Income seeking investors should not prefer tech stocks over utilities even though the former may feel like the best. In this post let me discuss some of the reasons for this view.
I came across an article titled “Tech vs. Utilities: Which Is a Better Income Strategy?” by Jeremy Schwartz, Director of Research at WisdomTree Funds. In this piece Mr.Jemery lays out the case for why tech stocks are better to own for the future than utilities that income investors have traditionally preferred.
A few reasons he notes in favor tech stocks are that they pay dividends, dividends are growing and they are buying back large number of their own shares. Below are two charts that are included in the article:
Click to enlarge
Shareholder Yield: Dividend Yield Plus Net Buyback Ratio
Net Buyback Ratio
Source: Tech vs. Utilities: Which Is a Better Income Strategy?, WisdomTree Funds, Oct 31, 2016
Compared to the tech sector, he points out that utilities have been issuing new shares thus diluting existing shareholders.
Despite the arguments put forward by Jeremy investors should not consider tech stocks to be equivalent to or even better than utilities for income. Some of the factors that support utilities over tech stocks are listed below:
- Though large tech stocks are paying a decent dividend now, up until a few years ago most of them did not pay any dividends at all. So they are starting from zero. Hence any dividend by these companies may seem great.
- Moreover most tech companies including Apple(AAPL), Microsoft(MSFT), Cisco(CSCO), Intel(INTC) and IBM(IBM) spend more on stock buybacks than pay out dividends. These buybacks are not equivalent to dividends paid in cash. Buybacks generally do not benefit income seeking investors.
- Utility firms in most US markets are monopolies or oligopolies. Hence it is impossible if not very difficult for other firms like startups to uproot them. This is not the case with tech companies. A startup or another competitor can offer the same or better product or technology making the established players like Cisco irrelevant in the marketplace. So 10 years or 20 years from now there is no guarantee that Cisco or Facebook(FB) or Intel will exist.
- Utilities issuing new shares is raising capital and utilities by definition is a capital-intensive industry.So just because some utilities are issuing new shares and tech firms are buyback shares in the billions does not mean utilities are less attractive to own for yield investors.
In a nutshell, Cisco offering 3.40%, Intel paying 2.99% and IBM yielding 2.67% in dividends is not the same as a similar yielding utility stock. So investors are wise to not rush into these and other dividend-paying tech stocks believing that they are better for the future.
Disclosure: No Positions