A HIGH-DIVIDEND INFLATION HEDGE? ISHARES BARCLAYS TIPS BOND ETF (TIP)

1. MARKET OVERVIEW

Since the vast majority of stock prices move in synch with the major indices, we must evaluate any new investing in the context of the overall market’s direction.

A. MARKET STATUS

Confirmed, though decelerating (?) downtrend, still seeking a bottom.

IMPLICATIONS FOR INCOME STOCK INVESTORS

Invest in income stocks only funds with not needed for the next number of years. Invest only in companies with prospering businesses that can sustain their high dividends. These are the stocks I covered in this blog. As long as we continue to get great returns in at least the 7% - 10% range with capital reserved for investment, we can relax about the vicissitudes of stock prices.

B. DISCUSSION

Despite the optimism accompanying the new US administration, the current picture obviously remains bleak.

· The financial system remains in critical condition, though may stabilize if central bank life support systems continue to function

· The housing crisis appears likely to worsen as a wave of defaults approach in 2009

· Layoffs are occurring by the thousands

· Consumers are continuing to reduce spending

· Various key infrastructures (utility, transportation, energy, health care, to name a few) need major investment after years of neglect

The House of Representative’s version of the stimulus bill appears unlikely to work. In sum:

· It does little to improve investment in the productive assets and new technologies that will generate future jobs and wealth in the US. The bill needs much heavier emphasis on tax credits for business investment. If you buy a capital asset (computer, truck, software package, etc) you get $5000 off your tax bill, or you can just pay that $5000 in taxes. Most business owners would rather get something for their money instead of paying it away in taxes. That gets orders up and people hired and doing productive work.

· Improvements in roads and other infrastructure, while necessary, provide temporary jobs and stimulus, but very little direct impact on long term growth. A new road doesn’t cause another new road to be built, though easing traffic in theory (?) speeds transportation and perhaps lowers shipping costs, etc.

· Tax breaks and credits to low and middle income workers essentially just transfers wealth from those who create it to those who don’t, and who may or may not create additional stimulus through their spending. Tax credits for those who may now owe any tax anyway are just glorified welfare.

Let’s hope the Senate can make some meaningful improvements, or things are getting bleaker still.

2. A HIGH-DIVIDEND STOCK AND INFLATION HEDGE? ISHARES BARCLAYS TIPS BOND ETF (TIP)

Treasury Inflation-Protected Securities (TIPS) are marketable securities whose principle rises or falls with the Consumer Price Index.

For a those interested in some background on these, see

http://www.treasurydirect.gov/indiv/research/indepth/tips/res_tips.htm.

Recently there have been a number of recommendations for investments like this. The basic, simplified theory behind them is:

· the US prints more money to pay for the various bailout and stimulus packages

· these programs work at least well enough to prevent financial collapse and resulting deflation

· the overabundance of dollars causes inflation

Thus those seeking a conservative inflation hedge with some income should consider this variation TIPs.

As a service to my readers, a brief summary of the pros AND cons is in order.

A. WHAT

A member of the iShares Trust fund family, this Exchange Traded Fund (ETF) seeks to match the performance of the inflation-protected sector of the US Treasury market as defined by the Barclays Capital U.S. TIPS Index. For more on its basics, see its profile at http://finance.yahoo.com/q/pr?s=TIP

B. WHY

· Interest rates are unlikely to go much lower, with10 year Treasuries at about 2.5%.

· Interest rates should increase over the coming year as the US sells bonds (i.e. prints money) to pay for the trillions in bailouts, causing inflation, a drop in the dollar, and ultimately a rise in interest rates.

· As rates rise, foreign buyers drive up demand for Treasuries, especially those with some inflation protection for added yield.

· When credit markets are very nervous and deflation fears overcome inflation worries, as 10/08 and 11/08, TIP yielded over 9%. As sentiment has reversed, prices for TIP have climbed and the yield as a bit over 6% (based on the assumption that its $0.80 monthly dividend continues).

In sum, solid dividend and good potential for capital appreciation.

C. WHY NOT

· The fund has in fact not paid a dividend since October and it’s unclear when it will resume and at what level. Thus yield is in fact uncertain.

· The US Government’s CPI consistently underestimates inflation, so the TIPs are at best a partial protection.

· While credit has loosened somewhat recently, there is still lots of fear and Treasuries have been bid up as investors flee to quality. Treasuries are questionable bargains at these levels.

· Certain commodity-based investments, especially energy, arguably offer better appreciation (and hence inflation protection) potential given the current level of energy and other key commodity prices.

D. CONCLUSION

At best, TIP is an income producing inflation hedge of uncertain yield for those seeking to diversify a portion of their portfolio into bonds. However, there are investments available with better risk/reward ratios, like the best of the energy infrastructure MLP, power utilities, and certain Canadian Royalty Trusts. They hold or are linked to underpriced hard assets, and their yields are higher and more reliable, and they have better prospects for long term appreciation.

In sum, don’t overload on TIP and variations on this theme. Despite the hype, there are better opportunities unless you specifically seek TIPs exposure for some conservative diversification.

DISCLOSURE: THE AUTHOR HAS NO INTEREST IN TIP

TOP ENERGY INFRASTRUCTURE MLPS – AMONG THE VERY BEST HIGH DIVIDEND STOCKS

1. INTRODUCTION: THE BUY OF THE DECADE?

In our last blog we discussed one of the best Energy Infrastructure Master Limited Partnerships (MLPs), Enterprise Product Partners (NYSE: EDP). In sum, a high and reliable dividend that is growing even in this market.

In this blog we step back to present a brief overview of what makes the Energy Infrastructure MLPs arguably among the best sectors for those seeking high dividend stocks with the solid business fundamentals to sustain and grow those dividends.

For relatively low risk and very high dividends, there is arguably no better sector.

With the fear-driven flight to quality pounding US Treasury paper yields to all time lows, (10 year bond at about 2.5%, 3 month near zero) income investors without multimillion dollar portfolios have no choice but to seek higher yields or consume their principle.

The good news is that once-in-a-generation fear levels produce equally rare opportunities as quality stocks get thrown out with the rest. Among the very best available are the energy infrastructure Master Limited Partnerships (MLPs). Even the best of this group have been far oversold based on their very solid fundamentals, and thus offer historically high yields for such strong businesses. How oversold? Historically the best of this group offered about 2% higher yield than ten year treasuries. They currently offer over 8.5% higher yields – over 11%.

In our last blog we discussed one of these, Enterprise Products Partners (NYSE: EDP). Before reviewing others among our favorites, let’s look at the group as a whole.

A. HERE’S WHAT MAKES THEM SO ATTRACTIVE.

In essence, a unique combination of high, reliable dividends backed by sound businesses with almost utility-like market positions.

1. Stable and growing dividends averaging over 11% even under current conditions

The Law requires these MLPs to pay unit holders (the technical term for stockholders in MLPs) almost all of their cash after meeting ongoing operating, debt, and capital project obligations. Our MLPs have low payout ratios that can easily cover distributions under current and even worse conditions. Some will even continue to increase them (like EDP did in November), though perhaps at a slower pace. Given the extreme regulatory and political difficulties of building new pipelines and storage facilities, these companies have utility-like monopolies on critical oil and gas transport and storage. Thus regardless of market conditions you collect extremely high, reliable dividends.

2. Declining energy prices and reduced access to outside capital limits capital asset growth, but not distributions

Revenues are mostly based on the volume, not price, of oil or gas moved through their pipeline and storage systems. So they have limited-to-zero direct commodity price exposure. Weak demand may reduce that volume and ultimately may limit expansion projects that feed future revenue growth. However, ongoing operations and dividend distributions are safely covered even with reduced revenue. Volume may not even suffer significantly, as weak demand drives down price more than volume.

3. Better Transparency Than Bonds

As with any stock listed on a major exchange, information on price trends, charts, bid/ask spread and other data needed for sound investing decisions is far more available than with bonds.

2. HERE’S WHY THEY’RE BEATEN DOWN

With such healthy fundamentals and seductive dividends, why the relatively low prices and high yields? Major reasons include:

A. Indiscriminate panic selling

From investors of all sizes, the motive has essentially been the same. Excessive fear.

B. Confusion about how the MLPs make money

Many mistakenly assume these companies are deeply affected by declining energy prices, or that limited access to outside capital endangers current distributions. As noted below, this mistaken linking of these MLPs to energy prices brings an additional opportunity besides great valuations.

C. Market risk

This is a legitimate concern for those possibly needing cash invested in these MLPs within the next few years. Almost all stocks, these included, follow the overall market, which most believe (and our research concurs) is very likely to drop further before bottoming. The next sustained bull market and chance of price appreciation or recovery may well be years away.

Thus we continually remind readers that new income stock buys should be only with funds if they will not be needed for as long as the next 3-5 years. But with average yields over 11%, you are well compensated for your patience and stand an excellent chance of long term appreciation.

D. The Islamic - Russian Wildcard Bonus?

Here’s a possible additional bonus. At these low prices, there is also a very real chance for near term appreciation from news-driven speculation. These stocks move with energy prices, which can move violently higher when tensions rise in the Middle East. Given that the West and Israel have yet to show genuine determination to conclusively militarily defeat the forces of radical, imperialist Islam, these tensions will continue to periodically boil over in various forms of terrorism or conflicts, scare world markets and send any energy related stock higher, the MLPs included. Neither Israel’s unilateral cease-fire in Gaza, nor Obama’s rush to close Guantanamo suggest the determination needed to bring about the only likely solution: utter decisive military defeat of radical Islam’s military.

Russia, greatly dependent on energy exports to Europe, has also shown signs of willingness to use aggression to maintain its position as sole provider for much of Europe’s energy needs.

3. CONCLUSION

In sum, we have obscenely high, safe income in the top MLPs, as long as one can ride out further possible market declines. Given their utility-like near monopoly in their respective regions, they have historically offered about 2% higher yield than the ten year US Treasury bond, a favorite MLP benchmark. That spread has widened to over 8.5 %.

No income investor should be without some of these. We recommend no more than 3%-5% of one’s portfolio in any one security. Given market volatility, take a third of total planned position in EDP now.

More on other MLP recommendations soon. Can’t wait? Take a look at Kinder Morgan Energy Partners (NYSE: KMP), and TEPPCO PARTNERS LP (NYSE: TPP).

Best Wishes,

Cliff Wachtel

Your Highdividendstocksguide Blogger

Disclosure: The author owns shares in the above companies.

ENTERPRISE PRODUCTS PARTNERS (NYSE:EPD)

OVERALL MARKET

Confirmed Downtrend

Evidence exists for near term rally. For example, bull/bear sentiment ratios remain around 5 year lows. By itself this is very bullish, since it with so many investors so negative there are oceans of cash on the sidelines waiting to be deployed and fuel a market rise. This is why we’ve seen some violent upside moves on high volume since October. But their repeated failure to sustain upward movement, making lower highs and lower lows, confirms the downtrend

There are many great bargains out there. Thus we do continue to add stocks, but only with funds that will not be needed for the next 3-5 years, and even then only when these counter-trend rallies fail and establish a support level.

RECOMMENDATION

To start off with a bang, I present a stock that every income investor should at least get to know.

Enterprise Products Partners (NYSE: EPD): Buy under $19.56, Strong Buy under $17.56.

A classic example of the kind of stock we favor. Strong fundamentals that can support a growing dividend, currently yielding over 10% in one of the worst markets ever.

Enterprise Products Partners (NYSE: EPD): The short version: Since October the company has raised its quarterly dividend 1.55% from $0.515 to $0.523, received two additional senior unsecured credit lines totaling $593 million, and sold almost $83 million of common units.

EPD’s ability to obtain funding when most cannot, raise dividends when so many companies are struggling to maintain them or cutting them highlights our belief that this pipeline operator, along with some of its peers, will cope better with the current conditions than other energy companies.

Indeed, these recent events suggest that its expansion plans will continue as planned, suggesting future revenue and dividend growth.

Its share price tends to move with the market, so further declines are likely within the next year. While its true value is higher, since October it has shown support around 19.50, so our current buy price is below $19.56. It has twice tested support around $17.50, so we set our strong buy at $17.56. I would certainly raise this buy point if the market’s health improved. Meanwhile, we only buy at near term bargains to preserve capital.