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Why today’s opportunity remains in dividend paying stocks

Remember a few weeks ago when the Dow lost 370 points in a single trading day?

It was the worst day in 8 months.

The VIX, otherwise known as the fear index, spiked 40% higher. Gold soared.

The market feared Trump would be impeached. And with that would come the end of Trump’s so-called business friendly agenda, including his great big tax cuts.

Personally, I’m fine with Trump being impeached. Except, vice president Pence is even more of a right wing conservative, someone who’d make Pauline Hanson look moderate. As ever, you need to be careful what you wish for.

When it comes to Wall Street, and the stock market, only one thing matters — money.

Since that shock, US markets have recovered, back trading at close to all-time highs.

The VIX has fallen 33%, back to around 10. Fear has abated.

Not even the recent cowardly terrorist atrocities in the UK and one here in Melbourne have shaken the markets. Sadly, as shocking and devastating as they are, such events are now the norm, not the exception.

Yet investors remain on the sidelines…

Waiting for what?

The result of the UK election, even though a Conservative win is virtually a forgone conclusion?

The upcoming Federal Reserve meeting, and the prospect of higher US interest rates, even though it remains “very likely” the Fed will lift its base interest rate by a further 0.25 percentage points?

The next market crash, even though true market crashes come along once in a blue moon?

Still, you don’t look far to find someone preaching doom and gloom.

Bond guru Bill Gross has warned financial markets are at their most vulnerable since the GFC, quoted in Marketwatch as saying…

Instead of buying low and selling high, you’re buying high and crossing your fingers.

Of course, it all depends on what you’re buying.

Paying over 20 times earnings for Woolworths Limited (ASX: WOW) is buying high. More so now it has cut its dividend.

Paying 2.6 times book value for Commonwealth Bank of Australia (ASX: CBA) is buying high. More so now the housing bubble is deflating and all bank dividends are now at risk of being cut.

Fund manager Charlie Aitken has just sunk the boot into Wesfarmers Ltd (ASX: WES), saying paying 16 times earnings for no earnings growth, and potentially negative earnings growth, is not an attractive proposition. His Aitken Investment Management fund is short Wesfarmers.

Most retail investors either can’t or won’t short individual stocks. A short is when you are betting a company’s share price will fall.

I’ve tried shorting individual companies a few times, mostly losing money. It’s a tough gig.

These days I reserve any shorting to leveraged Exchange Traded Funds (ETFs). These products tend to suffer from time decay, such that, over a long enough time span, they will wind up going to zero.

Sounds like a no-brainer bet, right?

Not necessarily.

Before they eventually wind up going to zero, they can inflict a whole world of pain on unsuspecting investors.

In the relatively early stages of the GFC, I went short volatility, or the VIX. It was about 40 at the time, or more than double its long-run average.

Volatility always subsides, eventually.

But as the GFC reached its crescendo, the VIX spiked to 80. The ETF I’d shorted had me sitting on a massive paper loss.

Luckily, I had the cash to see it through. As with any short, the potential losses are unlimited.

Luckily I had the nerve, and the fortitude to see the GFC through. Many didn’t, or couldn’t, capitulating at worst possible moment… right at the bottom of the market.

I’m still short the VIX today, via the same ETF – the awkwardly named iPath S&P 500 VIX Short Term Futures TM ETN (NYSEARCA: VXX). It’s down 75% over the past 12 months — a nice stocking filler for my portfolio.

For the first time in a long time, I increased my short bet on VXX last month when the Dow fell those 370 points.

When markets stumble, going short volatility via an ETF that’s almost guaranteed to suffer from time decay is a no-brainer for me – but only because I have the cash to cover any potential short-term spike in the VIX, and the experience to hold my nerve.

As for buying opportunities, as with any market, bull, bear or in-between, there are always opportunities.

But with interest rates this low, and likely to stay around these low levels for the foreseeable future, the opportunity today remains in dividend paying stocks.

I’ve got my eye on one of Andrew Page’s recent picks, pet company Greencross Limited (ASX: GXL), the company behind Greencross Vets and Petbarn.

Andrew’s our resident dividend expert, and the brains behind our incredibly popular Motley Fool Dividend Investor advisory service. You can get more information about the service by clicking here now.

Greencross shares have been falling in recent weeks — for no apparent reason – such that they now trade on a forecast 13 times earnings and a forecast fully franked dividend yield of 3.7% (or 5.3% grossed up).

Not bad for a company with a strong competitive position, good earnings visibility and growth opportunities, and is somewhat recession proof. If money gets tight, people will often prioritise pets over their own health.

At least two Greencross directors are confident in the company’s prospect, buying shares in the last couple of days.

Directors sell shares for any number of reasons. They only ever buy for one reason.

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Of the companies mentioned above, Bruce Jackson is short the iPath S&P 500 VIX Short Term Futures TM ETN.

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