A Yield Play Without Any Yield?
By: Roger Nusbaum, AdvisorShares ETF Strategist
On Friday a recently launched IPO fell about 15% on an earnings report that was poorly received by markets leaving the stock down 39% since its first day of trading in June. Naming names becomes difficult for compliance reasons but as a hint it is an infrastructure name and you would probably need to read the name two or three times to figure out the word.
Being an infrastructure product it was intended as a yield play that would distribute 90% of its cash flow. I was unable to find evidence that a dividend had been paid yet after looking at four different sources (Yahoo Finance, Google Finance, Nasdaq.com and Motley Fool).
It was a very hot IPO closing up 27% from its pricing on its first day of trading (so from its IPO pricing it is down 15%). There was all sorts of media and analyst coverage of the name in the build up to the IPO and in the immediate wake of the start of trading. I read about it at the time and the story was good but a key point of understanding is that the stories are almost always good otherwise there’d be no IPO.
This sort of thing has come along many times before; a seemingly can’t-miss yield story with a seemingly simple business to understand. In the middle of the last decade there were quite a few airplane leasing companies that hit markets and while most of them are still around the original expectations set for dividends didn’t really sustain.
Where maybe the businesses aren’t so simple is when they manage huge debt loads, execute a lot of transactions or both. While this particular infrastructure stock has done poorly others have done well so maybe it is a management issue and if it is correct that it has paid no dividends that certainly might be a red flag.
I had no insight into this particular stock, I didn’t write about it but (repeated for emphasis) this is a story we’ve seen before. Investors are desperate for yield and many of these offer the right buzzwords; yield, cash flow and low correlation to equities.
An ongoing theme here has been that the further you move from plain vanilla yield, the more risk you take and while this should be obvious it is often forgotten when it comes to sizing of these sorts of products in portfolio. Four years ago 20% in gold/commodities was a popular suggestion which now seems unbelievable and maybe anyone making that suggestion back then would try to deny it now.
Suggestions today about how much to allocate to things like high yield or other sources of yield like maybe MLPs could take a similar path. That is not offered as a prediction, it is a comment about how to think about and allocate risk.
A 2008-like widespread malfunction is an incredibly low probability but some sort of calamity in one pocket (think CanRoys in October, 2006) can of course come at any time. While this is not new it is often forgotten or ignored (repeated for emphasis). Small exposures to these yield plays can make sense but you will not get 5% out of your entire income portfolio in a zero percent world without a lot of risk. There is no way to know whether there would be any consequence for that risk if taken but of course it there would only be regret in the face of a blowup.