There is only one stock in this sector in the ASX 100 – Telstra. As a result, we will also provide some discussion of the other members of this sector that reside in the next 100 of the ASX 200. Since Telstra does not pass the ‘2.5’ test (please see my paper on the Market Updates tab of our website www.woodhall.com.au [1] for details) there are grounds for avoiding this sector altogether. However, Telstra is a consistently strong dividend payer and can be considered more like a bond than a stock.
The yield has been driven down to 6.4%, which is solid, compared to even the big banks. But, if the stock price retraces, as interest rates start to rise, capital losses may wipe out prospective yield. For many years’ total returns (capital gains plus dividends) were pretty flat. It wasn’t until the rise of NBN Co and the fall in interest rates that Telstra’s price rose – in fact by 40% in the last 12 months.
Dividend maintenance
With recent statements that support continued dividends at these lofty levels, that side of the equation is relatively assured. However, it is not clear what may happen after the September 14th election, nor what may happen as a result of delays in NBN Co. Moreover, interest rates are now being forecast to rise, and not fall, as early as this year. When the risk premium between Telstra’s yield and term deposit rates closes, the stock price might start to retreat.
[2]Clearly from the table, all of the stocks – except for the NZ Telco – have run hard over the last 12 months but three of them – TPM, MTU, and IIN – deserve some attention based on recommendations. Turning to Chart 1, I plot the recommendations over time for three of the Telcos – Telstra; the NZ version, TEL; and the Singapore Telco, SGT.
[3]Telstra’s recommendation trace has been trending to the downside for much of the last 12 months, while SGT’s recommendation has moved sideways. TEL has moved sideways since mid-2012 but was an ‘outperform 2’ 12 months ago.
The exuberance trace for this sector is shown in Chart 2. It behaved normally until mid 2012 – in that it repeatedly bounced off the 6% line. However, as rate cut after rate cut took income away from term deposit holders, these investors seemed to have stepped back into the market in search of yield. In so doing, they forced prices up into what would otherwise be serious overpricing. However, they have only bid down expected yield for the sector from 8.25% to 6% over the last 15 months – leaving a respectable gap or risk premium over term deposit rates. Exuberance is now back at moderate levels.
[4]We continue to forecast good prospects for the ASX 200 at 11.9% for the next 12 months. However, the comparable forecast for this sector’s capital gains is only 2.9%. As a dividend play, Telstra still seems reasonable, but little might be expected on the capital gains front. Telstra’s dividends are accompanied by 100% franking credits, which is great for super funds in pension mode – unless of course, Wayne Swan has other ideas in his May budget.
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.
Also in the Switzer Super Report
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- James Dunn: Don’t forget property related tax deductions [6]
- Toby Bucks: Fundies favourite – Platypus Asset Management on Qube Holdings [7]
- Gavin Madson: Ratings agencies shoot themselves in foot….again [8]
- Paul Rickard: Question of the week – Transferring shares into an SMSF [9]
- Tom Elliot: Plenty of takeover opportunities in a wavering market – Caltex and Envesta [10]