By JACK HOUGH
Utility stocks have a reputation for providing investors with plump dividends. Sure enough, the utility sector of the S&P 500 index carries a dividend yield of 4.1%, versus a 2.2% yield for the broader index.
On a $10,000 investment, that's the difference between collecting $410 a year in cash payments and collecting $220 a year, not counting future dividend increases.
There's an important catch, however, and it's one that many income investors won't notice.
Dividends are one of two main ways companies return profits to stockholders. Share repurchases are the other one. With those, companies spend cash to retire shares, thus making remaining shares scarcer and, in theory, more valuable.
But share repurchases have a flip side: share issuance. That involves companies issuing new stock in exchange for cash, or as payment for something. Share issuance makes remaining shares less valuable.
Hence, a company that pays cash dividends to stockholders while consistently issuing plenty of new stock for cash does the equivalent of putting money in an investor's left pocket and taking some out of his right one.
That's just what utilities have been doing, says Jonathan Golub, a stock strategist with investment bank UBS. By his math, the utility sector of the S&P 500 has issued more stock than it has repurchased, raising an amount equal to 0.5% of the value of company shares. Subtract this from the sector's dividend yield, and the result is a 3.5% "total payout yield" (dividends, plus share repurchases, minus issuance).
On the other hand, S&P 500 companies as a whole have been net buyers of their shares. Add their net repurchases to their dividends, and the total payout yield is 5.4%.
That means the aforementioned $10,000 investment in utility stocks really secures just $350 a year worth of shareholder goodies, versus $540 a year in the S&P 500.
Some sectors pay even more. The consumer discretionary sector, made up of stores, media companies, toy makers and more, carries a dividend yield of just 1.6%, but it's apparently ravenous for its shares. Add in repurchases, net of issuance, and the yield jumps to 7%, says Mr. Golub.
Companies issue stock in a few ways. There are secondary offerings, which in some ways resemble initial public offerings like the recent one for Facebook (FB),
It's common for companies to buy back shares and issue them in the same quarter. Some companies, for example, use repurchases to offset the stock dilution that occurs when employees exercise stock options. What matters for investors is whether spending on repurchases is consistently much larger than funds raised by issuance (a promising sign), or whether the reverse is true (a negative sign).
Mr. Golub's team recently ran a screen for companies that have been net buyers of their stock, and that carry "buy" recommendations from the analysts at UBS. I listed four of these in a recent Upside column (see "Where the Stock and Bond Bargains are Hiding." All 10 are listed below.