The Fortescue Metals Group Limited (ASX: FMG) share price has built a reputation as one of the few solid blue chip performers on the S&P/ASX 200 Index (ASX: XJO) in 2020 so far. Despite its gains over the past few months, the ASX 200 is still down around 11% year to date. The Fortescue share price contrasts nicely with this and is up more than 60% over the same period.
But August wasn't a good month for Fortescue. While the ASX 200 was up 2.3% for the month, the Fortescue share price went backwards and was almost a mirror image of the ASX 200, falling by 2.52% over the same period.
So what happened for Fortescue?
Fortescue's average month… or not?
On the surface, it looks as though Fortescue just had a pretty average kind of month. But there is more going on under the surface. Consider this, Between 3 August and 28 August, the Fortescue share price was up 8%. It was only a big fall at the end of the month that pulled Fortescue under. You might think this catalyst was the FY2020 earnings report that Fortescue delivered last week. But the market barely blinked at the company's surging revenues and profits.
No, we can explain the end-of-month Fortescue share price slump with just one word: dividends. In its earnings report, Fortescue announced the payment of a final dividend of $1 per share. That payout went ex-dividend just yesterday, which happened to be the last day of the month. Based on the Fortescue share price on Friday, that fully franked dividend of $1 per share equates to a yield of 5.3%. Normally, a 5.3% dividend would be at the upper end of what a typical ASX blue chip would offer as an annualised yield, but that's just for 6 months in Fortescue's case. Fortescue actually paid out $1.76 in dividends for FY20, which equates to a 9.33% yield on Friday's price and a 10.07% yield on today's share price. That's a monster yield in anyone's books.
And that's why Fortescue shares plunged yesterday and gave investors a -2.53% return in August. When a company goes ex-dividend, new shareholders aren't entitled to that payment. Thus, those shares are automatically worth 5.3% less as of the ex-dividend date. That explains Fortescue's plunge yesterday.
Are Fortescue shares a buy today?
You might be looking at that dividend yield and salivating, but are Fortescue shares a buy today for future dividend income? Well, it's worthwhile noting that Fortescue shares are sitting on top of an iron ore price that has climbed to the historically high level of US$120 per tonne. As long as it stays near these levels (or climbs higher), Fortescue will be able to fund the kinds of dividends we have just seen. But iron ore is a notoriously cyclical commodity, and thus there is a significant risk that it will fall back to earth in the short-to-medium term. If and when that does happen, Fortescue's ability to fund these kinds of dividend will dry up.
As such, I'm not too wild about buying Fortescue today at these high prices. I think the best time to buy a cyclical company like Fortescue is when no one else wants to. And even though I might miss out on a year or two of hefty dividend payments, I'd feel far more comfortable buying Fortescue at a low point in the iron ore cycle.
