered by the firm potentially cutting dividends. In the consumer discretionary sector, 26% of the S & P 500 companies they follow could cut, but 59% of small caps discretionary stocks have dividends at risk. Financials so far have been spared, but there is concern in the market that the big banks could be under pressur e to shave their payouts, if the shutdowns continue through the summer and borrowers continue to hold off on loan payments. JPMorgan Chase CEO Jamie Dimon said on the earnings call last week that the the company would consider suspending its dividend only if economic conditions were adverse enough. He also said the dividend is a "small claim" on the firm's equity capital base. Dividends at risk Subramanian said one way for investors to avoid the sting of dividend cuts is to steer clear of the highest yielders. For instance, the top quintile of dividend payers by yield in the Russell 1000 is the most likely to cut, and these "yield trap" plays have seen their yields rise on a percentage basis as investors sell their stocks ahead of anticipated announcements. Instead, she suggests the second quintile is a better place to invest and still capture decent yield. "One of the things about these companies that cut their dividends is they tend to underperform for years," she said. "Dividends are a contract with investors. When you break that contract, it's really a painful process to regain trust. There's a much higher stigma around cutting dividends than there is in suspending a share buyback." Subramanian said the market makeup has changed since the financial crisis, and energy, with the most at-risk dividends, now has a much smaller part of the market than did financials, which was cutting dividends in 2008. "Today software is double the size of energy. The whole composition of the market is more high quality," said Subramanian. Las Vegas Sands is one company that chopped its dividend, but the firm, which has been challenged by the virus and forced to shut operations, was seen as having no choice and viewed as prudent. Sands' rivals MGM Resorts and Wynn are on a list of companies that Bank of America analysts say could be at risk of cutting dividends. The companies, before this year, had appeared to have secure dividends. Also on the list are Hyatt Hotels , Host Hotels, Expedia, FedEx, Dow and Dunkin Brands , to name a few. Energy companies on the list include Hess , Pioneer Natural Resources , Schulmberger and Concho Resources . Defensible dividends BofA analysts also came up with a list last month of companies with defensible dividends, including the utility names Alliant Energy , CMS Energy, and Evergy . Financials included Fifth Third Bancorp, Chubb , Progressive , Allstate and Goldman Sachs. Microsoft and Nvidia were technology names seen as safe bets , and Cerner and Humana were health stocks on the list.

A masked pedestrian carrying water bottles walks past the Charging Bull statue in lower Manhattan on April 02, 2020 in New York City.

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Many companies are cutting their dividends and more are going to have to forgo payouts to shareholders as cost pressures mount in coming months.

However, there are some relatively safe harbors for investors seeking yield.