Bank dividends – buy three for the price of two?

Co-founder of the Switzer Report
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Bank reporting season kicks off this week, with ANZ announcing its first half result (six months to 31 March) on Tuesday, followed by Westpac on Friday morning. NAB brings up the tail on Thursday week. Whenever the banks report, strategies involving their fully franked dividends come into focus. This is particularly the case at the moment, where market confidence is still relatively low and the only game in town seems to be the search for yield.

Get three dividends over a 14 month period

This strategy is a bit like buying three dividends for the price of two – with the stocks about to go ex-dividend, it’s about picking up three dividends over a 13 or 14 month holding period. Put simply, purchase shares in ANZ, NAB and/or Westpac before they go ‘ex-dividend’ around the second week of May (see below), receive three dividends (payable in July 2013, Dec 2013 and July 2014), and then potentially sell the shares in June/July 2014.

Investors who executed this strategy last November are sitting pretty – with major bank shares up by an average of 25% during the last six months. While interest rates have fallen a touch – yields on bank stocks have been crunched – which suggests that the point is nearing where bank stocks are becoming expensive. With this critical disclaimer, let’s look at the ‘break-even’ from the strategy, to throw some light on whether it is worth the risk.

Forecast dividends

Forecast dividends (all fully franked), based on consensus estimates from FN Arena for the three major banks are as follows:

ANZ goes ‘ex-dividend’ on Thursday 9 May, followed by Westpac on Monday 13 May, and then NAB on Thursday 30 May. In order to qualify for the first dividend (to be paid in July 2013), you must purchase the shares before they go ex-dividend. For example, if you want to buy ANZ, you will need your order to be executed by next Wednesday.

Income returns

We can calculate the gross return over the 14 month period, and the after-tax returns for funds in accumulation or pension mode. These returns are effectively the ‘break-even’ return – for example, a fund in accumulation could purchase NAB shares and still achieve a positive return provided NAB shares didn’t fall by more than 10.4% over the period (i.e. are above $29.35 in June/July 2014).

The forecast returns above are for 14 months – so if they were quoted on an annual basis, they are going to be lower.

What to be careful of

You need to be cognisant of the ’45-day holding rule’ in relation to being eligible for the imputation credits, so you are more likely looking at a 14-month holding period rather than 13 months. Further, share prices do adjust downwards when they change from ‘cum-dividend’ to ‘ex-dividend’. When you come to sell the shares in June/July 2014, some part of the interim 2014 dividend may already be reflected in a lower share price.

Also, factor in transaction costs – brokerage on both the buy and sell legs.

Bottom line

While the prospect of a further interest rate cut remains on the agenda, there may still be a little left in bank shares. If they can report revenue growth above the very low single digits that the market expects, there might be a lot more upside in the prices. If there isn’t any revenue growth, or it just comes from an improvement in their net interest margin, my hunch is that they are pretty fully priced.

I’m not sure there is enough “risk protection” in the strategy, so it is a pass from me. If I was playing, I think that NAB offers the best value.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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